Green Deposits: Existing Framework and the Path Ahead

The use of green deposits in infrastructure banking and finance is a growing challenge, with a lack of awareness among individuals and institutions about its availability and benefits. Additionally, there is a need for more product offerings to be made available to investors and for the Indian government to commit to sustainable development. Green deposits can provide an avenue for investors to invest in these projects and help to promote sustainable development in India.

Introduction

Infrastructure is the backbone of any economy. In India, the need for infrastructure development is necessary due to the country’s large population and fast-paced urbanization. However, infrastructure development projects require large amounts of capital, which is always challenging. This is where infrastructure banking and finance come into play. Infrastructure banking and finance refer to the financial services provided to fund large infrastructure projects. In this context, green deposits serve a crucial purpose as a new source of capital for sustainable infrastructure projects. 

SEBI Circular

The Business Responsibility and Sustainability Reporting (BRSR) framework released by the Securities Exchange Board of India (SEBI) through a circular dated May 10, 2021, is expected to promote responsible business practices and encourage companies to invest in sustainable initiatives. The framework seeks to boost the demand for green bonds in India, which can provide a new source of capital for infrastructure projects and promote sustainable infrastructure development. However, it only applies to certain companies, such as listed companies and certain unlisted companies that meet specific criteria. The BRSR framework was voluntary in nature, and companies were not required to comply with it till FY 2021-22. However, it is made mandatory from FY 2022-2023 and hence, would have a positive impact on the environment, society, and the economy in the long run. By promoting transparency and accountability, the framework would improve their overall performance.  Financing energy-efficient projects through green deposits under public-private partnerships (PPPs) is an effective way to promote sustainable development and reduce the negative impact of energy consumption on the environment.

Green deposits can be utilized to finance the construction of energy-efficient buildings, including the installation of energy-efficient lighting, heating, and cooling systems, and the use of sustainable building materials thereby contributing to sustainable development as also envisaged by the Indian Government through a few of its projects. For example, the Centre’s Smart Cities Mission aims to develop 100 smart cities across the country, with a focus on sustainable development and the use of green technologies. Under this mission, several cities have launched projects to develop energy-efficient buildings, including green buildings, with support from the government and private sector partners.

The Hyderabad Metro Rail Limited (HMRL) is a classic example where HMRL collaborated with a private sector developer (Larsen & Toubro) to construct energy-efficient buildings at the metro stations in Hyderabad. The project involved the installation of energy-efficient lighting systems, rainwater harvesting systems, and solar panels to generate electricity[1]. Green deposits were utilized to finance the project, with the government providing guarantees and incentives to attract private-sector investment.

RBI’s Framework on Green Deposits

In recent years, the Reserve Bank of India (RBI) has taken several steps to promote sustainable finance and energy. One such initiative is the introduction of the RBI’s framework on green deposits, which was issued in April 2023. This framework provides guidelines for banks to offer green deposits to investors, with the aim of promoting investment in environmentally sustainable projects.

The RBI framework provides a clear definition of what constitutes a green deposit. According to the framework, green deposits must be used to finance projects that positively impact the environment, such as renewable energy projects, energy efficiency projects, and projects related to sustainable water management[2]. This clarity helps investors in making informed decisions and ensures that funds raised through green deposits are used for environmentally sustainable purposes.

Further, it encourages banks to adopt best practices in environmental risk management. This includes conducting environmental due diligence on potential projects, monitoring and reporting on environmental risks associated with green deposits and integrating environmental risk considerations into the bank’s credit risk assessment process.

One of the limitations of the RBI’s framework on green deposits is that it does not provide any incentives for banks to offer green deposits. While the framework encourages banks to offer green deposits, there are no financial or regulatory incentives for doing so.

Suggestions

In order to make green deposits successful, some tax incentives can be offered to encourage individuals and businesses to invest in green deposits. Some examples of tax incentives that can be given for green deposits include tax deductions, tax deferrals, reduced capital gains tax rate and income tax rate, etc.

The RBI’s green deposit framework includes concessional treatment of liquidity coverage ratio (LCR) and priority sector lending (PSL) requirements for banks that mobilize green deposits, which could help reduce interest rates and capital gains. This can encourage investors to hold on to their investments for a longer period, which can be beneficial for green projects.

Carbon credits are a type of tradeable permit that allows the emission of a certain amount of greenhouse gases. They can be given to green deposits to incentivize investments in projects that reduce carbon emissions or sequester carbon from the atmosphere. Once the project has been certified, the credits can be issued based on the amount of carbon emissions sequestered. The investors may be granted a carbon credit per ton reduced if they invest in the project. Such credits could be sold or traded on the carbon market, providing an additional source of revenue to investors.

The National Clean Energy Fund (NCEF) and other schemes of the government could also be financed with the help of green deposits under public-private partnerships (PPP) in several ways, namely: –

  • Equity Investment

Green deposits can be used to provide equity investment in PPPs that are aimed at promoting clean energy and sustainable development. This type of investment can provide long-term financing for PPP projects and can help to attract additional private sector investment.

  • Debt Financing

Debt financing can be extended to PPP projects through green deposits. This can be done through loans or other financial instruments that offer lower interest rates and longer tenors than traditional commercial loans. This type of financing can help to reduce the cost of capital for PPP projects and make them more attractive to private sector investors.

  • Risk Mitigation

Green deposits may be utilised to provide risk mitigation instruments to PPP projects. For example, they can be used to provide guarantees or insurance products that protect investors from potential losses due to project delays, cost overruns, and other risks. These instruments can help to reduce the perceived risk of PPP projects and attract more private sector investment.

  • Green Bonds

Green bonds that are backed by PPP projects can be issued through green deposits, to be marketed to socially responsible investors. Such bonds can act as a long-term source of financing for such projects and the proceeds from these bonds could be used to finance clean energy infrastructure and other sustainable development initiatives.

  • Technical Assistance

Conferring technical assistance to PPP projects is possible with the help of green deposits and this includes support for project development, feasibility studies, and other activities that help to build the capacity of projects and attract private sector investment.

Therefore, these mechanisms can help to accelerate the development of clean energy infrastructure and support the transition towards a low-carbon economy, while also attracting private sector investment to support sustainable development initiatives in turn providing financial support and incentives for renewable energy and sustainable development projects. Companies could also choose to invest in such projects using their CSR funds, potentially indirectly incentivizing green deposits.

Conclusion

The RBI’s framework on green deposits is a positive step towards promoting sustainable finance and encouraging banks to adopt environmentally sustainable practices. The framework provides clear guidelines for banks to offer green deposits and encourages them to adopt best practices in environmental risk management. However, the lack of incentives for banks to offer green deposits may limit the framework’s effectiveness and the RBI may need to consider providing financial and regulatory incentives for the same.

References:

[1] Anil Nair, Green Bonds for Sustainable Urban Transport in India

Available at https://www.janaagraha.org/files/Green_Bonds_Sustainable_Urban_Transport_India_1217C1.pdf

[2] Ravi Meena, Green Banking: As Initiative for Sustainable Development

Available at – http://www.ripublication.com/gjmbs.htm

Image Credits:

Photo by DAPA Images: https://www.canva.com/photos/MADFHHnnRyY-money-and-investment-growth/

Green deposits can be utilized to finance the construction of energy-efficient buildings, including the installation of energy-efficient lighting, heating, and cooling systems, and the use of sustainable building materials thereby contributing to sustainable development as also envisaged by the Indian Government through a few of its projects. For example, the Centre’s Smart Cities Mission aims to develop 100 smart cities across the country, with a focus on sustainable development and the use of green technologies. Under this mission, several cities have launched projects to develop energy-efficient buildings, including green buildings, with support from the government and private sector partners.

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Why Businesses Should Focus on ESG?

The world has changed in many fundamental ways especially in the last 25 years. I am not referring to technology-led transformation or geopolitical shifts, this piece is about Environmental, Social and Governance criteria – collectively referred to as “ESG”.

Environmental Criteria

 

Environmental costs, which were for long viewed by economists as “externalities”, are now an important consideration in decision-making by governments and business leaders. Given the devastating effects of widespread environmental degradation and climate change, countries around the world are taking concrete actions to limit further damage; many are setting “net zero” emission targets for individual sectors over the next couple of decades. As a result, new legislations are being enacted that require businesses to act in certain ways and desist from other kinds of actions. Arguably, this is the biggest facet of change globally.

Social Criteria

 

The second area of change is that various forms of social injustice are no longer being tolerated. While there were always rules against such inequities, there is now a greater cost imposed on organizations that violate these rules- not just by governments and regulators, but also by consumers, who choose to shift loyalties towards brands that exhibit greater sensitivity to social causes. By definition, social injustice covers a broad range of issues that includes exploitation of children, women or certain races (e.g., the Uighurs); not providing employees good working conditions (physical environment, denying employees time for bio-breaks and rest, harassment at the workplace etc.); discrimination against people with disabilities, gender, age or marital status; even selling goods that are not safe or bad for health arguably fall under this category.

Governance Criteria

 

The thrust on “governance” is the third major driver of change. It is not as if rules and regulations did not previously exist to prevent breakdowns in governance. Yet, there are a number of examples from around the world that showcase bad governance: from companies in South Korea, Japan, the USA and Europe to the ongoing matters at the NSE and BharatPe in India.

 

Why ESG Adoption is Crucial?

 

In recent years, various members of business ecosystems worldwide, including enterprises, investors, regulators and the general public have become far more aware of the importance of compliance with “ESG” norms and standards. They are much less willing to tolerate breaches in an organization’s “ESG” conduct.

At one level, companies that do not do well on “ESG” parameters are more likely to face explicit financial penalties (e.g., carbon taxes). But just as important are the hidden costs that will increasingly need to be borne by ESG laggards. Perhaps the most important is the reduced access to capital because both banks and PE/VC firms are incorporating ESG criteria into their funding/ portfolio strategies.

On the demand side, many consumers (especially from the younger generations) are more conscious of brands that fare better in terms of their commitment to ESG and this, in turn, shapes their purchase decisions. Brands can quickly lose market share if they do not raise their ESG game.

As shown in the chart below, data over the past decade reveals that companies that have successfully implemented ESG strategies have consistently performed better than other global companies that have not paid as much attention to ESG.

 

Source: Stoxx.com quoted in https://sphera.com/spark/the-importance-of-esg-strategy/

This out-performance can be attributed to a combination of factors, including faster top-line growth, sustained cost reductions, higher employee productivity and reduced employee attrition and of course, fewer instances of fines/penalties for non-compliance. Investment decisions and technology choices that are guided by ESG considerations will drive a more efficient allocation of capital; in turn, this will boost ROCE (Return on Capital Employed).

While it is convenient to look at the three strands of ESG separately, in reality, they are closely intertwined. The sooner business leaders acknowledge that ESG is not a fad or a feel-good factor, but in fact, makes sound business sense, the better it is for the world as a whole.

 

Start Your ESG Journey Right Away

 
Someone quipped that the best time to plant more trees was years ago, but the second-best time is now! It’s not too late for you to begin your ESG transformation. But make sure you do it as a well-structured program, and not merely a hotch-potch of initiatives that have no clear owners, goals or measures and therefore cannot be sustained.

 

To report ESG performance, you can take the help of commonly used frameworks such as the following:

  • UN Sustainable Development Goals (SDGs)
  • Global Reporting Initiative (GRI)
  • Sustainability Accounting Standards Board (SASB)
  • Climate Disclosure Standards Board (CDSB)
  • Task Force on Climate-related Financial Disclosures (TCFD)

Image Credits: Photo by Photo Boards on Unsplash

While it is convenient to look at the three strands of ESG separately, in reality, they are closely intertwined. The sooner business leaders acknowledge that ESG is not a fad or a feel-good factor, but in fact, makes sound business sense, the better it is for the world as a whole.

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