Banking beyond weather reports: Why lenders need a green business strategy

Indian lenders have yet to train their employees to assess credit risks arising from climate change

The latest Financial Stability Report (FSR) of the Reserve Bank of India (RBI) has highlighted two major challenges arising from climate-related events — recalibrating operations and business strategies to support the green transition, and strengthening resilience in the face of rising vulnerability. This observation comes even as Mint Road’s green taxonomy is in the works.

An issue which has not received enough attention is the lack of ESG (environmental, social, and corporate governance) shepherds, among lenders. There is no legacy expertise to fall back on. The sums involved are huge. The average annual investment for the transition to net-zero emission by 2050 is projected at $5 trillion (estimates range from $1.9 trillion to $ 9.2 trillion) over the next three decades. The Council on Energy, Environment and Water has estimated that investments of $10.1 trillion will be needed to meet India’s net-zero commitments by 2070.

“We in India are particularly vulnerable to climate-change-related physical risks; and hence, there is a need to be more alive to the urgency of action given our long coastline, high share of fossil fuels in energy systems, and relatively high dependence of rural livelihoods on agriculture,” said RBI Deputy Governor M Rajeshwar Rao at the Business Standard BFSI Insight Summit in Mumbai in December 2022.

How prepared are we? The RBI survey, Climate Risk and Sustainable Finance (July 2022), was not encouraging: board-level engagement on climate risk and sustainable finance is inadequate; in about a third of the banks surveyed, responsibility for overseeing initiatives related to climate risk and sustainability had yet to be assigned; and only a few banks have ESG key-performance indicators in the evaluation of their top management. A majority of banks did not have a separate business unit or vertical for sustainability and ESG-related initiatives.

Only a few had a strategy for embedding ESG principles in their business, scaling up their sustainable finance portfolio, and incorporating climate change risks into existing risk management frameworks. 

The latest RBI Report on Currency and Finance (a special edition on climate change) noted that in order to increase green lending, banks would need to invest in up-skilling human resources for the entire gamut of the credit appraisal system. And the difference between climate and non-climate issues are in the time horizons — the former are usually for longer periods (30 to 80 years). Add the fact that it is difficult to rely on traditional risk quantification techniques, and past data may no longer be sufficiently representative of extreme climate events ahead.

Along with the taxonomy, regulated entities (REs) can expect regulatory and supervisory moves. Rao said as much in his December 2022 speech — regulators may need to fine-tune existing prudential policies to integrate climate risks. And from a supervisory perspective, expectations may have to be set and communicated to REs, covering organisational strategy, governance, and risk management.

While the twin meetings that Mint Road held with the boards of state-run and private banks in New Delhi and Mumbai (on May 22 and 29) did not specifically refer to ESG concerns, these could figure in the coming months. More clarity could emerge after the G20 New Delhi summit in September.

Gearing Up the Workforce for a Green Economy, a report by the Skill Council for Green Jobs and Sattva Consulting, and supported by JPMorgan, said India has the potential to create up to 35 million green jobs by 2047, across traditional and emerging sectors. The transition will be critical.

So far, no lender has articulated a green business strategy. The RBI can be expected to nudge REs to get their key management personnel (and employees) sensitised to ESG concerns, and perhaps even make a case for a chief green officer. Perhaps it is time to set up a body on the lines of The Chartered Banker Institute in the United Kingdom — a not-for-profit educational charity that aims to enhance socially purposeful, responsible, professional banking in the public interest.

The Centre for Advanced Financial Research and Learning — an autonomous body set up by the RBI — could take up this task. Or, Mint Road can launch wider consultations: last week, the Monetary Authority of Singapore launched a public consultation on an industry code of conduct for providers of ESG ratings and data products.