India faces the dual challenge of sustaining economic growth while meeting climate goals by securing substantial funds for green initiatives. Domestic finance has been crucial, but greater participation from international finance is necessary. The energy transition by small and medium enterprises (SMEs) is essential for achieving net zero by 2070, necessitating innovative financing solutions like blended finance and social impact bonds. Innovations in debt and equity instruments, along with risk mitigation tools such as insurance, are vital for mobilizing funds. Regulatory clarity and reforms are needed to facilitate blended finance and other funding mechanisms. The introduction of a Carbon Credit Trading Scheme by 2026 is a positive step, although further regulatory clarity is required. Additionally, India’s insurance sector must develop metrics and specialized products for climate risk to provide financial protection against extreme weather events.
Domestic and International Finance
Domestic finance has been pivotal in India’s climate spending. According to the Climate Policy Initiative’s 2022 report, domestic sources accounted for 87% and 83% of green finance in India during FY19 and FY20, respectively. While international finance sources increased from 13% in FY19 to 17% in FY20, they are still insufficient to meet India’s net-zero targets. Greater participation from international finance is crucial.
Energy Transition and Financing Innovations
The energy transition by small and medium enterprises (SMEs) is key to achieving net zero by 2070. Accessing finance for SMEs requires a shift from traditional public grants, institutional lending, and philanthropy to exploring blended finance. Social impact bonds offer a funding structure for small-budget initiatives at district, municipal, and state levels. These bonds combine impact investing, public-private partnerships, and outcome-based finance, allowing investors to provide early risk financing for green projects.
Mobilizing funds also requires innovation in debt and equity instruments, coupled with risk mitigation tools such as insurance and guarantees. Reducing systemic risks through well-defined policy and regulatory clarity is the first step to attracting capital. Key instruments such as blended finance funds, carbon credits, and climate insurance must be actively promoted.
Regulatory Reforms and Blended Finance
Raising climate funds is impossible without grants, concessional capital, or enabling blended finance due to the high risk and cost of climate projects. Blended finance structures, which combine public and private funding, help bridge the gap between high-risk climate investments and commercial capital. Effective regulatory frameworks can simplify the complex structures of blended finance, making it easier to assess its impact and efficiency.
The Securities and Exchange Board of India’s restrictions on priority distribution models to combat loan ever-greening have complicated the structuring of blended finance funds. These restrictions particularly affect funds involving junior equity models, which significantly reduce risk for commercial capital. Fund managers should be allowed to set up and operate funds with differentiated distribution models.
Carbon Credit Trading Scheme and Taxonomy
The Centre’s recent announcement to introduce a Carbon Credit Trading Scheme by 2026 is a positive step, which will include both voluntary trading and compliance-based elements. However, aspects such as taxability, classification, and applicable tax rates for carbon credits remain unclear. For instance, the tax on the sale of carbon credits could range from 30% to 10%, or be exempt in certain cases, depending on whether the carbon credit is UN-accredited and whether the company involved has generated the carbon credit as part of its business.
Additionally, there is a need for a detailed taxonomy for climate finance. Effective taxonomies are crucial for determining if investments align with national climate objectives. While the Budget addressed this briefly, it remains insufficient given the uncertainties in sector-wise benchmarks for sustainability and development goals.
Role of the Insurance Sector
India’s insurance sector must rise to the occasion by developing climate risk policies to provide financial protection against the increasing frequency and severity of extreme weather events. Developing metrics and determining risks associated with climate change is urgent. Without appropriate data, launching specialized climate insurance products to mitigate financial and other risks associated with climate change at affordable premiums may not be feasible.
In conclusion, balancing economic growth with climate goals requires a multifaceted approach involving domestic and international finance, regulatory reforms, innovative financing mechanisms, and the active participation of the insurance sector. By addressing these challenges, India can pave the way for a sustainable and resilient future.
