Green bonds and India’s climate ambitions: Challenges and opportunities

green bonds
India's green bond market is still in its early stages, but insurance companies are expected to drive demand due to regulatory requirements.

While India’s entry into the green bond market was hailed as a significant milestone, it appears that it may take some time for investors to fully embrace this concept. The government had introduced 30-year sovereign green bonds with great fanfare as part of the Union government’s borrowing schedule for the second half of the current financial year. However, these bonds have not garnered significant interest from commercial banks, largely due to the absence of clear guidelines regarding environmental, social, and corporate governance (ESG) standards. Nonetheless, insurance companies are expected to drive demand for these bonds due to regulatory requirements.

The Insurance Regulatory and Development Authority of India (IRDAI) took a decisive step in January by categorising investments in sovereign green bonds as investments in infrastructure. These bonds are classified as central government securities, making the insurance sector a natural buyer for green bonds. In fact, insurance companies are mandated to invest a minimum of 15% of their life fund Asset Under Management (AUM) in the infrastructure and housing category as defined by IRDAI. Consequently, green bonds qualify for the infrastructure category, positioning insurance companies as potential key buyers.

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What are Green Bonds

Green bonds are fixed-income investment instruments specifically designed to raise funds for climate and environmental projects, falling under the broader category of socially responsible and environmental, social, and governance (ESG) investments. These bonds carry the same credit rating as the issuer’s balance sheet, similar to other debt obligations. Often referred to as climate bonds, they function much like corporate or government bonds, serving as a means for borrowers to secure financing for projects such as ecosystem restoration or pollution reduction.

In an era marked by increasing instances of extreme weather events attributed to climate change and global warming, green bonds play a crucial role in efforts to combat climate change. They have already emerged as a significant financial tool in the fight against climate change.

India has successfully utilised green bonds to support climate change adaptation, with countries such as Colombia, Egypt, India, and Indonesia among the 19 emerging-market nations funding renewable energy and mass transit projects through green bonds, according to the World Bank.

The Indian government has set ambitious goals, aiming to raise up to Rs 20,000 crore in the current fiscal year through sovereign green bond issuance to fund investments in solar, wind, and hydel projects. The first tranche of India’s green bond issue primarily attracted subscriptions from local banks and insurance companies, with foreign investors showing reluctance due to uncertainties regarding the benefits of investing in green bonds.

Given India’s high vulnerability to climate change, there is an urgent need to mobilise capital for both climate change adaptation and mitigation efforts. According to the International Energy Agency, India requires investments amounting to $1.4 trillion to develop its clean energy infrastructure and meet global climate targets. Green bonds represent a significant step toward securing this funding.

In line with the Reserve Bank of India’s (RBI) current fundraising target, the green bond issuance will consist of Rs 10,000 crore of 30-year green bonds, in addition to Rs 5,000 crore each of bonds with 5-year and 10-year maturities. The funds generated from this sale will be allocated to public sector projects aimed at reducing the carbon footprint of the economy and addressing climate change.

Challenges in Green Bond Sales

Despite the government’s ambitions regarding green bond sales, these bonds have yet to gain traction among investors who remain sceptical about their benefits. A senior government official previously expressed concerns, questioning the rationale behind issuing green bonds with numerous conditions if they offer the same returns as other bonds. Companies that have expressed interest in green bonds are unwilling to accept lower yields. To stimulate interest in green bonds, the government must offer incentives to buyers, such as higher yields or tax breaks, which is not presently the case.

Currently, there is limited acceptance of green bonds within the domestic market, and participation has primarily been observed from institutions seeking to demonstrate their commitment to environmental responsibility. Furthermore, the sustainability-linked bond market has slowed down amid rising global interest rates, resulting in reduced issuance of debt for climate projects. This shift marks a departure from previous years when governments and companies were able to secure funds for green initiatives at attractive rates. Providing incentives to investors, such as higher yields or tax incentives, is likely to attract interest in green bonds. Until then, green bonds will remain an idea with great potential but limited real-world impact.

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Anil Nair is Founder and Editor, Policy Circle.