India is a signatory and strong advocate for the United Nations Framework Convention on Climate Change (UNFCCC), and the only large country on track for emissions reduction as agreed under the Paris convention. These transitions are expected to be net positive for the economy from cleaning up the emissions, creating new jobs, and fostering economic growth. International Energy Agency (IEA) estimates that India will need to invest USD 1.4 trillion over the next 20 years in this process.
Transition to clean energy will require financing which can meet these large investment needs. Such investments include technologies that may be (a) nascent and hence susceptible to failure even after deployment of significant capital, (b) expensive and hence unaffordable by the citizens and consumers of some countries, or (c) simply too novel or patent-protected for seamless transfer between various nations. Green Financing requires finding the right capital willing to take risks of failure, or willing to underwrite relatively lower returns, or bundle technology together with financing.
We look at three Cs of green financing.
Countries are committing to Net Zero targets over the next three to four decades. As we head into the 26th meeting of the Conference of Parties (COP26) later this year, pressure on such commitments by countries will increase. These thoughts have echoed on global negotiating table for many years, especially at Cancun COP in 2010 where the communique said: “[I]ndustrialized countries committed to provide funds rising to USD 100 billion per year by 2020 to support concrete mitigation actions by developing countries that are implemented in a transparent way. These funds would be raised from a mix of public and private sources.”
The Green Climate Fund (GCF) was hence created. Per its 2020 annual report, the stock inflow pledged (over the years of its operations till date) is ~USD 10 billion and the projects financed are ~USD 7.5 billion. This is possibly a slower start than expected in Cancun. The recent change in political priorities towards climate change around the world means that funds like GCF could see renewed large inflows. Such funds can become appropriate conduit for financing high-risk or long gestation technologies in developing countries.
Similarly, the Global Environment Facility (GEF) was set up by 40 donor countries including US, UK, Germany, France, and Australia has so far funded 78 projects worth USD 570 million in grants and USD 4.8 billion through co-financing in India.
Large fossil fuel companies have been in the news lately due to shareholder votes on climate change or court rulings directing them to be aggressive in reducing their carbon footprints. Globally, regulations on emissions are becoming tighter. Surveys show that the young, millennial consumer is more willing to back products of companies that are environmentally conscious. With such social, political, and financial tailwinds, companies are naturally gravitating to Green Frontier technologies.
This presents a fork-in-the-road for companies in fossil fuel industry. They have investments which continue to generate free cashflows which cannot be deployed back into the same industry. They can either return the cash to the shareholders or they can invest in new green technologies or companies. For companies wanting to head down to net-zero, returning cash to shareholders is not a material option – their products and processes will continue to spew out emissions and hence going to net zero requires investment in technologies that reduce carbon from atmosphere. Companies like the Dutch Ørsted are transitioning from an oil company to an offshore wind company with shareholders accepting lower returns.
Such companies, egged on by regulations and investors, can offer both venture capital for new technologies and muscle power for deploying technology quickly across the globe. An example of this is the Oil and Gas Climate Initiative (OGCI) Climate Investments USD 1 billion+ fund with a portfolio of 19 investments across low-carbon technologies. The fund is supported by some of the largest oil and gas companies including Aramco, BP, Chevron, Exxon, and Shell.
As countries move towards net zero, they will hit binding constraints on the carbon that companies (or consumers) in such countries can emit. To keep to their commitments, countries will need to move to some version of cap-and-trade systems: certain units of emissions will be available within the country and if companies need to exceed that, they will need to buy “carbon credits” from firms within or outside. This system has been working, especially in Europe, where the prices have now reached EUR 50 per ton of carbon.
To put this number in perspective, the total carbon-equivalent emission in the world is approx. 50 billion tons a year. If each unit of carbon emission were to be valued at current prices, this amounts to USD 2.5 trillion a year. We do not set much store with this number as it is volatile and subject to many adjustments – the idea is to get a sense of magnitude here. As emission quotas come down, prices can rise further even as the emissions themselves come down. Such carbon markets can create significant resources for transfer between countries – making many projects viable in developing countries. Global agreements like Kyoto Protocol need to be put in place to get this market moving.
Role of policy
The large funding requirements in India require support from policy makers to crowd-in private investment from all the above three sources. Policy innovation is required in: (a) identifying technologies that work for India and nurturing them into viable businesses, (b) executing fair and just transition plans for impacted people and industries, and (c) enabling new instruments and sources of capital from the 3Cs above for financing to flow more efficiently.
As India moves to its aim of a cleaner, greener USD 5 trillion economy, a roadmap of attracting Green Finance needs to be put in place.
The author is with National Investment and Infrastructure Fund (NIIF). Views are personal. The author thanks Anya Bharadwaj for her research support in the article.