India-EU Track-II Dialogue First high-level meeting of the Finance Working Group

15 Sep 2022
Shubhi Goel, Soham Banerjee, Lola VALLEJO, Anna PEREZ-CATALA

The first high-level meeting of the India-EU Track II dialogue on Finance Working Group jointly curated by TERI, Institute for Sustainable Development and International Relations (IDDRI) along with the European Climate Foundation (ECF) took place successfully on December 16th, 2021. The meeting was attended by over 10 experts representing leading think tanks, industry and academia from India and the EU, who have been instrumental in driving climate action in both regions.

Key takeaways

There are some of the preliminary takeaways from the discussion which are as follows:
1. Creation of a taxonomy that is science based. It has to contemplate local specificities, but also be structured in a way that allows global coordination. Potential role of the International sustainable finance platform to facilitate this coordination.
2. There is an appetite for capacity building and sharing of best practices on disclosure for companies
3. More investment needed for SME & adaptation projects
4. Role of central banks in integrating climate change in financial regulations

The discussion revolved around four key points that all the experts focused on are as follows:

1. De-Risking/ Lowering the cost of capital

  • Managing risk in finance also brings out the need to focus on developing human capital.
  • The hedging market is shallow in India and there is a need to ensure how can compatible hedges be provided. As of now, hedging cost is 6% which is high and needs to be reduced if the emphasis is on de-risking the capital. Also, there is a need for financial instruments to subsidize hedging, so that it can be reduced to 50% i.e. down to 3%. The one way to reduce this is a collaboration with EU; this is still a question if subsidies from EU would help to reduce the hedging cost.
  • Since hedging costs and currency conversion are making projects costly and risky therefore need to explore the financial strategy of the EU is vital, where EU also wants to become a more global player. There could be a coalition of countries that will benefit from EU solutions and cooperation.
  • The capital cost is high and the operating cost is low in India. So, there is a need of lowering the cost of capital as this could lead to a boom in the projects. However, India’s risk rating is high, and could be higher with the climate intensifying. Hence, has to pay contingency costs because of higher risk. Therefore, partial risk guarantees can be one mode that can help in reducing this cost/loss.
  • The health of public institutions is not great in India, so people doubt the ability to pay for public institutions. The question that was raised was if we can do something to increase this ability to make payments and involve public institutions as well.
  • Cost of capital leads to high level of market risk and this will get worse if we integrate climate change into financial decision-making. The mathematical solutions won't solve this problem alone, there needs to be a complementary political signal, and more public financial support to drive finance in the good direction.
  • Pension and insurance agencies should come up with affordable insurances as this would reduce the cost of capital.
  • It was also mentioned that the demonstration of investment in an emerging economy needs to be portrayed as safe and secure for lowering the capital cost.

2. Leveraging large funds

  • There is a need of creating high-level signal and architecture as rule for mobilizing finance. There is a need for a task force to change international architecture to make these signals more possible.
  • A facility could be created where MDBs lend us their rating to go into the facility to raise bonds for climate finance –therefore the MDBs could be one factor that could help to reduce the cost of the bonds.

3. Capacity building

  • It is difficult for SMEs to access finance for taking actions hence there is a need of collaboration and capacity building to help SMEs as they are a big part of the Indian economy.
  • In reference to SMEs, even EU does not have an answer which was part of discussion. However, with the Sustainable finance strategy, SMEs could become clearer actors, therefore EU experts suggested that it is a good moment to intertwine in the sustainable finance debate.
  • It is important for the private sector to step up in terms of capacity building for climate finance in India. However, the biggest challenge that lies in this proposition is the lack of expertise in this particular area. Hence, a collaboration with the EU will help enhance capacity building for climate action in India.
  • Another issue that can be enhanced with capacity building is the lack of understanding of risk which will also enhance the number of experts in the field.
  • Adaptation finance has a lot of potential in the global climate action, which however needs to be mainstreamed as private sector at the moment does not have proper knowledge of adaptation finance.

4. Taxonomy

  • Trying to mobilize finance through taxonomy that defines what is green is a very European paradigm. However, more than 20 countries in the world have taxonomy now but on the disclosure side, EU is a bit further because of G7 and G20 meetings which are pushing them forward to take actions shortly. Hence, a point was raised in the discussion that the US should also have the taxonomy; however, there is no signal from them yet. Also, there are other paradigms in which central banks and financial regulators are integrating climate change in financial regulations.
  • Green bonds are a good example of a better way to use taxonomy. The EU has created a green bond standard but has not yet used it because there are lot of questions on integrity and credibility in green bonds hence; they are also working on improvising the standards. However, a good take from UK is that they have already started issuing green bonds, and will use its taxonomy to define them.
  • It was highlighted that Taxonomy’ should not apply filters, as that would keep emerging markets out of financial flows. Even though, EU taxonomy has been accepted in a lot of jurisdictions they still lack the specificities for different regions. This meant that though taxonomy defines “what is green” but according to different regions it could be different for example, if nuclear is green or not is still to be defined.
  • There are a lot of countries developing their own taxonomy, therefore in some years, they will have many different taxonomies. We need to create a platform or instrument that will0 serve the global market. The International Platform for Sustainable Finance could be used to help countries unify.
  • It was also discussed that it will be impossible to make one taxonomy because there will be local specificities as well which need to be considered. Therefore, harmonization needs to enable comparison between specificities. The example of the Common taxonomy China-EU where different economies with specific characteristics are defined, and also identified investments that are green for both economies. It provides a benchmark or a methodology to easily compare.
  • For taxonomy, the highlighted solution was to act at the local scale, in a broad level of economy, in a way that provides guidance and confidence. The risk of investment on sustainable projects suppresses action, and taxonomy could be treated as de-risking.

Way Forward:

1. To finalize a briefing paper on possible areas of collaboration on finance for Track 1 discussions next year (including India-EU Leaders’ meeting).

2. To organize the first high-level meeting of the Industry working group during the first week of February 2022.

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