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Sustainable finance, green finance, and climate finance are interconnected concepts that aim to create a more environmentally conscious and responsible financial system
The Union Budget 2024 places a strong emphasis on climate action, reflecting India's commitment to sustainable development under the ‘Viksit Bharat’ initiative. A key aspect of the budget is the development of a taxonomy for climate finance, which is crucial for channelling capital towards climate adaptation and mitigation efforts. Understanding terms related to sustainable finance and investment is becoming increasingly important, as they represent a broader shift towards integrating sustainability into financial strategies. These terms reflect a broader commitment to integrating sustainability into financial strategies, ensuring that investments align with long-term ecological and economic objectives.
Sustainable finance refers to the integration of environmental, social, and governance (ESG) considerations into financial decision-making, aiming to create long-term value for both investors and society. It seeks to balance financial returns with positive social and environmental impacts, supporting projects and companies that contribute to a more sustainable future. Sustainable finance encompasses various approaches, including responsible investing, impact investing, and ESG investing, to promote a more equitable and environmentally conscious financial system.
Green finance refers to the use of financial instruments, mechanisms, and investments to support environmentally friendly projects, companies, and initiatives, with the goal of promoting sustainable development, reducing environmental risks, and mitigating climate change. This includes channelling funds into renewable energy, energy efficiency, green infrastructure, sustainable agriculture, conservation, and climate change adaptation and resilience. Green finance includes green bonds, impact investing, environmental, social, and governance (ESG) investing, sustainable loans, carbon credits, green equity, and venture capital. According to London Stock Exchange Group’s ‘Investing in Green Economy’ report, the global green economy now boasts market capitalisation of USD 7.2 trillion, positioning it as the 'second best-performing industry' worldwide over the past decade.
Climate finance encompasses various financial sources, including public, private, and alternative funding, aimed at supporting global efforts to address climate change through mitigation and adaptation measures. This financing is crucial for reducing greenhouse gas emissions and adapting to the impacts of a changing climate. The United Nations Framework Convention on Climate Change (UNFCCC), the Kyoto Protocol, and the Paris Agreement emphasise the need for financial assistance from developed countries to developing ones, acknowledging the disparate contributions to climate change and capacities to address its effects.
Sustainable finance is a broader term, encompassing environmental, social, and governance considerations. Green finance is a subset of sustainable finance, focussing exclusively on environmentally friendly investments like renewable energy, green infrastructure, and eco-friendly technologies. Climate finance is a narrower subset of sustainable finance, targeting investments that mitigate or adapt to climate change. In essence, all climate and green finance is sustainable finance, but not all sustainable finance is climate or green finance.
In addition to sustainable finance, green finance, and climate finance, there are several other key terms related to climate that play a crucial role in climate investments.
Blue finance is a specialised subset of green finance, focussing on the conservation and sustainable use of ocean and water resources. It protects marine environments, promotes sustainable fisheries, and manages water resources effectively. Investments in blue finance support projects like marine protected areas, sustainable aquaculture, and innovations in water management. This is critical for maintaining biodiversity and supporting coastal communities.
The Sustainable Blue Economy Finance Principles guide how blue finance can align with Sustainable Development Goal (SDG) 14 (‘Life Below Water’). With an annual economic value estimated at USD 2.5 trillion, ocean-linked sectors, or the ‘blue economy,’ is equivalent to the world’s 7th largest economy.
Socially responsible investment (SRI) is an investment approach that considers both financial returns and social or environmental impact. It involves investing in companies or projects that align with ethical values, such as environmental sustainability, social justice, human rights, labour standards, and community developments. SRIs aim to generate positive social or environmental outcomes alongside financial returns, excluding or selecting investments based on non-financial criteria. This approach encourages companies to adopt responsible practices, promoting a more sustainable and equitable future.
Impact investing refers to the practice of investing in companies, organisations, or funds with the intention of generating both financial returns and positive social or environmental impact. This approach seeks to align investors' values with their investments, creating a dual benefit.
E.g., A company like Vestas, a leading manufacturer of wind turbines, receives funding from impact investors who support renewable energy and want to reduce carbon emissions. By investing in Vestas, these investors aim to earn financial returns through dividends or capital appreciation while contributing to the transition to clean energy and mitigating climate change.
The impact investor's funding supports Vestas' growth and expansion, which in turn helps to increase the adoption of renewable energy sources, reduce reliance on fossil fuels, and decrease greenhouse gas emissions.
Sustainability reporting involves publicly disclosing an organisation's economic, environmental, and social impact, as well as its progress towards sustainability goals. It provides stakeholders with transparent and accountable information on the organisation's performance, enabling them to make informed decisions. Sustainability reports typically cover aspects such as environmental performance (e.g., energy use, emissions, waste), social responsibility (e.g., labour practices, community engagement), governance (e.g., ethics, transparency, board diversity), and economic performance (e.g., financial results, supply chain management).
In conclusion, sustainable finance, green finance, and climate finance are interconnected concepts that aim to create a more environmentally conscious and responsible financial system. As the world grapples with climate change, social inequality, and environmental degradation, these approaches offer a pathway to a more sustainable future. By integrating these principles, India can effectively mobilise resources needed to combat climate change, build resilience, and secure long-term prosperity for its economy and people.
This article first appeared in Outlook Business on 16 September 2024.