Green finance: Taxonomy, a clear legal definition keenly awaited

Even as the central bank is drawing up taxonomy for this emerging business, the degree of awareness at bank board level could be the weakest link yet

In January this year, John Kerry said: “Let’s face it, (a) whole bunch of companies in the world have chosen to say, ‘I’m going to be net-zero by 2050’. And you and I, we know they don’t have a clue on how they’re going to get there. And most of them are not on track to get there.” The United States special presidential envoy for climate (and former secretary of state) was addressing an audience at the World Economic Forum in Davos this year.

Kerry may have been exaggerating to get his point across. But the fact is that the approach to green finance and all that is associated with it has little by way of legacy to fall back on. Take the Hong Kong-based Asia Securities Industry & Financial Markets Association’s first “Green Taxonomy Survey” released in December last year: 75 per cent of the respondents said they were using a taxonomy (or scheme of classification) with the “EU Taxonomy of Sustainable Activities” being the dominant. Most anticipate implementing a blended taxonomy model to create an internal standard. But, the survey respondents said, beyond regulatory obligations, issuer, borrower or investor expectations would be key factors in determining which taxonomy they would use. This is basically an “a cut-and-paste” way of going about it.

In India’s context, the Reserve Bank of India’s (RBI’s) taxonomy, which is in the works, and how regulated entities go about it will be critical. That’s because one of the weakest links is the degree of awareness at the lenders’ board level.

In July last year, the RBI’s “Report of the Survey on Climate Risk and Sustainable Finance” noted that in the majority state-run and private banks, the boards had not discussed climate and sustainability-related risks and opportunities. This was in sharp contrast to (the surveyed) foreign banks, which had taken on board the need to raise awareness on these matters; and were aware of the need to enhance lending and investment towards sustainable finance.

At the board level, not all lenders will be in a position to get knowledgeable people. This is because of the intense scrutiny on independent directors in recent times; and the far lower levels of compensation payable to them (when compared with non-banks). The latter aspect is due to the fact that the RBI does not permit part-time directors of banks to be paid remuneration other than sitting fees even though the Companies Act permits up to one per cent of a firm’s profit to be paid as commissions to board members.