Sustainable Banking – Time To Act Like A Responsible Lender

Transition to a green economy which banks cannot ignore

Failure to mitigate Climate change and failure of climate-change adaptation are the top risks in a 10-year time horizon, according to the World Economic Forum Global Risks Perception Survey 2022-2023, released last month. India is one of the most vulnerable countries to climate change. In addition, the economy is transitioning in the path of decarbonization, which has significant implications for several segments of the economy. It will reward companies and industries that are less carbon-intensive and penalize carbon-intensive ones. Commercial banks not considering these material changes in the economic structure will lag peers. Network for Greening Financial System (NGFS), a network of supervisors and financial regulators, has cautioned the banking sector about this imminent climate risk that could potentially destabilize the financial system. Reserve Bank, a member of NGFS, has cautioned banks and other regulated entities several times in recent times and guided how banks can respond to this imminent risk.

Corporate banking – A massive opportunity

While it is critical for banks to consider climate change in their lending activities and risk management, banks also find a massive lending opportunity. According to various agencies, India needs to invest ~$12 trillion to reach net zero in the next 30-40 years. The opportunity is across the energy system, including renewable energy generation and manufacturing, transmission and distribution, battery storage, green hydrogen, and clean transportation. The opportunity is across corporate lending products, including corporate loans, project finance, supply chain finance, and transition finance. While banks are lending to heavily renewable energy generation the other energy segments are still not considered safe for banks. However, a few banks and financial institutions are coming up with creating innovative models to lend to new segments such as renewable energy securitization and renewable energy YieldCo (called InviTs in India) that banks can use to increase their fee and funded-based income.

Retail banking – expand green product offering

There is a massive retail lending opportunity as consumers prefer to by climate-friendly products. These retail loans can be electric vehicles (EV) or combining rooftop solar as a part of home loans or green homes. Banks can create financial solutions that could be different from their existing loan products as customers in the clean energy industry are different and business models of this industry can also be different. Several Indian banks have rolled out green deposits aimed at raising capital specifically for environmentally friendly projects.

Banks may offer loans for green buildings with better terms and incentives; there is also evidence in developed markets the probability of default on green buildings is lower compared to conventional buildings. The other products can be less-polluting and less-carbon-intensive EV loans. Although EVs are capital-intensive, their operating costs are significantly less than combustion vehicles, resulting in financial savings for the users. The other product retail product offerings could be cash rewards, loyalty programs, etc., to incentivize borrowers to buy green products. Additionally, there are further products banks can introduce to expedite the proliferation of green offerings already in place.

Retail consumers also need technical and financial advice on the usage of these climate friendly products. Consumers may prefer banks, thanks to long-standing relationships, instead of suppliers or service providers of this equipment and products. Banks can advise them, and even connect with trustworthy suppliers. It is a win-win scenario for banks, equipment supplies, and consumers.

Customer education on climate-friendly financial products

Retail customers also need advice on whether climate-related financial products are genuine; customers’ understanding of those products—the types of products, their impact, their benefits, etc. is quite low. Banks can educate customers on the climate and financial value proposition of their offerings, both to frame the appeal of those offerings and to direct consumers toward products that suit their needs, which may allow banks to cross-sell other sustainable retail banking products.

While banks are increasingly under pressure from stakeholders to lend responsibly, there are inherent benefits for banks to follow sustainable banking practices. There is not only a massive lending opportunity for banks, but also they can mitigate climate and sustainable risks of their lending portfolio. Financed emission, the carbon emitted from activities financed by banks, is attracting unfavorable attention from regulators, policymakers, shareholders, and depositors. It is high time banks acted quickly and behaved like responsible corporate citizens. Hence, it is imperative for banks to promptly adopt responsible corporate practices.