Coal divestment not yet on the cards for India’s banks?

Indian banks are highly exposed to risks attached to investments in the electricity and metals sectors, with public sector banks most exposed to the conventional energy sector, indicates a recent report from a think tank.

Commercial banks will have an important role to play in India’s energy transition, but only 10 out of the 34 assessed have disclosed finances directed towards renewable energy. Image: , CC BY-SA 3.0, via Flickr.

Compared to a year ago, India’s top commercial banks continue to lag in their preparedness for future climate risks, with incremental progress being made across select criteria, a new assessment by think tank Climate Risk Horizons shows. The assessment is a follow-up to its 2022 report, which found that despite the accelerated effects of climate change over India, banks did not factor climate change into their decision-making and future strategic planning.

Commercial banks have an important role to play in financing India’s energy transition. At the climate conference COP26 in 2021, India agreed to “phase down” coal and made a commitment to reach net-zero emissions by 2070.

India also pledged to achieve about 50 per cent cumulative installed electric capacity from non-fossil fuel-based energy resources by 2030. The International Energy Agency estimates the energy transition will cost India around US$160 billion a year, till 2030 – three times more than current levels of investment.

Apart from investments and being transparent about their emissions, commercial banks should also assess sectoral risks and exposure risks to their existing portfolios in the context of climate change, Climate Risk Horizons says. But of the 34 banks the think tank analysed, most continue to show no progress on formulating a policy on excluding coal from their portfolios, and none have conducted risk assessments to calculate the impact of different climate scenarios in their portfolios.

“Banks should, at the very least, have a transition policy of some kind, but the movement in this direction is too slow,” said Sagar Asapur, head of sustainable finance at Climate Risk Horizons and one of the lead authors of the assessment. “Since our assessment last year, several banks have gotten in touch and are showing an interest in becoming more resilient to risks, and this is a positive development.”

The Reserve Bank of India (RBI) and Securities and Exchange Board of India (SEBI) have recently been taking active steps to encourage climate risk assessments and investments in green finance, said Asapur. Earlier this year, the RBI made climate change one of the central themes of its annual Report on Currency and Finance (RCF), commenting on the need for putting in place a system that can determine whether investments are truly sustainable or not, among other pressing matters.

While coal exclusion on new projects should be done, exclusion of entire companies currently engaged in coal business will lead to making them devoid of transition capital needs.

Shantanu Srivastava, lead of sustainable finance and climate risk, Institute for Energy Economics and Financial Analysis

This report, as analysed by the Climate Risk Horizons study, reveals that Indian banks are highly exposed to climate-related financial risks from the utility sector (electricity generation, transmission and distribution) and the metals sectors, with public sector banks “most exposed to the conventional energy sector.”

Findings of the report

The Climate Risk Horizons report assesses the preparedness of banks by using 10 key parameters, including their coal exclusion policies, disclosure of Scope one, two and three emissions, net-zero targets, green investments, and whether they have done climate scenario analysis, among others. It looked at 34 of the biggest commercial banks with a combined market capitalisation of Rs. 29.5 trillion. Of the 34 banks, 17 are private sector banks, 12 are public sector banks, four are small finance banks and one is a payments bank.

However, some progress has been made since last year. According to the report, while none of the banks have calculated the impact of climate scenarios on their portfolio, “seven have begun planning for or considering different scenarios for calibration of risks.”

Two banks – Federal Bank and AU Small Finance Bank– started reporting their scope emissions in the last financial year ending 2022, but they limited their reporting to just scope one and two emissions. As per the World Economic Forum, scope one emissions are “direct” emissions that a company causes by operating the things that it owns or controls. Scope two emissions are “indirect” emissions caused by the production of the energy that an organisation buys. Scope three emissions cover those produced by customers using the company’s products.

Another positive development, compared to last year, is that four among the 34 have inaugurated a green deposit facility. The facility is a financial instrument that channels funds towards renewable energy and other sustainable projects. Ten banks have “a dedicated climate-risk management committee at the board level with a strategic plan,” a tally that was brought up over the last year because of efforts from Axis Bank, Federal Bank, and State Bank of India.

On the whole, however, “progress has been far too little and far too slow,” says the report, which finds that only two have a coal exclusion policy. No bank has disclosed its financed emissions (emissions resulting from its investments), and no bank has set a net-zero target that includes its scope 3 emissions. “HDFC, YES Bank, and most recently IndusInd have set targets covering Scope 1 and 2 emissions, while SBI has a carbon neutrality target by 2030, without any mention of emission targets,” the report states.

Only eight banks were at an advanced stage of scope emission disclosures. “Out of these eight, only five have published a third-party verification statement attesting to the disclosures,” the report added.

“Banks that have set net-zero targets without scope three emissions is meaningless, and it indicates they are not taking this effort seriously enough,” said Asapur.

Banks perform equally poorly when it comes to their green finance activities. “Only 10 of the top 34 banks have disclosed their finances directed towards renewable energy.” This is a total of Rs. 1,13,228 crores (Rs 1132.28 billion). “Nine out of the 34 banks have mentioned financing green activities without disclosing the amount disbursed. The remaining 15 banks have either a broad commitment to extend lending towards the sector with no further details provided or have no such plans at all,” says the report.

Around 12 banks were found to have prepared some policies or frameworks to deal with climate risks, like sustainability reports and ESG financing frameworks, for example. Eight banks were a part of international associations, which the report says are important for “fostering collaborative efforts focused on global net zero transitions” and “is a key signal of banks’ commitment towards climate change.”

Coming up on top was Yes Bank, with a score of 15 out of 20, followed by HDFC Bank (13/20), Axis Bank (13/20) and State Bank of India (12/30). The worst performing banks are overwhelmingly from the public sector, with the bottom-most being South Indian Bank Ltd, Fino Payments Bank, DCB Bank, Central Bank of India, IDBI Bank, Bandhan Bank, Indian Overseas Bank, UCO Bank, Bank of Maharashtra, City Union Bank, and Equitas Small Finance Bank, who all scored zero.

“While coal exclusion on new projects should be done, exclusion of entire companies currently engaged in coal business will lead to making them devoid of transition capital needs. Several global banks today have an engagement approach as part of their coal exclusion policies, where they assist high-emitting companies transition away from fossil fuels. This might include providing financing for only those companies that have credible transition plans and companies not investing in new coal assets. The policy should be a mix of engagement and exclusion, with specific criterion laid out for each part,” said Shantanu Srivastava, lead of sustainable finance and climate risk at the Institute for Energy Economics and Financial Analysis (IEEFA), South Asia. Srivastava was not involved in the Climate Risk Horizon’s study.

Steps taken by RBI

Last year, the RBI had done its own survey and found that banks’ risk assessments in light of climate change were inadequate, and that they “need to put in place a mechanism at either the Board or top management level for overseeing and scaling up initiatives relating to climate risk and sustainability.” Other recommendations included making attempts to “fully grasp the physical, transition and liability risks,” associated with climate change and mobilising new capital to scale up green lending and investments.

The RBI has since released a framework for banks to offer green deposits and encourage more environmentally-friendly investments. This will make lenders more accountable and transparent in the projects they choose to invest in, banking experts had told Mongabay India.

Climate Risk Horizons notes in its report that for the green deposit scheme, “there are no tax or interest rate incentives for depositors. Considering the urgent need to generate large financial flows to meet India’s climate goals, there is a strong argument for either tax or interest rate incentives to drive the growth of green deposits.”

“Coordinated actions on the part of government bodies are required to ensure that the might of India’s banking system is leveraged for the energy transition. As the energy and materials transition accelerates, transition risks will grow for carbon-intensive sectors. The absence of any pressure on these borrowers to institute transition plans, is a recipe for chaotic disruption down the road,” the report warns.

“The first step towards incorporating climate risk considerations is creating systems and processes for capturing climate risk metrics in lending operations, upskilling and reskilling current workforce, especially the frontline staff on capturing and understanding climate risk, and creating a governance structure which will ensure these changes are implemented,” said ​​Srivastava, adding, “The second step should be acting upon the information gathered by integrating climate risk into the wider risk management framework of the banks. Capacity development and enhancement of board, management and workforce on climate risk should be the first priority.”

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