Green Taxonomy

By Himani Singh | January 29, 2023

INTRODUCTION

Taxonomy simply means classification, but what exactly does "green taxonomy" mean? A green taxonomy is a classification tool to label activities as "green" or "unconditionally sustainable" in the sense that they positively contribute to the environmental objectives covered by the taxonomy. In order to access sustainable finance, it assists investors and businesses in making knowledgeable investment decisions on sustainable economic activities. Taxonomies can serve as the foundation for government legislation or initiatives and are another tool for public policy. A taxonomy is a list of technical or qualitative standards used to categorize economic actors as socially responsible, environmentally friendly, or sustainable. Depending on the country's rules or norms and how they view the patterns of climate change, these taxonomies might differ substantially in terms of their granularity, scope, criteria, and environmental goals.

In the 2022 Environmental Performance Index (EPI), India ranked 180th out of 180 countries.This result indicates that India is falling short of its sustainable development targets. Developing nations like India are under increasing pressure to step up their climate action, even if developed countries decreasing their emissions quickly is a more efficient way to go. India's promise to reach net zero carbon emissions by 2070 and its "panchamrit" plan at the 26th and 27th Conference of Parties (COP26 and COP27) will be India's historically significant contribution to looking ahead in the domain of mitigating climate change.

WHAT IS THE SIGNIFICANCE OF GREEN TAXONOMY?

Sustainable finance markets globally are grappling with two major issues: capital not reaching assets that need it the most and "greenwashing." Greenwashing is considered an unsubstantiated claim to deceive consumers into believing that a company’s products are environmentally friendly. Both issues stem from weak policy frameworks and unclear implementation mechanisms, resulting in blind spots in the market. The lack of clarity surrounding India’s sustainable finance and the rules that govern it has meant that the country has so far been unable to tap into the pool of international green finance in any major way. Therefore, it’s imperative for India to prioritize what is green so as to channel and mobilize green finance in an efficient manner. As many of the esteemed researchers and policymakers pointed out, India needs a system of "green transition," a transition that aligns investment opportunities with sustainability.

The effects of climate change and the losses and damage they cause are projected to become increasingly severe and unpredictable as average global temperatures rise past the 1.5°C threshold. Climate change adaptation, which is location- and context-specific, aims to lessen the dangers posed by these changes while, whenever possible, taking advantage of any benefits they may present. It's not as easy to create a taxonomy for it as it might seem. And if a successful taxonomy is created, it will have revealed the fundamental criteria that govern whether a specific behavior qualifies as climate adaptation or not. The most fundamental issue with "greenwashing" in the context of climate adaptation would be resolved by doing this.

It will provide a transparent understanding of the environmental footprint of economic activities underlying investments. It can also give visibility to capital-starved green sectors. While allowing regulators like the Securities and Exchange Board of India (SEBI) and the Reserve Bank of India (RBI) to supervise these entities by requiring disclosures that align with the taxonomy, it can serve as the benchmark for financial institutions (FIs) and businesses in managing and monitoring the environmental quotient of their financial profiles.

A green taxonomy, which offers a common definition of "green" along with guidelines "for establishing the eligibility of economic activities, projects, and assets for such finance," will aid in overcoming the majority of these difficulties. A green taxonomy will also assist the nation in addressing its inconsistent publication of green finance data by reducing information asymmetry and boosting investor confidence. For huge developing nations like India, which are under pressure to give up their claim to international public money for climate action, accessing private capital is crucial, according to experts. India is in critical need of a document that would codify the notion of "green" in order to control the perception of risk brought on by a developing economy and an undeveloped financial industry.In other words, India needs clearly defined rules of engagement that would ideally help drive investment decisions towards sustainability and progressive climate action

WHAT ARE THE CHALLENGES?

There is little question that the amount of funding that is accessible and available for certain goals will have a significant impact on how far India (or any other country) can accomplish its climate ambitions. The Climate Policy Initiative (CPI) analysis demonstrates that there are still few domestic sources of green financing available in India. However, if we look at the current agreement, there is adequate funding from overseas sources accessible for green initiatives. A significant barrier is the lack of a definition of what activities qualify as "green." The conventional dangers of making investments in a low- to middle-income economy that is still growing are another factor. Amitabh Kant, CEO of Niti Aayog, and researcher Sweety Pandey stated that, "This can dent the integrity of the market and increase the risk of damaging investor perception and demand."

There are various measures that need to be taken for a green taxonomy to be reliable and boost the confidence of foreign stakeholders in India's green finance sector. By evaluating the effectiveness of India's current green laws first, and then by taking into account the blunders made by other nations in their taxonomic travels. According to media reports, the Indian government has recently come under fire for systematically weakening the laws of the nation, including those governing its forests, biological diversity, coasts, pollution standards, and the rights of pedestrians at intersections, in order to foster an environment that is convenient for industries. As these restrictions will have a significant impact on it, this could damage India's green taxonomy. Best practices for taxonomy eligibility requirements include simultaneously ensuring that contributions to particular environmental goals are beneficial.

Former chief economic advisor to the Indian government, Arvind Subramanian, warned against a future reality if India failed to deal with the fuzzy nature of sustainable finance regulations. If trillions of dollars in climate finance go to emerging markets, the flows could amount to 5-10% of these economies’ GDP—similar to the financing surges that preceded the 1997 Asian financial crisis and the 2013 "taper tantrum." Unregulated private capital flows of this magnitude will lead to overheating, volatility, imprudent lending, and overvalued exchange rates.

India's cash-strapped adaptation efforts may likewise stand to gain the most from visibility through a taxonomy. Given the high demand for green investments, India's weak financial systems, and a lack of indigenous institutional investment, the country will need to rely on foreign private capital to complete its green transition.The culture of low compliance across sectors exposes the implementation of the taxonomy to the risk of "greenwashing" because it fosters a "cynical view" that private climate finance could end up harming poorer economies and producing little in the way of climate-positive outcomes, while enabling the financial sector to coat its somewhat tarnished reputation with a patina of green.

LESSONS FROM OTHER COUNTRIES

Russia, Mongolia, Malaysia, China, and the EU have already made significant progress in creating green taxonomies; the UK aspires to lead the way in green finance. The taxonomies of China, Mongolia, and the EU all agree that it is important to pinpoint industries that may significantly advance various environmental goals. The taxonomies for China and Mongolia also emphasize the significance of timely updating in response to shifting requirements. The taxonomies for Mongolia, Egypt, and the EU are significant in terms of screening criteria because they cater to the unique demands of the regions they cover. It is necessary to structure the Indian taxonomy in a way that directs the growth of its green finance ecosystem.

The different screening criteria are a reflection of the requirement to address and follow local and national standards and norms. The Indian taxonomy must provide proper screening criteria in contrast to the taxonomies in Bangladesh, Malaysia, and China in order to reflect local circumstances and adhere to national norms. The debates taking place around the world about the most recent proposals made by the EU for its taxonomy should be considered as India discusses its green taxonomy. In order to achieve its 2030 climate goals, the European Commission proposed in February 2022 a proposal to include "particular nuclear and gas energy activities" in the EU taxonomy for sustainable activities.

It highlights the importance of gas as a bridge fuel in the switch from coal to renewable energy sources and outlines the prerequisites for the construction of gas infrastructure. But considering that this contradicts both the IPCC's guidelines and the EU's own stated objective of net-zero emissions by 2050, it has garnered harsh criticism. Beyond science, however, politics surrounding the world's energy supply chains will undoubtedly have an impact on what India chooses to include in its green taxonomy. The inclusion of specific sectors and the methods employed to accomplish certain goals, however, differ amongst the taxonomies; this is simply a reflection of the diverse prerogatives and obligations of the many nations. India's taxonomy needs to be structured to target potential green industries and concentrate on the country's most critical environmental concerns and to target potential sectors where green funds can be channeled to achieve the targeted goal of climate change mitigation.

Hence,It is necessary to structure the Indian taxonomy in a way that directs the growth of its green finance ecosystem. This kind of technology makes it simpler to connect investors with reliable sustainable investment options while lowering the risk of "greenwashing." It can also serve as a foundation for reforming market and policy incentive structures to better align investments with sustainability. It can also serve as a foundation for monitoring these investment flows. The Climate Change Performance Index (CCPI) for 2023 recently ranked India first among the G-20 nations. India is now rated eighth according to the CPI's most recent report, which was presented at COP 27 in November 2022. Such adjustments demonstrate India's ability to advance on the international and policy fronts in order to support the present climate agenda.

CONCLUSION

Recently, India has got the G20 presidency, giving it a fantastic opportunity to exert enormous influence on the world in order to become a climate superpower and to persuade nations to meet the required conditions for climate finance. Speaking of the policy realm, what is required is focusing on the implementation of micro-level programmes rather than merely defining broad aims, which is also a challenging task, but that is why we need blended efforts to accomplish this common objective. India has to create standards for selecting applicants for green financing. The Indian taxonomy must be independent of technology, much like the EU taxonomy is. A taxonomy like this allows you the opportunity to select different green transition pathways while also preventing it from becoming redundant amidst technological innovations.

Regulators like the RBI and SEBI should require financial market players to disclose the environmental goals that underlie each financial instrument (such as Green bonds, shares, and loans) as well as the percentage of such investments that are taxonomy-aligned on a local level. We can also concentrate on our own farming practices and categorize them as suitable for investments and fostering indigenization. Green finance is still in a ‘blooming stage’ in India as of right now. It is crucial to raise awareness of the need for climate action given that there are many geopolitical uncertainties in terms of war, economic and environmental baggage that the world is carrying along, therefore it's imperative to bring out the right consciousness of the action needed for climate changes and mitigation. Prioritizing micro level issues will enable us to grasp macro level concepts later. Consistency in pursuing the goals, beginning with microtargeting, will make a significant difference and get India closer to its aspirational system of sustainability during the green transition.