The story so far: Budget 2024, presented by Union Finance Minister Nirmala Sitharaman on Tuesday, includes developing a taxonomy for climate finance to increase the availability of capital for climate adaptation and mitigation.
“This will support the achievement of the country’s climate commitment and green transition,” Ms. Sitharaman said in her speech.
What is the taxonomy for climate finance?
The taxonomy of climate finance refers to a set of regulations and standard guidelines to inform companies and investors about making impactful investments for environmental conservation and combating the climate crisis.
The term taxonomy comes from the field of biology. It is the scientific method of naming and classifying organisms, including plants, animals, and microorganisms.
“Many interpretations of the market fragment and confuse investors. What appears ‘green’ in one country may appear ‘brown’ in another, leading to environmental progress,” said the International Finance Corporation (IFC), a member of the World Bank Group.
A taxonomy for sustainable climate finance, in general, includes a detailed list of economic sectors and activities and the appropriate criteria that determine whether they fit into larger climate goals.
“There are two dimensions to the taxonomy: the system itself in all its complexity, and the final product (boiled down to pragmatic essentials) because it will be used by financial market participants and other users. Users of taxonomy and definitions do not always want to know why certain metrics or thresholds should be used for activities. However, they will use taxonomies and definitions as end products and screen activities to determine eligibility according to the taxonomy,” according to the Organization for Economic Co-operation and Development (OECD).
The climate finance taxonomy is known as the ‘green’ taxonomy.
Why is the taxonomy of climate finance important?
Climate finance is a core area for combating the climate crisis. According to the UN Framework Convention on Climate Change (UNFCCC)’s first ‘Needs Determination Report’, about $5.8-5.9 trillion in funding is needed to implement developing countries’ climate action plans by 2030, and this does not include adaptation costs.
Climate finance taxonomy can facilitate financing for investors, credit institutions, etc. It is therefore possible to direct financial resources to projects that support climate change mitigation and adaptation.
The green taxonomy helps investors compare investment opportunities and measure their environmental impact.
A taxonomy of local climate finance can also help align national climate goals with the Paris Agreement and other international climate commitments while accounting for regional factors influencing local transition pathways.
For example, different regions must adopt different pathways to achieve the goal of limiting global warming to less than 1.5 degrees C, as required under the Paris Agreement. A one-size-fits-all approach will not work here, and this is where a local taxonomy of climate finance can help. Science-based targets at the regional level can help define metrics, based on which experts can develop standards and investors can determine financial commitments, all without compromising global climate goals.
A taxonomy of climate finance can also help prevent greenwashing by companies by setting common standards based on scientific assessment.
“The development of a taxonomy for climate finance is important to establish clear standards. This ensures that investments are transparently and efficiently directed to genuine green projects, driving innovation and supporting India’s ambitious climate goals,” Harjeet Singh, Director of Global Engagement for the Non-Proliferation Treaty Initiative Burn Fossils, he said The Hindu.
Many countries like China, Malaysia, Sri Lanka, have issued a green taxonomy to facilitate climate sensitive investments.
What is India doing to set up a green taxonomy?
In January 2021, India established a task force on sustainable finance in the Department of Economic Affairs, Ministry of Finance, to create a framework for sustainable finance in India, establish pillars for a sustainable finance roadmap, recommend a draft taxonomy of sustainable activities, and create a framework for risk assessment by the financial sector.
In April that year, the Reserve Bank of India (RBI) joined the Central Banks and Supervisors Network for Greening the Financial System (NGFS) as a member. The RBI is also a member of the task forces on climate-related financial risks established by the Basel Committee on Banking Supervision, and the International Platform on Sustainable Finance.
Why does India need a green taxonomy?
According to the IFC, India needs about $10.1 trillion to achieve net-zero by 2070. Public investment cannot match this goal, which requires investment standardization.
“A green taxonomy framework can significantly help India attract both domestic and international investment, aligning these funds with national and global commitments to green transition and increase climate resilience,” Mr. Singh said.
“Investors and industry have demanded a taxonomy and transition path as a guide for financial flows and reorientation of economic activity. The Budget announcement that clearly mentions the establishment of a carbon market, taxonomy and transition path marks significant progress in planning towards net zero in 2070,” said Suranjali Tandon , associate professor at the National Institute of Finance and Public Policy.
