Green finance: The signal is amber

Funding for conventional energy infrastructure projects could become increasingly difficult to obtain as banks grow wary of environment concerns and ensuing regulatory bottlenecks. Daniel Jones discusses how India will be affected.

The lack of private investment in Brazil's Belo Monte dam project highlights the dangers banks now associate with large scale energy projects. Environmental and social risks involved in financing a project, along with shaky prospects of sufficient returns, have proved reasons enough for many banks to refuse involvement in the project.

Growing environmental scrutiny is making it harder for lenders to finance polluting industries without suffering a blow to their reputation, but a continued focus on profit means improved lending for green ventures is far from guaranteed.

Funding environmentally risky energy projects has become more difficult for banks without an adverse impact on their reputation and bottom line. As a result, emerging economies such as India may be forced to rethink future energy policy, and developing countries like India are faced with a difficult choice.

The Challenge

In 2008, a number of banks including HSBC, Munich Re and BNP Paribas launched The Climate Principles, under which all member banks actively manage climate change across the full range of financial products and services. Five years earlier, a ground breaking protocol was signed by the world's biggest banks. The Equator Principles framework, signed by 67 financial institutions in 2003, laid out a voluntary set of standards for determining, assessing and managing social and environmental risk in project financing.

Developers have lined up to try and meet India's future energy requirements through 'sustainable' coal-based Ultra Mega Power Projects (UMPPs) with capacity of up to 4,000 MW each. The nine mega projects would use supercritical technology that would reduce emissions compared to traditional plants. Yet recent developments within the world's financial sector means that India may be forced to rethink its short-to mid-term energy policy in order to adjust to the stricter norms that may leave traditional energy projects struggling to find financial backing.

Financiers are now setting stricter guidelines for review of such environmental impacts. Industries that could see an exodus of funding from the world's biggest lenders include oil and gas production, nuclear power, coal-fired electricity generation, pipeline construction and even dam building, all of which are potentially relevant to the development of India's energy infrastructure.

In China, for the last two years the central bank has been pushing ahead with plans to encourage commercial banks to cut back on loans to the most polluting firms.

Alternative fuel

A more likely reason for the shift away from carbon-intensive energy infrastructure projects is the volatile state that the traditional energy market has been in since the global downturn. It only makes sense for banks to back a company in a stable industry that can guarantee a return over a prolonged period, and if that does not include the renewable energy sector then there is no guarantee that it will get the money that coal and oil will no longer be seeing.

Some are taking recent moves by banks to placate environmentalists to be a realisation that they do in fact have an important role to play in helping to raise global environmental standards, and to mean that they are now set to pursue the opportunities presented by the prospect of greener lending more aggressively. However, even if these firms do introduce stricter policies on backing polluting industries, or stop funding them altogether, there will remain many financial institutions that are willing to continue supporting these sectors.

The World Bank has spent billions of dollars on coal-fired power stations in recent years, subsidising projects in India. This includes the approval of $850 million in loans to finance a coal-fired plant in Gujarat, western India through its partner, the Asian Development Bank, in 2008. According to US lobby group The Environmental Defence Fund, this plant alone will produce 26.7 million tonnes of CO2 per year for the next half a century.

In August 2010, the US Export-Import Bank approved funding for the same plant, one of the series of UMPPs being perused by the Indian government.

Conclusion

While environmental sensitivity among financiers could potentially slow down the pace of infrastructural development over the next few years if the government looks to secure an increasingly low-carbon energy future. However, a continued focus on profit and the unlikelihood that renewable technology can wholly support energy needs over the coming 30-50 years means that financing for traditional energy projects will not disappear overnight.

The author is Energy Analyst, Datamonitor, (www.datamonitor.com) and may be reached at djones@datamonitor.com. Views are personal.