Efforts to tackle the debilitating impacts of climate change, especially in the developing countries, have indicated a widening gap between the finances available and that required to drive climate action. The UN Climate Change Conference, 2024 (COP29) released a New Collective Quantified Goal on Climate Finance (NCQG) which sets a goal for financing climate action in developing countries by tripling the finance to USD 300bn annually by 2035 from the previous goal of USD 100bn annually. Moreover, there is a pledge to secure efforts of all actors to scale up finance for developing countries to USD 1.3tn per year by 2035. This indicates an yearly USD 1tn finance gap with respect to the requirements of the developing countries, necessitating the exploration of opportunities for climate finance mobilisation from private sources.
In pursuance of India’s multi-pronged strategy to enhance energy security, reduce carbon intensity and support sustainable development while achieving the net-zero emission target by 2070, the Government of India announced the development of India’s Climate Finance Taxonomy in the Union Budget 2024-25. Accordingly, the Department of Economic Affairs, Ministry of Finance released the draft framework of India’s Climate Finance Taxonomy aligned with India’s developmental goals and climate commitments. In addition to being an important milestone in India’s efforts to identify ‘climate-aligned’ activities and infrastructure, the framework is a step in the right direction to unlock mobilisation of private capital and investments from the domestic and international markets.
The draft framework delves into the foundational underpinnings of the climate finance taxonomy. The objective is to enhance clarity & transparency for the investors through a scientific framework with qualitative and quantitative aspects, facilitate the identification of investment opportunities in climate-related activities for enabling the flow of finance from financial institutions while also mitigating the risk of ‘greenwashing’ - a persistent concern in the mobilisation of climate finance. A clear framework to identify taxonomically-aligned activities could aid in:
The framework underscores that the taxonomy must continually evolve in scope and depth to reflect the dynamic and unique nature of India's economy, demonstrating the attributes of a ‘living document’. Further, it acknowledges that interoperability and ensuring alignment with global taxonomies is critical for enhancing investor confidence and outlines eight core principles to guide the identification of climate-aligned activities, projects and technologies. To bolster the operationalisation of the framework, the following elements need to be taken into consideration for effective roll-out of the climate taxonomy.
Expanding the sectoral focus
The framework in the current form includes mitigation and adaptation activities. However, there exists scope for the inclusion of broader sustainability goals such as biodiversity conservation and pollution control. Further, a clear distinction between adaptation and resilience criteria in the framework would aid in identification of the activities which can leverage the specific use-of-proceed instruments for mainstreaming resilience. It is estimated that only 19% of labeled green bonds were found to have any resilience-related use of proceeds, highlighting that resilience investments receive a small portion of the current labeled capital flows. Resilience projects often involve different types of activities, diverse beneficiaries and complex impact assessment methodologies to unlock dedicated capital for these previously underserved yet increasingly vital projects.
Developing transition pathways
There is a critical need to define sectoral emission thresholds in line with the lived realities of India’s development landscape. In this regard, it is crucial to have sectoral pathways for different sectors to identify assets and activities which may qualify the test of taxonomy. The alignment of the taxonomy with the ongoing efforts of NITI Aayog on development of sectoral decarbonisation roadmaps in line with India's 2070 Net-zero target and MoEFCC on the development of National Adaptation Plan focussing on sectoral adaptation priorities and understanding regional vulnerabilities could aid in upholding the scientific rigour as well as enunciating the tailored requirements for the climate finance taxonomy.
Upholding Competitiveness of MSMEs
The principle of proportionality for MSMEs in the framework endeavors to incorporate customised and simplified provisions to ensure that finance flows to MSMEs are not compromised. To ensure the smooth transition of MSMEs to low-carbon pathways, proportionality criteria, capacity-building and simplified reporting mechanisms are proposed to be implemented by financial institutions/regulators. While reporting requirements for MSMEs can be reduced, screening criteria for identification of climate-aligned activities should remain consistent.
The Energy Security Conundrum
While the framework broadly articulates the criteria for inclusion of activities under the taxonomy, it does not distinctly ring-fence activities that may be ‘strictly’ excluded. Under the taxonomically-aligned activities identified for the power sector in the framework, inclusion of strategic investments in Advanced Ultra Super Critical (AUSC) thermal plants could undermine the intent and credibility of the taxonomy framework for investors. While the AUSC thermal plants exhibit reduced emissions through higher efficiency (~46 per cent), surpassing subcritical (~38 per cent) and supercritical (~41–42 per cent) technologies and its inclusion acknowledges the complex reality of India's energy transition, where ensuring energy security and affordability for a rapidly growing economy necessitates a pragmatic, phased shift away from a dominant fossil-fuel base, it can be counter-productive, albeit with efficiency targets, as it may signal that the taxonomy is not exclusively ‘green’ in the strictest sense. Valuable learnings can be derived in this regard from China where the incorporation of coal-based thermal power plants had to be rolled-back from the taxonomy framework as it provoked skepticism in the minds of the investors.
Alignment with existing frameworks
There is a need for a harmonised taxonomy framework which would integrate the key elements of the existing regulations including Securities and Exchange Board of India’s (SEBI) guidelines on green debt issuance, Reserve Bank of India’s (RBI) draft disclosure framework for climate related financial risks and Ministry of Finance’s Sovereign Green Bond Framework. For instance, even though the Sovereign Green Bond Framework explicitly excludes nuclear power generation and projects where the core energy source is fossil-fuel based, the draft taxonomy framework includes these projects. This can lead to uncertainty among investors due to multiple guidelines and also dilute the use of the taxonomy as a standard reference for attracting climate-aligned investments.
Mainstreaming the ‘Social’ Objectives
While a green and climate-aligned transition provides an opportunity to transform the existing socio-economic landscape by revisiting the technologies and practices in the conventional industries, the transition may not completely ensure economic and social justice for the affected population. In this regard, the taxonomy framework can consider the inclusion of social objectives to ensure the ‘justness’ of the intended transition, which has become increasingly significant in the global climate-discourse. Even the EU sustainable finance framework has integrated both - environmental and social aspects, as a part of its sustainable finance strategy since its inception. This not only addresses the larger developmental goals but also opens up avenues for tapping additional capital designated for fulfillment of social objectives.
Enabling the Sub-National Action
The framework can also institutionalise climate-action at the different tiers of governance - national, state and local government-level, by incorporating elements in the framework which could align with the core processes of developing public budgets. A detailed understanding of the alignment of the public budgets with climate-aligned activities can provide an opportunity to catalyse private capital in projects with a sovereign-support. For instance, an assessment of Rajasthan’s first Green Budget for FY 2025-26 to identify the thematic alignment of these activities with the sector-specific criteria defined under the existing international taxonomies indicated that around 91% budgetary allocation was for activities which either have a direct alignment with the sectoral criteria or can be construed to have alignment on the basis of detailed description provided for the budget items. This highlights the potential of the taxonomy to be used as an instrument for managing public debt while raising additional resources for serving ‘public goods’.
The success of India's Climate Finance Taxonomy will ultimately depend on its ability to strike a delicate balance - being ambitious enough to drive a meaningful transition, credible enough to win the confidence of international investors and pragmatic enough to support the unique developmental needs of the Indian economy. The ongoing deliberations while highlighting significant challenges also underscores the immense potential of this framework to shape a sustainable and climate-resilient future for India.
