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Paving the Way to Higher Value: How can Banks Align with EC's Sustainable Finance Recommendations?

Paving the Way to Higher Value: How can Banks Align with EC's Sustainable Finance Recommendations?
December 15, 2021

The concept of sustainable finance came into existence by taking lessons from history and the not-so-inclusive economic catalog of the industrial age.

Sustainable finance, as the term suggests, is simply devising investment and finance strategies to include environmental, social, and good governance goals. The crux behind sustainable finance is to ensure long-term ROI for society - not just in monetary terms but also other intangible benefits such as ecological preservation and broader societal inclusivity.

Sustainable Financing – opportunities that lie ahead.

The notion of sustainable finance is both intriguing and full of opportunities where enormous value can be created. Since the European Commission’s release of objectives for sustainable finance, banks, corporates, and innovators can take a clue where the ship should sail to next.

The European Commission developed a tangible plan of action and objectives to put sustainable finance into execution. The objectives include:

  1. Defining an EU taxonomy to group sustainable activities and establishing a standard classification system
  2. Creating new green financial products such as the EU Green Bond Standard
  3. Encouraging systematic investments in sustainable projects based on the EU taxonomy
  4. Including ‘sustainability’ as a core aspect of financial advice
  5. Establishing new sustainability benchmarks which will shape the new laws and regulations

While some early regulations (mandating companies to disclose the carbon impact of their investments) and initiatives like the EU Green Bond Standard have been rolled out, more complex laws will take time. This leeway in the EU taxonomy is the opportunity for financial innovation and value creation.

The European nations require 180 billion euros per annum to finance their renewable energy operations, eco-friendly transportation, and green infrastructure for at least the next 20 years.

With the current investment policies, where the major chunk of investments still goes to fossil-fuel and non-renewable sectors, pooling in this amount for sustainability looks improbable. This is the reason why central banks must be aligned with the EU’s sustainability finance action plan - to divest the required investment without disturbing the economic contours too much. 

Since banks are handling the majority of loan enterprising and transactional throughput, they have the ability to create new products and consumer policies as per sustainable finance guidelines. Moreover, instead of just purchasing what the current market offers and perpetuating the status quo, Central Banks could directly fund pan-European investments into green infrastructure - taking charge of direct divestment.

Before the banking ecosystem can be leveraged to create value, it must be aligned with the bigger picture. However, from 2022 onwards, the European Union’s banks are required to disclose the risks associated with ESG risks- something which a few of them are not prepared for. One must keep in mind that these mandates can heavily impact capital requirements in the region.

Depending upon how proactive and agile a central bank is in anticipating the impact of new regulations and forging a strategy to adapt to it, they can create value to enable the new ‘finance ecosystem.’ This can be done via the platform, product, and service innovation. Take, for instance, the MiFIR (Markets in Financial Instruments Regulation). As per this new regulation which works in conjunction with MiFID II, trading venue transparency, trade reporting, and transaction reporting require mandatory publishing by the trading and investment bodies.

As the torchbearer of sustainable finance, banks can start building applications, platforms, and services to assist, consult, and even monitor the MiFIR compliance for these bodies.

The most potent reservoir of value for banks lies in promoting ‘green entrepreneurship’ because it will definitely be a thing once the sustainable finance regulations take force. New enterprises will bloom for environmental ROI and socio-economic impact, and not just monetary gain.

Banks could easily go for funding products and schemes tailored specifically for green entrepreneurship foreseeing the future.

“Early bird gets the worm, and there has been no better time for EU banks to start looking for theirs. If they can start rolling out infrastructural, compliance, product-level, and serviceable measures for enterprises and individuals in conjunction with sustainable finance, 180-billion Euros will be a tiny fraction of what they can create in the coming years.”

 Are you talking about disclosing the ESG risks? The ‘risks associated with ESG risks’ is not quite clear.