Why has RBI allowed FIIs to invest in green bonds?

GS Paper III

News Excerpt:

In a significant move towards promoting India's green initiatives, the Reserve Bank of India (RBI) recently allowed Foreign Institutional Investors (FIIS) to invest in Sovereign Green Bonds (SGrBs).

Foreign Institutional Investor:

  • A foreign institutional investor is an investor in a financial market outside its official home country.
  • Foreign institutional investors can include pension funds, investment banks, hedge funds, mutual funds, nation-states’ sovereign wealth funds etc.
  • Some countries place restrictions on the size of investments by foreign investors.

Sovereign Green Bonds (SGrBs):

  • Sovereign Green Bonds (SGrBs) are a type of government bond specifically earmarked to finance environmentally sustainable projects. 
    • These projects typically include investments in renewable energy sources such as solar and wind power, sustainable infrastructure development, clean transportation initiatives, and other environmentally beneficial projects. 
  • By investing in SGrBs, investors contribute directly to these green causes while still receiving financial returns in the form of interest payments on their investment.
  • SGrBs yield lower interest than conventional G-Secs, and the amount foregone by a bank by investing in them is called a greenium.
    • Central banks and governments the world over are encouraging financial institutions to embrace greeniums to hasten the transition to a greener future.

What are the benefits of investing in Sovereign Green Bonds?

Investing in Sovereign Green Bonds offers several benefits, both for investors and for India's sustainability efforts. 

  • Firstly, investors contribute to funding projects that promote environmental sustainability, including renewable energy infrastructure and sustainable transportation systems. 
  • Secondly, despite their focus on environmental projects, SGrBs still offer financial returns to investors in the form of interest payments. 
  • Finally, the funds raised through SGrBs can be utilised to support initiatives aligned with India's Sustainable Development Goals (SDGs), addressing various social, economic, and environmental challenges and fostering a more sustainable future.

How does this decision align with India's sustainability goals and  green transition?

  • Allowing FIIs to invest in India’s green projects widens the pool of capital available to fund the country’s ambitious 2070 net zero goals as pledged by the Prime Minister of India at COP26 in Glasgow 2021.
    • The decision will help in ensuring 50% of India’s energy comes from non-fossil fuel based sources and to reduce the carbon intensity of the nation’s economy by 45%.
  • By allowing foreign investors to invest in SGrBs, the RBI aims to deepen the Climate Bonds Market and attract more funding for green projects in India.
  • These projects play a crucial role in reducing the country's carbon footprint and advancing its sustainability agenda.

Role of International Financial Services Centre (IFSC) in Green Investment:

  • The IFSC, located in Gujarat, serves as a special economic zone for financial services, providing a conducive environment for foreign investors to participate in India's financial market more easily. 
  • With the RBI's decision, foreign investors within the IFSC are now permitted to invest in SGrBs. 
  • This expansion of the investor base within the IFSC potentially attracts more funds for green projects in India, thereby contributing to the country's sustainability goals.

What are the implications of the RBI's decision?

  • The RBI's decision to allow foreign investors in the IFSC to invest in Sovereign Green Bonds carries several significant implications. 
  • Firstly, it expands the investor base for SGrBs, potentially attracting more funds for green projects in India. 
    • The RBI had issued SGrBs worth ₹16,000 crore in two tranches in January and February 2023 with maturities in 2028 and 2033. 
    • While in both instances the bonds were oversubscribed, the main participants were domestic financial institutions and banks, narrowing the avenues from where the government could borrow.
    • Moreover, these green Government-Securities (G-Secs) were classified under the Statutory Liquidity Ratio (SLR), a liquidity rate fixed by the RBI that financial institutions must maintain with themselves before they lend to their customers.
  • Secondly, it deepens the Climate Bonds Market by attracting a diverse range of investors interested in environmentally sustainable investments. 
    • FIIs might also be looking to gain green credentials when such investments may not be available in their home markets, and because India has successfully addressed greenwashing fears with the Sovereign Green Bonds Framework in late 2022.
  • Finally, this move promotes the growth of green finance in India and supports the country's transition towards sustainability.
    • FIIs are also looking to diversify their pool of green investments, as there is considerable regulatory support particularly in developed countries. So this is an opportunity for them to invest in India’s green g-secs.

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