From green bonds to impact investing, sustainable finance is transforming the global market by prioritizing environmental, social, and governance considerations

Understanding Sustainable Finance and its Surge in Today’s Economy

According to the World Bank, sustainable finance involves considering environmental, social, and governance (ESG) factors when making investment decisions, which encourages more long-term investments in sustainable projects and activities. Environmental factors include mitigating climate change and using sustainable resources, while social factors encompass human rights, consumer protection, and diverse hiring. Governance factors focus on management practices, employee relations, and compensation. It has grown into a major movement driven by regulators, institutional investors, and asset managers worldwide. Sustainable finance includes instruments such as sustainable funds, green bonds, impact investing, microfinance, and active ownership. It also involves providing financing for sustainable projects and transforming the financial system to support long-term environmental and social goals. [1], [2] 

The financial sector plays a pivotal role in driving sustainability by funding research, alternative energy sources, and businesses with fair labour practices. As mentioned above, sustainable finance involves incorporating ESG factors into investment decisions.  With climate change becoming more evident, shifting towards a lower-carbon economy is essential. Sustainable finance supports these efforts, funding renewable energy projects like wind farms and electric vehicle infrastructure. Furthermore, as ESG factors gain importance, investors are increasingly seeking opportunities that align with sustainability goals, pressuring businesses to adapt.

Governments and financial institutions are also fostering sustainable growth, especially in developing countries, by offering innovative financial instruments. For instance, the Global Impact Investing Network reported that impact investing exceeded $1 trillion in 2022, and this upward trend is anticipated to persist into 2023 and the future. [3]

Sustainable finance also encourages transparent reporting, collaboration among policymakers, and private sector efforts to decarbonize industries. By integrating ESG criteria, sustainable finance helps manage risks and seize opportunities, ensuring businesses remain at the forefront of a rapidly changing global economy. [4], [5]

From Billions to Trillions: The Growth of Sustainable Finance

The global sustainable finance market is experiencing rapid growth. In 2021, borrowing through green bonds, loans, and equity funding for green projects surged to $540.6 billion, a 100-fold increase since 2012. 

Sustainable assets under management increased from $30.7 trillion in 2018 to $35.3 trillion in 2020, with expectations to surpass $41 trillion by 2022 and reach $50 trillion by 2025, representing one-third of total global assets under management. [6]

By the end of 2023, outstanding corporate and government sustainable bonds totaled $4.3 trillion, up significantly from $641 billion just five years earlier.  This growth highlights sustainable finance as a crucial funding source for governments and companies aiming to transition to a low-carbon economy. The corporate sector accounts for over half of the total issuance in the sustainable bond market. The market is projected to expand from $3.6 trillion in 2021 to $23 trillion by 2031, emphasizing the need for financial institutions and investors to adapt and align with sustainable investment strategies. [7], [8]

Investing in Change: Drivers Towards Sustainability in Finance

By the nature of the projects supported by sustainable finance, it encourages businesses to adopt sustainable practices, improve performance, and minimize their ecological footprint. Additionally, funding green startups and sustainability research fosters innovation to address environmental challenges. For example, The EU Commission leverages these benefits through its EU Sustainable Finance Agenda, which supports the EU Green Deal and integrates sustainability into financial policy. [9]

The growth of sustainable finance is driven by changing investor preferences, especially among millennials set to inherit $68 trillion over the next two decades. Nearly half of millennials prioritize investments that align with social responsibility, while 90% of women investors also aim to make a positive societal impact. This generational shift, coupled with institutional investors integrating ESG factors into long-term investment models, is fuelling demand for sustainable financial products. [10]

Institutional investors are also key players, for instance, large asset managers like BlackRock and Amundi are increasingly incorporating ESG principles into their portfolios. The market for sustainable investments is expected to accelerate as institutional investors respond to regulatory pressures and growing awareness of climate risks. As a result, public markets and corporate valuations are likely to reflect the shift toward sustainable finance, making it a powerful force in driving the low-carbon economy transition. [11]

Sustainable Finance in India and the Way Forward

Sustainable finance in India is experiencing significant growth due to rising awareness of environmental, social, and governance (ESG) factors. Regulatory bodies, such as the Reserve Bank of India (RBI) and the Securities and Exchange Board of India (SEBI), have implemented measures to support this sector, including sustainability reporting guidelines for banks in 2015 and a green bond framework in 2018. SEBI also introduced ESG-focused frameworks for mutual funds in 2020. 

Alongside regulatory measures, both public and private investors and financial institutions are increasingly integrating sustainability into their investment strategies, leading to heightened demands for transparency and accountability regarding ESG performance. Sustainable finance aims to channel funds into initiatives that foster a more equitable and sustainable future. In India, investments in sustainable finance by private equity and venture capital firms are projected to reach USD 125 billion by 2026, with a compound annual growth rate (CAGR) of 46%. This rising interest in sustainable finance is essential for driving economic and social change. [8]

In conclusion, sustainable finance offers multiple advantages for businesses, including improved access to capital as investors increasingly favour companies with strong ESG (environmental, social, and governance) performance. It promotes proactive risk management, particularly concerning climate change, enhancing a company’s long-term resilience. Additionally, it drives innovation, unlocking opportunities in emerging markets like renewable energy and circular economy models. Aligning with sustainable finance helps businesses meet rising stakeholder expectations, improving both reputation and trust. Finally, transparency and robust ESG reporting are critical for ensuring accountability and attracting informed investment.

References

1. Swiss Sustainable Finance. What is Sustainable Finance. https://www.sustainablefinance.ch/en/resources/what-is-sustainable-finance-_content—1–1055.html . Accessed 1^st October 2024
2. World Bank Group (2021). Sustainable Finance. https://www.worldbank.org/en/topic/financialsector/brief/sustainable-finance . Accessed 1^st October 2024
3. Dean Hand, Ben Ringel, and Alexander Danel (October, 2022). GIINsight: Sizing the Impact Investing Market 2022. GIIN. https://thegiin.org/publication/research/impact-investing-market-size-2022/ . Accessed 3^rd October 2024
4. Rebecca Bakken (May, 2023). What Is Sustainable Finance and Why Is It Important? Harvard Extension School. https://extension.harvard.edu/blog/what-is-sustainable-finance-and-why-is-it-important/ . Accessed 3^rd October 2024
5. Infosys BPM. What is sustainable finance and why is it important? https://www.infosysbpm.com/blogs/financial-services/what-is-sustainable-finance-and-why-is-it-important.html . Accessed 4^th October 2024
6. KPMG. Defining sustainable finance. https://kpmg.com/us/en/articles/2023/defining-sustainable-finance.html . Accessed 4^th October 2024
7. OECD. Sustainable finance. https://www.oecd.org/en/topics/sub-issues/sustainable-finance.html . Accessed 4^th October 2024
8. CII (March 2022). The Rise of Investment in Sustainable Finance. https://ciiblog.in/the-rise-of-investment-in-sustainable-finance/ . Accessed 7^th , 8^th, October 2024
9. European Environment Agency (July 2024). Why is sustainable finance important? https://www.eea.europa.eu/en/about/contact-us/faqs/why-is-sustainable-finance-important . Accessed 7^th October 2024
10. Alex Nicholls (). Sustainable Finance: A Primer and Recent Developments. Asian Development Bank. https://www.adb.org/sites/default/files/institutional-document/691951/ado2021bp-sustainable-finance.pdf . Accessed 4^th October 2024

David Uzsoki (2022). Sustainable Investing. International Institute for Sustainable Development (IISD). https://www.jstor.org/stable/pdf/resrep22000.5.pdf . Accessed October 8^th 2024