BRICS countries must catalyze more finance flows to accelerate the decarbonization of high-emitting industries
Ahead of the 2022 BRICS Summit, the second meeting of BRICS finance ministers and central bank governors was held virtually on June 6, with “financing the transition” being one of the centerpieces.
BRICS countries account for nearly 25% of global GDP and are experiencing rapid industrialization associated with carbon emissions intensities above the global average. Guided by the principle of common but differentiated responsibility, the five developing countries still face immense challenges to decarbonize – to reduce industries such as shipping, aviation, steel, cement and chemicals. .
From a financial perspective, with the climate crisis worsening, an increasing number of financiers and investors are hesitant to finance these carbon-intensive sectors due to fear of policy changes and the risks associated with blocked assets. Meanwhile, financial stability issues and the transition needs of high-emitting sectors are not taken into account.
As a solution, transition finance targets entity- and business-level decarbonization efforts in high-emitting sectors that are largely overlooked by the green finance market.
Decarbonizing the economy is one of the main challenges facing BRICS countries. A matching transition finance scheme has become essential to help hard-to-cut sectors transition to net-zero emissions while preventing “transition washout”. A well-structured system consists of six pillars: a transition taxonomy, disclosure frameworks, transition risk management, suitable financial instruments, political incentives and a just transition mechanism.
Although none of the BRICS countries has introduced a national transition taxonomy or transition disclosure rules, some are moving in this direction. For example, at the local level in China, Huzhou in Zhejiang province has published its local transition finance taxonomy. Russia and South Africa also have plans for transitional national taxonomies in the works. As for financial institutions, the Bank of China and China Construction Bank recently released their transition bond frameworks.
To ensure that the macroeconomy and the financial system can remain resilient to climate change, great importance should be attached to an adequate assessment and appropriate management of transition risks.
The central banks of the BRICS countries have all proposed or implemented relevant macroprudential policies. For example, Brazil’s central bank is requiring banks to incorporate climate risks into their stress tests from July 2022. Central banks in India, China and South Africa have also launched stress tests. Prudential Climate Risk Resilience to assess the extent to which banks are prepared for climate-related transition risks.
This requires a variety of financial instruments to finance the transition trajectories of high-emission sectors. All BRICS countries have developed at least one type of financial instrument for such a transition, for example transition bonds or sustainability bonds (loans). Unlike green bonds and loans, which are intended to raise funds for green projects, transition finance instruments provide funds to help “brown” sectors decarbonize.
For example, in 2021, Indian steel producer JSW Steel issued $500 million in sustainability bonds, with the sustainability performance target to reduce CO2 emissions by 23% by 2030 compared to its 2020 levels.
Effective policy incentives are essential for an orderly low-carbon transition. One of the tools is monetary policy, such as soft loans granted by China’s central bank to banks through a carbon reduction support program; others include carbon pricing tools such as a carbon tax and the emissions trading system, both of which help internalize the external costs of greenhouse gas emissions. China is the only BRICS country to have implemented a national emissions trading scheme, while South Africa is the only BRICS country to have imposed a carbon tax.
As developing countries, BRICS countries face the challenge of finding a balance between decarbonization and just transition. A just transition ensures that transitions away from fossil fuels do not come at the expense of workers’ livelihoods. South Africa, as a coal-dependent country, is moving towards a just transition with international assistance. The country negotiated an $8.5 billion climate finance package as part of a Just Transition Partnership with France, Germany, the United Kingdom, the United States and the European Union. This partnership sets a precedent for international collaboration on just transition efforts.
Going forward, BRICS countries can improve the development of transition finance in the following areas: establishing transition finance taxonomies and regulation of transition disclosure, innovating in various transition finance instruments and promote international cooperation on just transition.
A well-developed taxonomy is essential for channeling funds to transition activities. BRICS countries should establish transitional taxonomies that are not only tailored to their country’s specific needs, but also commendable when compared to international best practices, for example, the transitional taxonomies experienced by jurisdictions such as the European Union, Japan and voluntary guidelines provided by leading organizations such as the International Capital Market Association and Climate Bond Initiative. The G20 working group on sustainable finance has launched the drafting of a framework for financing the transition.
Regulators should strengthen disclosure requirements, including on transition strategies and pathways, technologies, different scopes of greenhouse gas emissions, and use of transition finance proceeds.
In terms of financial instruments, at the current stage, the majority are transition bonds and sustainability bonds. BRICS countries would benefit from a full range of products and various sources of financing, for example, venture capital and private equity to support their transitions.
To ensure a just transition, BRICS countries can leverage bilateral and multilateral grants, loans and technical assistance to catalyze more funding flows. Developing countries would find a just transition less difficult to achieve with the help of multilateral development banks, international organizations and partner countries.
Although funding for the BRICS transition is still in its infancy, it is hoped that with its accelerated pace, the five countries will continue to show leadership in the low-carbon transition and keep the Paris Agreement alive. .
Tang Yingzhi is deputy director of the Green Belt and Road Initiative Center at the International Green Finance Institute. Chen Han is a researcher at the International Institute of Green Finance.
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