Sun rises on the role of Islamic financial institutions in green transformation

Photo: Sun rises behind solar panels. Diyana Dimitrova/Shutterstock

Key players in the global Islamic economy are dedicating larger proportions of new funding to climate change mitigation initiatives even as regulatory and policy frameworks evolve to keep pace with emerging requirements.

“I expect to see an increase over time in support from Islamic finance for the green transition. The Islamic Development Bank (IDB) has become much more active in financing climate change mitigation and adaptation projects,” Blake Goud, CEO of UK-based think tank the Responsible Finance and Investment (RFI) Foundation told Salaam Gateway.

The Organisation of Islamic Cooperation’s (OIC) multilateral development bank IDB has channeled around $2.75 billion in financing to renewable energy projects and 6 percent of its operations have been allocated to climate change mitigating projects, according to a document from its research arm the Islamic Research and Training Institute (IRTI).

In 2016,  IDB directed 16 percent of new financing to climate change mitigation and adaptation projects such as hydropower plants and urban transportation, and its private sector arm, the Islamic Corporation for the Development of the Private Sector (ICD) has participated in financing Africa’s largest solar power project being constructed in Egypt.

Capacity- and industry infrastructure-building are in the works. RFI is currently undertaking research that will be used to guide future capacity-building efforts with Islamic financial institutions and international organisations, and globally, the regulatory framework and policies for climate change are still evolving.

“We’ve seen some really good progress with initiatives such as the Task Force for Climate-related Financial Disclosures (TCFD),” said Goud. He added that the Bank of England has been at the forefront of the TCFD at the same time as it expands work to enable Islamic finance to operate without obstacle.

MALAYSIA

In Muslim-majority countries, Bank Negara Malaysia, the central bank, issued a Strategy Paper on Value-Based Intermediation (VBI) in July this year, which Goud highlights as another step forward for the green transformation in the Islamic economy. “[I]n part, [the VBI] will encourage Islamic banks to more explicitly incorporate environmental and social factors in their business,” said Goud. However, while a step forward, the VBI is a non-regulatory initiative that financial institutions volunteer to be a part of.

In the capital markets, Malaysia’s Securities Commission (SC) is currently working on a regulatory framework for Shariah-compliant Sustainable and Responsible Investment (SRI) funds, which is scheduled to be released at the end of this year. This follows SC’s SRI Sukuk framework that was released in 2014.

UAE

In the UAE, where solar projects have seen support of Islamic institutions, the Ministry of Climate Change and Environment (MoCCAE) counts technology, finance and policy as the three key enablers for greening the economy.

“Attracting private sector finance is an ultimate factor to make this massive-scale green investment possible for the UAE’s sustainable future,” Aisha Mohamed Abdullah Al Abdooli, Director of MoCCAE’s Green Development Department, said in a speech during the eighth Green Leadership Series on October 3 in Dubai.

“Therefore, our ministry started a series of engagements with the country’s leading financial institutions to raise awareness and share knowledge of sustainable finance, in collaboration with the Central Bank of the UAE, as well as international partners such as the United Nations Environment Finance Initiative,” added Al Abdooli.

The Dubai Declaration on Sustainable Finance, launched at the United Nations Environment Programme Finance Initiative (UNEP FI) 2016 Global Roundtable, had 32 signatories committed to supporting the UAE’s transition to a green economy. 11 were local financial institutions that pledged their support to enable “a climate-resilient, inclusive green economy and sustainable development” of UAE. 

In June 2017, it was announced that the third phase of the Mohammed Bin Rashid Al Maktoum Solar Park in the UAE has been backed by seven institutions and includes Shariah-compliant funding. Union National Bank, the Islamic Development Bank and the Arab Petroleum Investments Corporation (APICORP), the commercial banks of Natixis from France, Siemens Bank from Germany, Korea Development Bank, and Canada's export credit agency, Export Development Canada (EDC) have come together for the project.

COMING TOGETHER

Partnerships are likely to characterise much of the work being undertaken in the green economy after the 21st Conference of Parties, or COP21, held in Paris in December 2015 when the private sector emerged as a significant collaborator.

COP21 not only brought together 196 countries in a pledge to take action to keep global warming to under 2 degrees Celsius – the threshold beyond which scientists caution irreversible warming and planetary change will occur – but, for the first time, also included the private sector in an active role.

Signatories have pledged to unlock a minimum of  $100 billion worth of financing per year from 2020 onwards. Financial institutions including Crédit Agricole CIB and BNP Paribas, along with Bank of America and HSBC, pledged to make available billions in investment over the next 15 years for the purpose.

A $335 million financing package for Scatec Solar’s 300 MWAC projects for the solar plant in Egypt has been announced by European Bank for Reconstruction and Development (EBRD) and its partners, including Islamic financial institutions, on October 20, 2017.

Funding consisting of a $235 million loan from EBRD includes a $48 million contribution by the Green Climate Fund (GCF), a global fund to support developing countries’ efforts to mitigate climate change, and $72 million from the Dutch development bank FMO.

The IDB and ICD will extend $75 million and $25 million respectively to support the Norwegian developer Scatec Solar and its partners in constructing a portfolio of six 50 MWAC solar plants at the Benban complex in Upper Egypt, which is scheduled for completion in 2018, according to local media. It will be the largest solar installation in Africa with a planned total capacity of 1.8 GW.

The project in Egypt is part of EBRD’s $500 million framework for renewable energy, which is expected to finance a total of 16 projects delivering 750 MW of capacity in the country, demonstrating the convergence of private sector and public sector, along with overlapping roles for Islamic and conventional financial institutions.

GAPS

Still, much more needs to be done to ensure that financial institutions can contribute to the transition to the green economy.

“One of the key needs we have identified is a lack of awareness of the green transition as a beneficial development both within the ethical value proposition of Islamic finance but also from a financial perspective,” said Goud.

“Sharing information about the connection of ethical and financial interests, as well as regulatory encouragement, helps to build the buy-in from high levels within the Islamic financial industry that is required to respond to the ethical, environmental and economic imperatives around green finance,” he added.

Islamic financial institutions already have a lot to keep up with as a result of rapidly evolving global financial regulatory infrastructure.

“There are a lot of things that Islamic financial institutions have to deal with from the introduction of Basel III rules, changes in IFRS that can affect their financial performance as well as the green transformation.

There is a range of approaches being taken and some institutions are more proactive on green finance than others. It really depends on how they balance the different issues they are facing,” said Goud.

“That being said, there is a cost to not being proactive on green finance that Islamic financial institutions are having to balance against the other regulatory, macroeconomic and accounting issues they face,” he added.

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