So much has changed during the past year and a half since the COVID-19 pandemic spread globally. It has been with this backdrop that sustainable finance has moved significantly onto center stage. The outlook I made in IFN’s special report on coronavirus on the 15th April 2020 has held up rather well. I wrote that: “The challenge we face in the future is that even knowing what could happen, we face a few ways to individually mitigate the impacts ahead of time. These are systematic risks and they resist our efforts to reduce the impact on an individual level with diversification [unlike ESG]. This is the common thread that highlights similarities between the impact of the pandemic with the impact of climate change.”
Reviewing what has happened since the start of the pandemic, including many developments this year, there are some significant steps forward. Writing this on the eve of the COP26 conference in Glasgow, the direction of travel is right but the speed — as rapid as it has become — remains too slow compared to the problems we seek to tackle and the challenges we will face in addressing them.
Review of 2021
One of the distinctive and welcome changes that sustainable Islamic finance saw during the past year has been the expanding geographical footprint of the changes. At the start of 2021, Bangladesh Bank, which has been active in issuing sustainable financing policies for the past decade, followed up a sustainable finance policy update with a mandate for banks to direct 2% of financing to green and 15% to sustainable projects.
This step-up in policy was followed in other countries; in February Indonesia’s Otoritas Jasa Keuangan (OJK) released Phase 2 of its Sustainable Finance Roadmap that announced the release of a draft taxonomy in 2022. In September 2020, OJK had relaxed credit assessments and risk calculations for electric vehicle purchases and companies involved in electric vehicle manufacturing.
A report released in February 2021 from the RFI Foundation estimated that a large proportion of greenhouse gas emissions linked to household financing in Indonesia, including from Shariah banks, was due to the purchase of cars and motorbikes. Subsequently, Indonesia’s energy ministry announced targets to make all new motorbikes and cars to only be electric-powered by 2040 and 2050 respectively.
The March to June period saw significant issuance of sustainable Sukuk from the IsDB and the government of Malaysia, raising US$2.5 billion and US$800 million respectively. Indonesia returned to the market at the end of May for its longest tenor (30 years) of green Sukuk. At the same time in Sudan, a company also launched a small green Sukuk facility to fund renewable energy projects.
Developments over the summer returned to Malaysia where regulatory encouragement for banks, including Islamic banks, to consider climate risks was on the rise. In a speech at the Joint Committee on Climate Change’s flagship event, Bank Negara Malaysia (BNM) Governor Nor Shamsiah Mohd Yunus described BNM’s efforts to increase consideration of climate-related financial risks in banks’ risk management approaches.
Nor Shamsiah warned that the bank would use the tools it has available, including Pillar 2 capital requirements and supervisory assessments for ‘outlier’ banks on climate risk management. She further laid out a four-year target for BNM to conduct climate-related stress tests of the financial industry in Malaysia and previewed announcements of a time frame for mandatory climate-related financial risk disclosures from Malaysian banks. This includes classification and reporting of lending and investing activities in line with the Climate Change and Principle-based Taxonomy by July 2022.
Capital market activity continued with the release of APICORP’s green Sukuk framework that is expected to lead to green Sukuk issuance next year. Meanwhile, Bangladesh saw the country’s first green Sukuk wrapping up in October and Turkey saw the issuance of the first environmental, social and governance (ESG)-linked sustainability Sukuk from Kuveyt Turk. Malaysia returned to the spotlight in September and October with the announcement of a national ‘Net Zero by 2050’ target and new sectoral guides from the Value-based Intermediation Community of Practitioners on oil and gas, construction and infrastructure and manufacturing.
Subsequently, the rush toward Glasgow continued with major announcements of national net zero targets by the UAE (2050) and Saudi Arabia (2060), and targets in Pakistan to cease importing coal, increase renewable energy share to 60% and electric vehicle share to 30% all by 2030. At the time of writing, the remainder of the year is likely to continue the pace of new announcements on sustainable finance, although some announcements may subside after COP26 wraps up in November.
Preview of 2022
The impact of the COVID-19 pandemic led to a sea change in the way that ESG and climate risks were perceived around the world, including in Islamic markets. As we have seen over the last year, not all of the changes that will influence Islamic finance in 2022 are narrowly constrained to what is happening in that market; the wider context matters.
As the ratchet mechanism in the Paris Agreement continues to focus efforts toward greater ambition over time, it seems inevitable that more green Sukuk, financing and other social, sustainable and transition financing will be issued. Climate change is where most of the efforts on sustainable finance have garnered headlines, but at the same time, Islamic financial institutions — including banks, asset owners and asset managers — are progressing on their understanding and integration of ESG data.
This expanding focus on ESG, climate change and public health issues is likely to continue in 2022 while the COVID-19 pandemic remains with us. Other systemic issues besides public health and climate change — namely natural capital and biodiversity — seem poised to gain attention as regulatory frameworks designed for climate-related financial risks are being adapted for nature-related risks too.
This should be the landscape where Islamic finance can thrive and separate itself because of its connection to a strong underlying ethical purpose. It will require significant effort to manage the technical side of ESG-, climate- and nature-related issues but the new year should be the time for Islamic finance to shine within sustainable and responsible finance.
Blake Goud is CEO of the Responsible Finance & Investment (RFI) Foundation. He can be contacted at [email protected]