IIM Lucknow Faculty Study underscores Green Lending’s Role in Strengthening Indian Banks Stability

The study offers compelling evidence that banks with a higher proportion of green loans experience long-term improvements in financial stability, reinforcing the strategic significance of sustainable lending within India's banking system.

Indian Institute of Management Lucknow (IIM Lucknow) in its latest study talks about the importance of expanding non-carbon-intensive lending to improve the core of loan portfolios in Indian banks. The study offers compelling evidence that banks with a higher proportion of green loans experience long-term improvements in financial stability, reinforcing the strategic significance of sustainable lending within India's banking system. The findings were published in the prestigious Finance Research Letters journal, co-authored by Professor Vikas Srivastava, Professor Sowmya Subramaniam, and Vidya Mahadevan.

Key Findings: Green Loans Improve Credit Quality

The research emphasizes that a shift toward green lending can lead to substantial long-term financial benefits for Indian banks. The study identifies a non-linear, inverted U-shaped relationship between non-carbon-intensive lending and Non-Performing Loans (NPLs). While the initial benefits may not be apparent at lower levels of green lending, once a critical mass of green asset lending is achieved, the overall credit quality of the banks improves significantly.

IIM Lucknow’s Green Lending Framework: Step Towards Sustainability

One of the core contributions of this study is its framework designed to identify non-carbon-intensive sectors and assess their impact on a bank's loan portfolio quality. This framework not only addresses gaps in India’s current green lending practices but also paves the way for Indian banks to optimize their credit allocation strategies. The research provides a ranking system for Indian banks based on the sustainability of their credit portfolios, placing particular emphasis on non-carbon-intensive loans.

Challenges in Green Lending: Need for Standardization and Regulatory Support

Despite global initiatives to standardize frameworks for green lending, the study highlights significant gaps in incentives, particularly in developing economies like India. Many Indian banks remain heavily dependent on lending to carbon-intensive industries due to the absence of a clear taxonomy to identify and promote green assets. The study points out that without proper regulatory nudges and a structured green taxonomy, banks may continue to face challenges in adopting sustainable lending practices.

The Role of Indian Banks in Transforming the Economy Towards Sustainability

The authors of the study argue that Indian banks have a critical role to play in transitioning the country towards a low-carbon economy. By increasing lending to non-carbon-intensive sectors, banks can reduce default risks, align with global sustainability goals, and contribute to long-term economic resilience. These efforts would not only boost financial stability but also enhance competitiveness within the Indian banking sector.

Insights for Regulators and Bank Management

The authors stress the importance of optimizing the credit portfolio by increasing green lending. They believe that this research can help the top management of banks focus on this asset class as a strategic opportunity for sustainable growth across their credit teams. The findings suggest that regulators should consider introducing policies that nudge banks toward green finance, ensuring a shift towards more sustainable banking practices.

Critical Findings of the Research:

• Green Lending Improves Loan Portfolio Quality: The study establishes that green lending, once reaching a critical mass, leads to improved loan portfolio quality by reducing Non-Performing Loans (NPLs). A well-balanced portfolio can significantly strengthen the overall financial stability of banks.
• Need for Standardized Green Taxonomy: The research highlights that a standardized green taxonomy is essential for guiding banks in sustainable lending. A structured classification framework will categorize economic sectors based on their carbon intensity, helping banks implement appropriate credit interventions.
• Urgency for Policy Interventions: The study underlines the need for policy interventions to support sustainable finance in India. Indian banks must diversify their credit portfolios to minimize risks from climate change and carbon-intensive industries, but without clear regulatory guidance, banks may be hesitant to fully embrace green lending practices.

IIM Lucknow’s research provides a data-driven framework for integrating green finance into mainstream banking operations. The study’s findings are a timely reminder of the urgent need for regulatory support to enable Indian banks to continue contributing to a more sustainable future while remaining financially resilient. This research can significantly shape future credit allocation strategies, ensuring that Indian banks remain at the forefront of sustainable banking globally.

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