Environmental banking, renewable energy projects, and private investments crowd out

Increasing environmental challenges necessitate a global shift from fossil fuels to renewable energy sources within existing energy systems. This shift aligns with global commitments outlined in the 2030 Sustainable Development Agenda and the 2050 net-zero emissions target. Developed countries are transitioning to renewable energy using green and environmental, social, and governance bonds and equity investments to achieve these ambitious goals. However, emerging markets and developing economies (EMDEs) with underdeveloped financial markets and production technologies are facing significant challenges due to constrained financial capacities. EMDEs primarily rely on unfavorable traditional sources, such as sovereign bonds and commercial loans, to finance clean energy projects, often leading to economic trade-offs and causing an unjust energy transition.
This chapter presents the case of Pakistan, where renewable energy projects, particularly hydropower projects, are publicly funded with support from international lenders. These lenders cover only a fraction of the project’s total cost, with the majority financed through the national budget. This reliance has resulted in fiscal deficits and indebtedness, with debt servicing accounting for over half of the federal budget. Additionally, the State Bank of Pakistan (SBP) has extended its role beyond its mandate by setting environmental banking guidelines and facilitating government debt monetization, which has proven inefficient. The SBP’s involvement in financing government debt through market operations has caused price instability and discouraged private-sector investments by increasing borrowing costs, that is, interest rates, and shifting its balance sheet to accommodate increased public-sector borrowing.
This study recommends that the SBP prioritizes the development of environmental banking standards to support a broader range of businesses in integrating green innovations into their production processes, aiming to facilitate, rather than hinder, private-sector participation in the economy. Furthermore, it advocates for the SBP to focus on establishing a comprehensive taxonomy for green bonds rather than facilitating government debts. This strategic shift is intended to cultivate a robust market for sustainable finance, thereby bolstering long-term economic and renewable energy-related environmental resilience in Pakistan.