IIM Lucknow Study Highlights Green Lending’s Role in Strengthening Banks’ Financial Stability

Lucknow: A new study by faculty members at the Indian Institute of Management (IIM) Lucknow has underscored the crucial role of green lending in enhancing the financial stability of Indian banks.

The research, published in Finance Research Letters, presents a compelling case for increasing non-carbon-intensive loans in banking portfolios, demonstrating their long-term benefits for the financial sector.

For the first time, the study has ranked Indian banks based on the sustainability of their credit portfolios, with a particular focus on non-carbon-intensive lending. This evaluation offers valuable insights into how financial institutions can align their credit allocation strategies with environmental sustainability while maintaining economic resilience.

Green Loans Improve Bank Stability

Conducted by Prof Vikas Srivastava, ONGC Chair Professor, Prof Sowmya Subramaniam, Associate Professor of Finance and Accounting, and research scholar Vidya Mahadevan, the study identifies a direct link between green lending and a bank’s financial stability.

According to the research, banks with a higher proportion of non-carbon-intensive loans experience significant long-term improvements in loan portfolio quality, ultimately reducing default risks.

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The findings highlight a non-linear, inverted U-shaped relationship between non-carbon-intensive lending and Non-Performing Loans (NPLs).

While the immediate benefits may not be apparent at lower levels of green lending, the study shows that once a critical threshold is reached, the overall credit quality of banks improves substantially.

Need for a Standardized Green Taxonomy

Despite global efforts to promote sustainable finance, Indian banks continue to face challenges in green lending due to the lack of a standardized taxonomy for identifying and promoting non-carbon-intensive assets.

The study addresses this gap by proposing a structured classification framework that categorizes economic sectors based on carbon intensity. Such a framework would provide much-needed clarity and enable banks to optimize their credit interventions effectively.

“An optimized credit portfolio with a significant proportion of green assets can enhance banks’ competitiveness while contributing to national and global sustainability goals,” the study’s authors stated. They emphasized that regulators must consider introducing policy nudges to encourage banks to adopt sustainable lending practices more proactively.

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Green Lending: Catalyst for Low-Carbon Economy

The study argues that Indian banks have the potential to act as catalysts in steering the economy toward a low-carbon future. By increasing their exposure to non-carbon-intensive sectors, banks can not only mitigate financial risks but also align themselves with global sustainability targets.

However, without regulatory support, banks may struggle to integrate green finance into their mainstream operations.

With Indian banks heavily reliant on lending to carbon-intensive industries, the study suggests that a shift towards sustainability-focused credit portfolios can help mitigate climate-related financial risks. This transition will require a combination of regulatory interventions, incentives, and a well-defined green finance framework.

By providing a data-driven model for incorporating green lending into banking operations, IIM Lucknow’s research presents a roadmap for ensuring financial stability while supporting the country’s broader sustainability objectives.

The study’s findings are expected to inform policymakers, banking executives and regulatory authorities as they work toward integrating green finance into India’s financial ecosystem.