How transition bonds fuel decarbonisation in high-emission sectors: MC explains

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As the global push for a low-carbon economy intensifies, the focus is increasingly shifting to hard-to-abate sectors such as cement, steel, oil & gas, chemicals, etc. These industries, characterised by high emissions and challenging decarbonisation processes, are now exploring financial instruments like transition bonds to aid their journey towards sustainability.  Earlier, in December 2023, Prime Minister Narendra Modi  had stated that India would require at least $10 trillion by 2070 to achieve its net zero target.

Consequently, an expert committee on climate finance was set up by the IFSCA (International Financial Services Centres Authority) on December 21, 2023, to create a plan for building a climate finance system at GIFT IFSC, with a special emphasis on transition finance.  The committee recently submitted its report and recommendations. A consultation paper about the framework to list such bonds will be out in the coming weeks, Moneycontrol reported on September 13.

But what is transition finance and how can it accelerate decarbonisation in emission-intensive sectors? MC explains:

Transition bonds are a relatively new class of debt instruments designed to support companies in high-emission sectors as they transition towards more sustainable operations. Unlike green bonds, which are typically restricted to financing projects with direct environmental benefits (such as renewable energy), transition bonds provide more flexibility. They can be used to fund initiatives that help companies reduce their carbon footprint , such as investing in cleaner technologies, enhancing energy efficiency, or even altering production processes.

The cement and steel industries are among the largest contributors to global CO₂ emissions. The production processes for these materials are energy-intensive and rely heavily on fossil fuels. While advances in renewable energy have helped make significant progress in decarbonising the power sector, cement and steel production present unique challenges. For instance, the cement industry emits CO₂ not just from fuel combustion but also from the chemical process of calcination. Similarly, steel production relies on carbon-intensive methods, like blast furnaces.

Transitioning these sectors to greener operations requires substantial capital investment. Technologies such as carbon capture, utilisation, and storage (CCUS), hydrogen-based steelmaking, and using alternative materials for cement production look like they will remain costly and complex to implement at scale, which is where transition bonds come in.

Transition bonds provide funding for the adoption of low-carbon technologies such as CCUS in cement and steel production. They support investment in energy-efficient equipment and processes, helping reduce emissions through innovations like electric arc furnaces in steelmaking, and alternative binders in cement production. By facilitating long-term sustainability plans, these bonds help companies meet regulatory demands and stay competitive as carbon costs increase.

The IFSCA is set to release a consultation paper within the next two weeks, laying the foundation for a framework that will guide the issuance of these crucial bonds