Governing sustainable finance: insights from Indonesia

ABSTRACT

Transforming financial systems has been considered a promising avenue to ensure financial flows consistent with low carbon and climate resilient development. An important first step to do so has often been the development of sustainable finance roadmaps. Drawing on key stakeholder interviews in Indonesia in 2019–2020, this article examines how Indonesia’s sustainable finance roadmap has unfolded on the ground and investigates key challenges to its effective implementation. The study finds that there has been high procedural compliance by financial institutions through developing sustainable finance action plans and submitting annual sustainability reports to the financial regulator. However, there is considerable variation and inconsistency in interpreting what constitutes a ‘green’ project among financial institutions, enabling some financial institutions to engage in little more than tokenism. With the limited regulatory oversight currently provided, it is difficult to see how financial institutions might be incentivised to do more or how tangible sustainability outcomes can be achieved. This article proposes potential means of overcoming some of the blockages in implementing the roadmap, which include greater intervention to incentivise climate finance by Indonesia’s central bank.

Key policy insights

• Indonesia’s sustainable finance roadmap is well underway in which most financial institutions have been compliant to sustainable finance regulations. However, with limited substantive regulatory oversight it is difficult to see tangible sustainable outcomes;

• Sustainable finance regulations and regulatory oversight needs to be improved through enhanced disclosure standards and risk management processes and incentives for compliance;

• Greater intervention by Indonesia’s central bank is needed to fast-track sustainable finance by stipulating green macro prudential regulations that incentivise or direct resources away from carbon intensive sector.

KEYWORDS:

• Governance
• climate finance
• sustainable finance roadmap
• low carbon development
• Indonesia

Disclosure statement

No potential conflict of interest was reported by the author(s).

Notes

1 http://www.lse.ac.uk/GranthamInstitute/news/climate-ambition-depends-on-finance-and-finance-follows-ambition/

2 For the purposes of this article, sustainable finance is understood as any form of financial services that goes beyond ‘business as usual’ through integrating environment, social and governance criteria into business and investment decisions (Edwards et al., 2019). While climate finance is understood as ‘finance that aims at reducing emissions and enhancing sinks of greenhouse gases and aims at reducing vulnerability of, and maintaining and increasing the resilience of, human and ecological systems to negative climate change impacts.’ (UNFCCC, 2014). Although this article examines the sustainable finance roadmap, I primarily focus on interrogating initiatives related to climate finance for a sharper analytical focus.

3 Carney (2015) defines three risks posed by climate change to the financial sector: 1) Physical risk refers to the impacts today on insurance liabilities and the value of financial assets caused by climate change (e.g. disasters) which could damage property or disrupt trade; 2) Liability risk refers to the future impacts when parties who have suffered loss and damage due to climate change impacts seek compensation from those hold responsible; 3) Transition risk refers to the financial risks caused by the process to transition to low carbon economy (e.g. the reassessment of asset values due to the change in policies).

4 Green lending refers to any lending instruments to finance projects aimed at mitigating and adapting to climate change such as renewable energy, energy efficiency, climate adaptation, waste management, among others.

5 SBN is an international informal network of financial regulators and banking association to develop sustainable banking policies, guidelines and practices.

6 OJK is an independent regulatory body with the mandate to regulate and supervise the financial sector in Indonesia that include banks, capital market, and non-bank financial institution such as pension funds, insurance and others. OJK reports to the parliament. With the establishment of OJK, the central bank’s role focuses on macroprudential regulation.

7 OJK categorizes financial institutions based on the amount of their core capital which includes: Book I (below IDR 1 trillion), Book II (IDR 1–5 trillions), Book III (IDR 5–30 trillions) and Book IV (above IDR 30 trillions). These financial institutions are mandated to comply with the sustainable finance roadmap in steps, starting with Book III and IV categories.

8 Interview financial institution representative #1 (6/2/2020).

9 Interview NGO representative #1 (15/03/2019).

10 Interview with bank representative #2 (7/02/20).

11 Environment Social and Governance (ESG) is a criterion included in sustainable and responsible investment to influence the environment, society and companies’ governance issues in a positive manner.

12 Environmental Impact Assessment (or AMDAL) is a process of evaluating potential environmental impacts of a proposed project/development which considers socio-economic, cultural and health impacts. Once the process completed and approved by the government, the business entity carried out AMDAL would receive the license.

13 Interview researcher #3, 30/03/2020 and researcher #4 (30/03/2020).

14 Interview financial institutions #3 and #4 (4/2/2020).

15 Interview government officer #1 (11/3/2019).

16 Interview government officer #2 (17/03/20).

Additional information

Funding

This work was supported by Australian National University [Asia Pacific Innovation Program/APIP]; Department of Foreign Affairs and Trade, Australian Government.