Climate change poses a significant threat to our progress and development. Pakistan recently experienced a devastating flood disaster, displacing over 33 million people, leaving one-seventh without homes, and resulting in over 1300 deaths. Economic losses are estimated at $30 billion. Despite its minimal contribution to global greenhouse gas emissions, Pakistan ranks as the 8th most vulnerable country to climate change, as per the Global Climate Risk Index 2021. The increasing frequency and intensity of climatic events will worsen Pakistan’s situation, establishing harmful feedback loops between climate vulnerability and multidimensional poverty. Hence, it is crucial to ensure that economic development is climate sensitive and aligned with sustainability principles.

Approximately 40% of global carbon emissions stem from energy production, with fossil fuel consumption contributing to roughly 50% of greenhouse gas (GHG) emissions. In Pakistan, the largest share of energy consumption, amounting to 36 percent, is attributed to the industrial sector. Regrettably, a significant number of industrial units exhibit high energy intensity, resulting in notable energy losses across their assembly lines. As a consequence, this gives rise to escalating energy expenditures and diminished productivity. Energy costs, ranging from 20 percent to 50 percent of total production costs in various industrial units, have a detrimental impact on both the financial stability and competitiveness of the Pakistani industry in export markets.

According to OECD, SMEs in particular have immensely impacted by inflation as a result of soaring energy prices worldwide. In Pakistan, the SME segment is faced with multifaceted challenges on top of which the energy crisis compounds. Due to high cost of energy imports and rupee depreciation, inflation peaked around 38% in May 2023. In such a scenario, SMEs are compelled to focus on managing costs and keeping afloat rather than innovation and growth, which is detrimental to entrepreneurship culture.

Support to the SME sector through public and private initiatives must also consider mechanisms that can facilitate a green transition to help SMEs become more resilient and able to weather future market uncertainties and energy-related challenges, while also contributing to GHG reduction and avoidance. SMEDA reports that there is a dearth of awareness and expertise within SMEs regarding energy-saving practices and the acquisition of skills necessary to attain optimal energy management. Hence in addition to fiscal support and financial incentives, capacity building needs must also be considered.

The Alternative and Renewable Energy (ARE) policy was introduced in 2019 with the aim to improve the share of renewable energy in the country’s energy mix to 30% by 2030. In line with this, regulators such as SBP and SECP implemented policies to stimulate local investment towards renewable and green transition projects. On the capital markets front, the SECP issued guidelines in June 2021 for the issuance of green bonds and sukuks in Pakistan. Consistent with this development, Pakistan launched its inaugural Green Eurobond, the Indus Bond, which was oversubscribed by international investors and reached nearly USD 3 billion, demonstrating a significant appetite for Green Bonds in Pakistan. Green bonds can potentially bridge the financing gap by offering dedicated funding for SMEs to upgrade and adopt energy-efficient technologies, renewable energy installations and eco-friendly production processes.

Furthermore, efforts towards sustainability can be propelled through a triple-bottom line focus by financial institutions. The SBP introduced the Green Banking Guidelines in 2017, which emphasize environmental risk management for banks by providing guidelines for banks to develop their own green financing products and services, focusing on risk assessment and mitigation related to environmental issues. This is a key step as incorporating sustainability standards in SME focused financing programs can essentially make them vehicles for promoting climate sustainability. In addition, doing so can make financial intermediaries eligible to receive investment from global climate financiers and then on-lend. This can incentivize businesses to adhere to sustainability requirements to access financing from such programs. For instance, the Green Climate Fund (GCF) is a global vehicle for mobilizing climate finance, a key opportunity for the Pakistani financial sector to take advantage of. Currently, only one corporate bank, JS bank, has been accreditation by GCF in Pakistan.

A major barrier towards green transition is cost. A positive development in this regard has been increased fiscal support towards renewable and energy efficiency in the new budget for FY24. The government has provided relief measures to the renewable energy sector by exempting customs duty on import of equipment and inputs for manufacturing of solar panels, inverters and batteries by producers and assembling units. This has two main implications – one, it promotes the development of a green manufacturing value chain which SMEs can be an important part of, and secondly, it lowers the overall cost of green transitioning for businesses.

In conclusion, Pakistan’s vulnerability to climate change, evident from recent devastating floods, highlights the urgent need for climate-sensitive economic development. The industrial sector’s high energy intensity and escalating costs hinder productivity and competitiveness. SMEs, already grappling with inflation and energy crises, face additional challenges that impede innovation and growth. To support SMEs and promote a green transition, capacity building, fiscal incentives, and financial mechanisms such as green bonds are essential. This demonstrates that while policies and guidelines have resulted in some progress, there is still a lot of ground to be covered in the path towards sustainability and climate resilience.

This article was first published in the Business Recorder supplement on 26^th June 2023.