India’s Rise Brings ESG Risks and Opportunities

Olivia Lankester, Director, Responsible Investing & Sustainability, Federated Hermes Limited

India is expected to add US$3.3 trillion to its GDP in the next seven years – a feat it had previously taken 31 years to achieve – and will likely surpass the likes of Japan, Germany, and the United Kingdom to become the third-largest economy by 2030.

India Is At the Right Place, At the Right Time

As the fifth largest economy and the second largest population in the world, India would have always been a force to be reckoned with, at the right moment. This time around, the stars are aligning in its favour for three reasons.

First is a stable federal government that has over the past few years introduced reforms and structural changes focused on boosting investment and job creation in the formal sector. Key reforms include policies around financial inclusion, direct benefit transfers, and electricity for all; far-reaching economic reforms such as a nationwide goods and services tax to create a unified domestic market and a real estate regulatory act; and market-friendly fiscal priorities such as the Production-Linked Incentives scheme availing manufacturing incentives to 15 key sectors that include green hydrogen, electric batteries, and electric vehicles.

Capital expenditure on roads, railways, airports, and ports is at record levels, and unlike other countries where private digital networks dominate, the Indian government has built a public digital infrastructure in which it continues to invest: India’s United Payments Interface (UPI) is currently the world’s largest real-time payment network, with transactions totalling US$1tn last year.

Further reforms are expected in the coming years, given the likelihood of a re-elected government at the coming 2024 general election owing to Prime Minister Narendra Modi’s high approval ratings.

Second, the Indian population – a growing population that will add 10 million homegrown workers to its labour force each year contributing to a declining dependency ratio – boasts demographics the developed world can only covet. Yet population growth is not its sole attribute. The dynamism of its talent pool has birthed a thriving and conducive start-up ecosystem that has successfully produced over 100 unicorns at last count.

And third, a geopolitical leveller in the form of ‘China + 1’ which is a push for companies to diversify their supply chain away from China, courtesy of US-China tensions. With its non-trivial pool of low-cost, skilled labour and large domestic market, India presents a compelling plus-one over contenders like Vietnam, Mexico, and Malaysia.

ESG Challenges Avail Opportunities

Meeting the energy demands for accelerated growth will doubtless come with an ESG price tag. At present, India is heavily dependent on fossil fuels and is the world’s third-largest oil importer. However, over the next seven years, we will see it transition towards green energy in alignment with its UN Sustainable Development Goals. Fulfilling ambitious commitments to switch half of its installed electric power to non-fossil, and investing in solar and green hydrogen production in the near term will yield greater energy independence for India in the long-term.

Notwithstanding environmental stewardship, opportunities for social inclusion abound such as expanding health insurance coverage for India’s growing middle class and reaching out to the unbanked who need help navigating socio-economic barriers.

ESG-Focused Investing

Rising income levels from a current base of US$2500 per capita, urbanisation, and the shift away from agricultural to better-paying jobs bode well for consumer discretionary spending and penetration levels of goods and services. While domestic investment in financial markets is on the rise, signalling a broadening of the market base; only 5% of the Indian household’s net worth is placed in equities today, presenting room for growth.

The Securities and Exchange Board of India is expected to continue pushing for further ESG disclosures. India’s accelerated growth heightens the risk of disruptive changes to corporate balance sheets in the pursuit of decarbonization, or production risk arising from human rights due diligence that will increasingly accompany the employment of low-cost labour. In the recent Deloitte ESG India Preparedness survey, 88% of businesses surveyed expect ESG regulations to impact their business in the future. Consequently, ESG-focused investing with one eye on robust stewardship and another on corporate risk mitigation would place investors of Indian equity in good stead to ride on its economic boom in the coming decade.