Kathmandu. In the microfinance sector of Nepal, climate finance is not just a matter of environmental protection or social responsibility. It is a strategic opportunity linked to the protection of the client’s business, the reduction of credit risk and the long-term sustainability of the institution. Due to climate change, floods, landslides, droughts, hailstorms, erratic rainfall and temperature rise are directly affecting the rural economy. In particular, customers of microfinance dependent on agriculture, animal husbandry, small enterprises and daily wages are at high risk from the problems created by climate change.

This class is considered to be the most vulnerable to climate-related disasters and disasters as the customers involved in microfinance are the poorest, poor, insecure, living in remote areas and vulnerable areas, having limited financial resources, and are directly dependent on nature, environment and weather for livelihood. Therefore, there is a need for microfinance institutions to adopt the concept of climate resilient microfinance not only limited to traditional credit flow and risk management.

Climate finance refers to the financial resources that are mobilized to mitigate, adapt, and recover from the effects of climate change. In microfinance, five main areas of climate finance have been identified as follows.

1. Climate Adaptation Finance

Climate Adaptation Finance means providing financial assistance to customers to cope with risks such as droughts, erratic rainfalls, floods, landslides, and water scarcity caused by climate change. Its main objective is to make agriculture and other livelihood activities resilient to the effects of climate change. For example, loans for drip irrigation and rainwater harvesting systems, climate-resilient seeds, loans for rural agricultural technology and protected farming, financial assistance for the development of drought-tolerant agricultural systems, safe agricultural infrastructure to reduce the risk of floods and landslides, improved cattle sheds, loans for water harvesting and grass cultivation, loans for setting up agricultural produce storage and cooling centers, etc. For example, if vegetable farming is being affected due to water scarcity in a rural area, a microfinance institution can provide loans to farmers to install drip irrigation systems at an individual or collective level.

2. Climate Change Mitigation Finance

Climate Change Mitigation Finance means providing financial support for activities that reduce greenhouse gas emissions, increase the use of clean energy, and promote environment-friendly technologies. Its main objective is to promote low-carbon economic activities by reducing dependence on traditional fuels. For this, microfinance financial institutions can extend loans and conduct awareness programs for solar energy systems, electrical/improved stoves, installation of biogas plants, electric agricultural equipment, clean tempo, organic fertilizer production and organic agricultural products without chemical fertilizers÷pesticide. This can also contribute to climate change mitigation by reducing the cost of production of customers and reducing dependence on traditional fossil fuels.

3. Disaster Rehabilitation Finance

Disaster Rehabilitation Finance includes financial products that help customers to resume their business after being damaged by a disaster. Instead of keeping the customers in distress in the old loan recovery process, the actual damage should be assessed and the necessary financial resources should be provided for loan renewal, appropriate restructuring, and starting a new business. For example, loans can be provided for the rehabilitation of shops damaged by floods, loans for livestock farmers affected by landslides, seasonal loan restructuring for farmers who have lost crops, concessional loans for business resumption and limited amount of money can be withdrawn in case of emergencies. This will not only protect the customer but also increase the possibility of recovering the at-risk loan in the future.

4. Climate Risk Insurance

Microfinance financial institutions can collaborate with insurance companies to help reduce the climate risk of the customer. This includes crop insurance, livestock insurance, weather index-based insurance, suitable insurance for calamity-affected small businesses, and financial protection plans linked to life and accident insurance as needed. For example, if the predetermined index of rainfall or temperature in a certain area goes beyond the prescribed limit, the customer can get compensation as per the terms of the policy.

5. Green Venture Finance

Green venture finance refers to the financial support provided for the establishment, operation and expansion of businesses that contribute to environmental protection, sustainable use of natural resources and mitigation of the effects of climate change. Microfinance institutions can promote economic self-sufficiency and environmental protection simultaneously by providing loans to entrepreneurs in rural areas to invest in such businesses. For example, organic farming, nursery and fruit farming, herbal production and processing, storage of agricultural produce, waste management and reuse, sustainable tourism and enterprises based on renewable resources such as bamboo and reeds can be prioritized.

This type of financial service helps in the creation of local jobs, the development of rural entrepreneurship, the conservation of natural resources, and the climate resilience of the community. In addition, microfinance institutions should also emphasize the selection of appropriate business, technical consulting, and regular monitoring to ensure the effective utilization of such loans.

Climate Resilience

Climate resilience is the ability to withstand the negative effects of disasters (such as droughts, floods, landslides, or unnatural rainfall), reduce potential damage, and return to normal as quickly as possible.

1. Customer Resilience

Since smallholder farmers and low-income consumers are the most affected by climate-related disasters, increasing their risk tolerance is a top priority. For this, microfinance should not only rely on agriculture but should be encouraged to look for alternative sources of income (income diversification). In addition, customers can be financially secure and empowered by providing drought and flood-tolerant seeds, adaptive technologies such as drip irrigation, crop and livestock insurance, and weather forecasting and preparing in advance for the potential impact on the customer’s business due to disasters.

2. Resilience of Debt Portfolio

If the customer is unable to repay the loan due to a disaster, the bad debt of the organization increases and creates financial risk. To reduce this risk, the organization should map the climate risk by showing which geography or branch areas are at high risk of floods and landslides. Before issuing loans, the climate risk should be analyzed, loans should be diversified into different businesses and geographies without investing too much in the same area, and the impact of the organization’s recovery in the event of a major disaster.

3. Institutional Resilience

The organization should be institutionally capable of carrying out the day-to-day operations and financial services of the organization even during emergencies or disasters. For this, the organization should have a clear business continuity plan and promote cloud or secure backup and digital banking services to keep the data safe even if physical documents or local servers are destroyed. In addition, it is necessary to enhance the disaster management capacity of the employees to help the customers and protect the organization in case of an emergency.

Conclusion

To link climate finance to microfinance institutions’ profitability and debt recovery, it should be understood not just as a social responsibility program but as a strategic investment to enhance the customer’s business resilience and the financial sustainability of the institution. Increasing access to irrigation, climate-friendly technology and crop insurance, investing in improved livestock farming, animal health care and water management, and supporting debt restructuring and restructuring in response to the customer’s cash flow after a disaster can help to maintain customer income and improve loan repayment capacity. Similarly, expanding access to insurance and financial security facilities, mapping climate risk, diversification of loan portfolios, and developing digital services and business continuity systems can help reduce the operating costs and risks of the organization along with customer protection. Thus, the ability to secure the client’s business, stabilize income, and strengthen loan repayment capacity can reduce bad loans, improve debt recovery, and have a positive impact on the organization’s profitability and financial stability. However, climate finance does not automatically reduce bad debt. Its impact depends on the quality of credit, the choice of appropriate customers, market access, the effectiveness of insurance, the debt structure and effective implementation.

Future Directions

Microfinance institutions in Nepal should adopt a phased and pragmatic strategy to implement climate finance instead of starting multiple financial products at once. First, the organization should evaluate the risks of floods, landslides, droughts, excessive rains and other climate-related risks in the work area of all the branches and identify the impact of past disasters on the customer’s business and loan repayment capacity. After that, the customers should be classified on the basis of agriculture, animal husbandry, trade, small industries, and their climate risk and financial needs. Based on this, a clear green finance policy should be prepared regarding the definition of green loans, areas of eligible investment, customer selection, risk assessment, loan monitoring and reporting. Finally, on the basis of geographical risk, customer needs and the efficiency of the branch, some branches should be selected and programs such as irrigation, climate-resilient agriculture, animal husbandry improvement and access to insurance should be conducted on a trial basis, based on the results of which the program can be expanded in the next phase.

Di Dhakal, (Deputy Chief Executive Officer, Kalika Microfinance Financial Institution Limited)