With the European Green Deal of December 2019 supporting long-term signals to support green investments, and the proposed European Climate Law as a framework for achieving climate neutrality, low-carbon transition has recently featured prominently in European Union (EU) policy. ‘Greenwashing’ (pretended concern about the environment) and false advertising in the marketing of supposedly ‘green’ products tend to undermine this objective, and these phenomena have therefore come under scrutiny. In particular, the European Commission has adopted an Action Plan on Financing Sustainable Growth, which aims at reorienting capital flows towards sustainable investment, and fostering transparency and long-termism. The Action Plan has engendered three Regulations—‘Disclosure’, ‘Benchmark’, and ‘Taxonomy’—between 2019 and 2021. The new legal framework represents a worthwhile beginning, but it is not yet fully mature.
The Disclosure Regulation, the Communication from the Commission on Reporting Climate-Related Information, and soft law principles targeting green bonds specifically, have together updated the 2014 requirements on non-financial information. They have increased transparency at almost all levels in the financial value-chain: issuers, investment funds, pension funds, and hedge funds, financial advisors, asset managers (all recognized as ‘financial market participants’ in the Regulation) and rating agencies.
In addition, in order to facilitate investors’ access to data, the Commission has announced in its Capital Markets Union New Action Plan the establishment of a European Single Access Point for financial and non-financial information publicly disclosed by companies.
The low-carbon Benchmark Regulation sets out the requirements for ‘EU Climate Transition Benchmarks’ and ‘EU Paris-aligned Benchmarks’, while the Taxonomy Regulation establishes a unified EU classification system to label economic activity as environmentally sustainable. The Taxonomy Regulation makes clear which economic activities contribute most to meeting the EU’s environmental objectives, and thereby guides—or nudges—investors towards ‘green’ investments (on the model of energy consumption labelling, and its colour-gradient). Under Article 8(1) of the Taxonomy Regulation, certain large undertakings that were previously required to publish non-financial information pursuant to the Non-Financial Reporting Directive, are now required to disclose information to the public on how and to what extent their activities are associated with environmentally sustainable economic activities. SMEs, non-EU companies can of course decide to disclose information on a voluntary basis for the purpose of getting access to sustainable financing or for other business-related reasons. By December 31, 2021 the Commission will report on how to label ‘brown’ activities that significantly harm environmental sustainability, as well as activities that have low impact. The EU’s green finance taxonomy is, in other words, directed at avoiding greenwashing by establishing criteria for activities and financial instruments that claim to be environmentally sustainable or to contribute to a social objective.
This legal framework lays some groundwork for comparisons and sound decision-making on behalf of investors. However, more needs to be done in terms of standardising what is reported. In practice, the way environmental information reaches capital markets remains a sticking point. Labels, indices, and principles drawn up by various uncoordinated for-profit and non-profit organizations have multiplied, creating complexity and confusion for companies and investors. Yet, as stressed by Robert Eccles, nonfinancial information that is of the same rigor and relevance as financial information, and that is also subject to the same degree of auditability, is indispensable for capital markets to operate sustainably.
Standards for nonfinancial information for companies’ environmental (as well as social, and governance) performance are important: like accounting standards, they are accepted simplified constructs to represent a company’s performance. Though imperfect (and evolving), standards enable comparability (without preventing additional information to be provided) and only fulfil their role in practice if they are mandatory. The European Financial Reporting Advisory Group’s Project Task Force issued its final report to prepare for ‘the elaboration of possible EU non-financial reporting standards in a revised EU Non-Financial Reporting Directive’. The European Union plans to announce its standards in April 2022. However, because economy is global, what is really needed are standards that are also global, in addition to being independent and rigorous.
The EU has shown an interest in building up an international forum: with seven countries representing 55 % of the world’s greenhouse gas emissions and half of the world’s population and GDP, the EU launched the International Platform on Sustainable Finance (IPSF). Although the IPSF is not a standard-setting body, its work is aimed at preparing the ground for the international standard setters to develop globally applicable sustainable finance standards. As noted in the first IPSF annual report, the absence of coherent definitions of green investments (taxonomies) at the global level, and the low degree of standardisation of reporting, represent a limit to green and sustainable finance worldwide. Around the world, several countries have drawn up roadmaps for sustainable finance; various public and private bodies have also introduced frameworks to enhance standardisation. However, these uncoordinated initiatives tend to reflect local priorities and stages of market development: they cause fragmentation.
The need to overcome this situation is also recognised in the EU-US agenda for global change announced a few weeks after the election of Joe Biden. The transatlantic initiative contemplates jointly designing a global regulatory framework for sustainable finance, based on the experience of the EU taxonomy. This illustrates the leading role that Europe is in a position to play as other major economies start to prioritize a coordinated response to climate change.
There is obviously a risk that collective action fails and that each entity insists on imposing its own standards rather than working towards global ones. In particular, there is a risk that the EU decides that because it can mandate standards, it should do so. Unless these are endorsed by market forces, such standards might trigger a mere compliance exercise, with little benefit to companies, investors and society as a whole.
If, however, the EU recognizes that it could be at the forefront of an international effort to help global standards emerge, it will be able to foster joint work with other bodies, such as the Impact Management Project, which has engaged in an effort to reconcile the various sets of existing standards, the World Economic Forum International Business Council, which can harness commitment from the corporate community, and the Sustainability Standards Board established in September 2020 to sit alongside the International Accounting Standards Board and engage in a similar role establishing international reporting standards. Were the EU to take on the role of midwife, it could deliver to the world standards for nonfinancial information that US and Asian companies will adopt.
This post is part of the series ‘Business Law and the Transition to a Net Zero Carbon Economy’. This series consists mainly of posts summarizing papers presented and presentations made at the 5th Annual Oxford Business Law Blog conference on ‘Business Law and the Transition to a Net Zero Carbon Economy’ which took place online on 25 to 27 May 2021. The recordings are available here. This post is forthcoming in Andreas Engert, Luca Enriques, Georg Ringe, Umakanth Varottil and Thom Wetzer (eds), Business Law and the Transition to a Net Zero Carbon Economy (CH Beck - Hart Publishing 2021) (forthcoming).
Geneviève Helleringer is a Lecturer in French Law and Business Law at the Institute of European and Comparative Law (IECL) of the Oxford Law Faculty and a fellow of St Catherine’s College. She is an associate law professor at Essec Business School and an ECGI research member.