ESG from a European perspective
Note: Judith Bussé will make a presentation on this subject at ICPHSO 2021 virtual workshop in North America June 23, 2021 at 9 a.m. ET.
The COVID-19 pandemic has made it clearer than ever that there is a pressing global need for a coherent, sustainable, social and climate-friendly business and governance model for private and public companies. In line with the UN Sustainable Development Goals (2015) and the Paris Agreement on Climate Change (2015), Europe has set itself the ambitious goal of reducing its emissions by at least 50% of ‘by 2030 and achieve climate neutrality by 2050.
Recent EU initiatives have repeatedly shown a willingness to give ESG a central role in the legislative process. Examples include the EU action plan for sustainable growth (March 2018), the Green Deal (December 2019), the proposed European climate law (March 2019), the action plan for circular economy (March 2020), the farm to fork strategy (May 2020), the Climate Pact (December 2020) and the EU Sustainable Development Disclosure Regulation (March 2021).
More recently, on April 21, 2021, the European Commission presented its new Sustainable Finance Package. This ambitious package is intended to help improve the flow of money to sustainable activities across the European Union, and it includes proposals for a delegated law on EU climate taxonomy, a new directive on climate change. Corporate Sustainability Reports (CSRD) revisiting the rules introduced by the Reporting Directive (NFRD) and six amending delegated acts updating the existing rules on sustainability assessments for investment and insurance products.
ESG from a European perspective
While the concept of ‘ESG’ is now widely understood, some confusion persists as to which environmental, social and governance factors should count for the EU’s sustainability objective, and which legislative instruments should regulate the different aspects. of ESG. Additionally, a lack of transparency, accountability and comparability makes it difficult for investors to fully understand the financial risks resulting from the various sustainability-related crises we face, and to proactively seek investment opportunities to resolve environmental and social issues.
The 2019 Communication on the European Green Deal is the EU’s response to our current climate and environmental challenges. This Communication proposes a series of measures and legislative instruments aimed at transforming the EU by 2050 into a modern, resource efficient and competitive economy, without net greenhouse gas emissions, and where the economic growth is decoupled from the use of resources. It also aims to protect, conserve and improve the EU’s natural capital and to protect the health and well-being of citizens from environmental risks and impacts. The Green Deal seeks to achieve a socially just transition to a sustainable economic system by providing a mechanism and a fund for a just transition, focusing on the regions, sectors and citizens most threatened by this transition.
One of the ways to achieve climate neutrality goals is to transform industry towards a circular economy. With a focus on resource-intensive sectors (such as textiles, construction, plastics and electronics), the circular economy action plan will include a ‘sustainable products’ policy to support the circular design of all products based on a common methodology and principles, such as a “right to redress” and measures to enable consumers to make informed decisions and play an active role in the ecological transition. By prioritizing the reduction and reuse of materials before recycling them, and by encouraging new business models with innovative products / services, the Circular Economy Action Plan aims to prevent placing on the market of products harmful to the environment.
As significant investments are needed to meet the climate and energy goals that have already been set for 2030, public and private finance will need to be explored and facilitated. Thus, as one of the first steps in the strategy towards sustainable growth, the European Commission has revised the Directive on Non-Financial Reporting (2014/95 / EU, see below for more details). Disclosure of non-financial information should help measure, monitor and manage the performance of companies and their impact on society. In turn, this should allow investors to direct financial and capital flows towards green, social and broadly sustainable investments.
To further encourage ESG commitments, investments and sustainable growth, the European legislator has developed a common language and definition of what is considered “sustainable” in the EU Taxonomy Regulation (2020/852). This regulation, which established a framework to facilitate sustainable investment, will be amended, updated and supplemented over the coming months and years. Currently, it establishes a classification system for ecologically sustainable activities in relation only to the objectives of climate change mitigation and adaptation to climate change. In the near future, the regulation will be amended to cover other objectives as well – relating to pollution prevention, the transition to a circular economy, the sustainable use and protection of water, and the protection and restoration biodiversity and ecosystems.
The recent sustainable finance package
Sustainable finance is about redirecting investments towards sustainable technologies and businesses, decoupling economic growth from resource use as much as possible, so as to minimize ESG damage. With the launch on April 21, 2021 of the Sustainable Finance Package, the European Commission announced its objective to adopt the legal foundations and framework to create a sustainable European financial ecosystem, focused on increased transparency and providing tools for investors to identify sustainable investment opportunities. Such opportunities have a key role to play in channeling private investments (in addition to public funding) for a successful transition to a climate neutral, climate resilient and equitable economy.
The Sustainable Finance Package, with its various legislative instrument proposals (detailed below), represents another critical step in the European Commission’s continuing efforts to influence investment preferences towards more sustainable financial strategies.
As the main change, the Sustainable Finance Package introduces the EU Climate Taxonomy Delegated Act (supplementing the EU Taxonomy Regulation, described above), which specifies which economic activities contribute to the more to achieve the environmental objectives of the EU and which categorizes strongly contribute to the prevention and response to climate change. It aims to help investors in their decision-making process and encourages sustainable solutions using scientific criteria. The delegated act was officially adopted by the EU at the end of May 2021.
Secondly, companies will be required to provide accurate and valid information on sustainability as a result of the implementation of the Commission proposal for a Directive on corporate sustainability reporting. One of the objectives of this proposal for a directive is to extend the existing reporting rules for public interest entities, introduced by the Directive on non-financial reports (2014/95 / EU) and in force since 2018, and to extend them to private companies. The Commission will now continue examining the proposal with the European Parliament and the Council.
In addition, in order to minimize risks to the financial system and markets, six draft amending delegated acts on investment and insurance advice, fiduciary duties, and product oversight and governance, would require companies to investment (including advisers, asset managers and insurers) refer to sustainability is important in their protocols and investment advice to clients (for example, highlighting the impact of potential natural disasters on the value of investments).
These amending delegated acts would include the requirement that financial advisers obtain information about their clients’ sustainability preferences and provide a statement explaining the additional requirements to which financial firms are subject in order to assess their own risk in relation to sustainability. sustainable development. The amendments would make adjustments to important existing legislative instruments on investor protection, namely the Second Markets in Financial Instruments Directive (MiFID II) and the Insurance Distribution Directive (IDD). These changes, among several other financial services rules, would be a major step in the fight against greenwashing and are expected to come into effect in October 2022.
Initiated and stimulated towards a more sustainable future
Although there are still many steps to be taken and time will certainly reveal legal loopholes that still need to be addressed, these various EU action plans already show that ESG has become one of the most important new concepts. important for all who do business and invest in the EU’s internal markets.
The EU had already underlined its commitment to implement the UN Sustainable Development Goals in various ways. The recent COVID-19 pandemic has further galvanized it into its goals, providing Europe with an urgent need to revive its economy and therefore the perfect opportunity for this to happen in the most sustainable way possible.
From an international perspective, the long-awaited “taxonomy of sustainable finance” will most likely become a global standard for green investment. The past has proven that EU standards often generate a global impact – a phenomenon called the “Brussels effect”. In this way, third countries / international companies show a strong interest in alignment with EU standards and adjust their operations to comply with EU regulatory requirements (this has happened, for example, in the case of the GDPR). The Brussels effect shows the EU’s ability to influence governments and global operations through policy making. Not only is it to be expected that global financial firms will follow EU taxonomy in order to penetrate the world’s largest ESG market, but it is also likely that the EU will assert its ideas on eco-friendly investing. ESG in international trade negotiations and other multilateral agreements, thus further expanding its role globally and accelerating the global deployment of sustainable development.