What is the EU Sustainable Finance Taxonomy?
The EU sustainable Finance Taxonomy is a classification system for the investment sector that defines sustainable economic activity. To be considered as ‘green’ or ‘sustainable’, an investment must: comply with robust and science-based technical screening criteria; comply with minimum social and governance safeguards’, ‘substantially contribute’ to at least one of the following six objectives and cause no ‘significant harm’ to any of the others:
· Climate change mitigation
· Climate change adaption
· The sustainable use and protection of water and marine resources
· The transition to a circular economy
· Pollution prevention and control
· The protection and restoration of biodiversity and ecosystems.
Currently it is not directly relevant to commercial lenders in the context of making loans available to companies or projects. The regulations are quite complicated as legal obligations relating to the taxonomy can be found in multiple places, which makes things even more confusing. In essence, financial market participants, who offer financial products and market these as environmentally sustainable, will have to disclose information on how, and to what extent, the investments that underlie their financial products support economic activities that meet the four tests for environmental sustainability.
This is mainly going to affect institutional investors who promote funds that are in green businesses.
Also, in the future, certain corporate entities are going to have to disclose the proportion of their turnover derived from products or services associated with environmentally sustainable (taxonomy compliant) economic activities.
Overall, it is becoming overly-complicated and, to an extent, for most in the investment community, it doesn't really matter – the point is that the EU taxonomy and requirements for transparency are designed to drive reallocation of funds to genuinely green activities. This will presumably apply pressure to the sustainable finance market, with the influence of the Taxonomy having a ‘trickle down’ effect on commerce more broadly.
Time will tell what and how this influence is felt throughout the sustainable finance ecosystem.