Investor associations in Europe have expressed qualified support of the EU environmental taxonomy being expanded to cover “significantly harmful” economic activities, albeit with some difference in opinion about just what type of performance levels such an extended taxonomy should help identify.

The organisations were responding to a call for feedback on draft recommendations for “taxonomy extension options linked to environmental objectives” from the Platform on Sustainable Finance (PSF), which is advising the European Commission on its next steps with regard to sustainable finance policy in the bloc.

The Platform has also gathered feedback on draft recommendations on a social taxonomy, garnering responses from sources such as the manager of Norway’s sovereign wealth fund and others in the investment industry, plus NGOs.

Currently the only detailed taxonomy rules to have been adopted are for climate change objectives, setting out technical criteria for determining if economic activities make a “substantial contribution” to these objectives while doing no significant harm to other objectives and meeting minimum safeguards.

Adopted by the Commission in April, the rules do not cover criteria for nuclear energy, agriculture or natural gas.

In its draft report on options for extending the present taxonomy “beyond green”, the PSF said the current design of the taxonomy was often misinterpreted as binary, feeding concerns about finance for non-green activities being limited, perhaps despite corporates changing their operations.

Although the Platform had previously published a report detailing how the current taxonomy did not amount to a binary system, it said, it believed that “an extended taxonomy, with additional categories of activities and performance levels, can improve clarify in financial markets regarding different environmental performance levels and different levels of environmental impact”.

The focus is on supporting the net-zero transition, according to lawyers at Linklaters, who described the advisory body’s report as proposing a traffic light system with three levels: significant contribution, intermediate contribution, and significant harm.

In its report, PSF said it had decided a colour scheme was needed so that graphics could be developed to explain the concepts involved in discussing an extended environmental taxonomy. It said it had chosen to firmly reject the language of a “brown” taxonomy and that a traffic light colour system was universally understood.

The PSF made 15 recommendations in total, two of which it identified as general ones. The first was to extend the EU taxonomy with a priority given to an extension towards activities causing significant harm.

The second general recommendation was that an extended taxonomy be “part of a wider set of EU policy and legislative initiatives aimed at incentivising finance for urgent transition away from significantly harmful activities, along with building climate resilience and supporting a greening of the whole economy”.

As part of the consultation, the PSF asked respondents which of a range of environmental performance levels an extended taxonomy should distinguish. Respondents were told to choose all that they would prioritise, from “substantial contribution”, “intermediate performance”, three categories of “significantly harmful”, and “no significant impact”.

The significantly harmful performance level was broken down into “but can improve to sustainability”, “but can improve not to do significant harm”, and “but cannot improve sufficiently to avoid doing no significant harm”.

“In order to achieve the envisaged positive momentum in terms of transition, such an extended taxonomy must be designed in a very prudent and careful manner”

Germany fund and asset management association BVI

Asset management bodies such as BVI, DUFAS and EFAMA responded to the PSF’s consultation, as did Eurosif.

They identified benefits of creating a “significantly harmful” taxonomy, such as it paving the way for designing “better, bigger and safer decarbonisation financial products”, as Efama argued.

However, they also warned about the risk of the taxonomy framework becoming overly complex and of creating a boycott list that could steer capital away from transition efforts.

“In order to achieve the envisaged positive momentum in terms of transition, such an extended taxonomy must be designed in a very prudent and careful manner,” said Germany’s BVI.

In the Netherlands, fund and asset management body DUFAS said it supported extending the current taxonomy ”if it contributes to the sustainability transition of companies and markets”. It said included extensions “should be relatively simple and clearly support the transition to a sustainable economy”.

Different perspectives

Different industry bodies have different views on the environmental performance levels that should be brought under an extended taxonomy.

Brussels-based Efama considers that criteria for activities that can transition as well as those that cannot should be set under an extended taxonomy. 

Like BVI, it said only “indisputably” harmful activities incapable of transition change should be marked as significantly harmful, and that these should be clearly distinguished from other activities that may be at the “significantly harmful” performance level but that can exit this zone by improving their environmental performance.

The two associations said that to incentivise such transitioning efforts, an extended taxonomy should “provide a positive label” for investments to move activities away from a significantly harmful performance level.

DUFAS, meanwhile, has said that any extended taxonomy should only include significantly harmful activities that could improve to satisfy “do no significant harm” or “significant contribution” criteria.

This contrasts with a recommendation from AFME, whose members represent leading European and global banks, to introduce a “significantly harmful” taxonomy focussed on defining economic activities for which there is no possibility of improving their environmental performance to avoid significant harm.

“We are concerned that classifying under a significantly harmful taxonomy activities which do have the capability to improve their environmental performance away from significant harmful levels risks stigmatising such activities and deterring investments into companies that wish to transition those activities,” said AFME.

there is a spate of financial legislation coming from the european commission

By the end of the year the EC has to adopt a report about what would be required to extend the taxonomy framework ‘beyond green’

Eurosif, a Brussels-based body federating national sustainable investment forums, issued a statement addressing the social taxonomy proposal and that for a “significant harm” taxonomy, expressing support for both.

It said it believed a significant harm taxonomy could help bring more transparency to financial markets, with potential follow-on benefits such as allowing investors to “assist in targeted and granular engagement with the companies undertaking these activities on their plans to transition”.

Eurosif expressed reservations about developing “intermediate performance” and “no significant impact” categories, “as usability of the taxonomy remains a priority for sustainable investors”.

Efama said the adoption of intermediate performance levels added a lot of complexity, but that it would “consider it helpful in setting the threshold of a minimum level of transformation and encouraging transforming activities our of the ‘significant harm’ space”.

As a general note, Eurosif warned the PSF against giving too much credence to an “unproven binary impact” of the environmental taxonomy in its current form. It reiterated that it had not seen evidence that investors would in future solely invest in taxonomy-aligned activities.

Next steps

The decision on any further development of the taxonomy framework is the Commission’s.

The PSF is due to finalise its recommendations this autumn. Its advice will feed into a report the Commission is required to adopt by the end of the year. This is stipulated in the taxonomy regulation itself, which says the report should describe “the provisions that would be required to extend the scope of this regulation beyond environmentally sustainable economic activities”.

Eurosif said a social taxonomy and significant harm taxonomy “could easily become politically very sensitive topics”.

“Therefore, it will be vital for the Platform and the European Commission to be very clear in their communication about these tools, their functioning, that they are not covert harmonisation of social policies or energy policies and be realistic about the ability of these tools to re-orient capital towards sustainable investments,” it wrote in its statement.

“Policies to price negative externalities and de-risk investments in sustainable investments will still be necessary to re-orient capital towards green and socially sustainable activities on a large scale.”

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