On the basis of the European Commission’s 2015 Action Plan “on Building a Capital Markets Union” (CMU), as further specified in the 2017 “Mid-Term Review of the [CMU] Action Plan”, the European Parliament and the Council adopted on 27 November 2019 Regulation (EU) 2019/2088 “on sustainability-related disclosures on the financial services sector” (SFDR) and Regulation (EU) 2019/2089 “as regards EU Climate Transition Benchmarks, EU Paris-aligned Benchmarks and sustainability-related disclosures for benchmarks”. The third—and probably most important—part of the related “trilogy”, which is also based on the Commission’s 2018 “Action Plan on Financing Sustainable Growth”, is Regulation (EU) 2020/852 “on the establishment of a framework to facilitate sustainable investment” (the so-called Taxonomy regulation, TR). The objective of this legislative act (which, inter alia, also introduces specific amendments to the SFDR) is to establish uniform criteria for determining whether an economic activity qualifies as environmentally sustainable for the purpose of establishing the degree to which an investment is environmentally sustainable as well. It does not itself establish a label for sustainable financial products; the details of what constitutes an environmentally sustainable activity or product is being built-up through delegated acts to be adopted by the Commission, of which the first two will apply from 1 January 2022 and the other four from 1 January 2023. The main purpose of this Chapter is to briefly albeit systematically present the “system of rules” relating to the “core element” of the TR, namely the criteria according to which an economic activity will be considered environmentally sustainable and the six environmental objectives (the six types of economic activities which qualify as environmentally sustainable activities for the purposes of the taxonomy), and to analyse the TR’s field of application, as well as the disclosure requirements for environmentally sustainable investments, as set out in the TR. It concludes with the same considerations on how the core element of the TR will be of primary importance even for entities which are not covered by its scope of application, namely beyond the reach of the CMU project.
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‘Sustainable finance’ can be defined as the aggregate of financing and related institutional and market arrangements that contribute to the achievement of strong, sustainable, balanced and inclusive growth, through supporting directly and indirectly the framework of the Sustainable Development Goals (SDGs) (see G20 Sustainable Finance Study Group (2018). Synthesis Report, July, available at: http://www.g20.utoronto.ca/2018/g20_sustainable_finance_synthesis_report.pdf. It is also noted that the establishment of an internal market that works for the sustainable development of the EU, based, inter alia, on balanced economic growth and a high level of protection and the improvement of the quality of the environment, is laid down in Article 3(3) TEU (on this Article, see by means of mere indication U. Becker (2019). Artikel 3 des EUV, in Schwarze, J., Becker, U., Hatje, A. und J. Schoo (2019, Hrsg.): EU-Kommentar, 4. Auflage, Nomos Verlagsgesellshaft, Baden-Baden, pp. 53–59. Sustainability and the transition to a safe, climate-neutral, climate-resilient, more resource-efficient and circular economy are crucial to ensuring the long-term competitiveness of the EU economy (TR, recital (4)).
Its Report of 31 January 2018, titled “Financing a Sustainable European Economy”, called for the creation of a technically robust classification system at EU level to establish clarity on which activities qualify as ‘green’ or ‘sustainable’ (TR, recital (5)) (available at: https://ec.europa.eu/info/sites/info/files/180131-sustainable-finance-final-report_en.pdf). On the work of the HLEG, see Alexander, K. (2019). Principles of Banking Regulation. UK: Cambridge University Press, pp. 366–369.
In this respect, inter alia, all three Regulations governing the European Supervisory Authorities (ESAs, namely the EBA, the ESMA and the EIOPA) were amended by virtue of Regulation (EU) 2019/2175 of the European Parliament and of the Council of 18 December 2019 (OJ L 334, 27.12.2019, pp. 1–145), which clarifies and strengthens their existing powers, while also attributing new powers to them in targeted areas, including the taking into account of sustainable business models and the integration of environmental, social and governance (ESG) factors when acting within its scope of action and carrying out its tasks [Article 1(3)]. See further below, under11.6.2.
A main objective set out therein is the reorientation of capital flows towards sustainable investments to achieve sustainable and inclusive growth and, in that respect, the most important and urgent action envisaged is the establishment of a unified classification system for sustainable activities. Since the shift of capital flows towards more sustainable activities must be underpinned by a holistic understanding of the environmental sustainability of activities and investments, the Action Plan considers that, as a first step, clear guidance on activities that qualify as contributing to environmental objectives would help inform investors about the investments funding environmentally sustainable economic activities, while further guidance on activities contributing to other sustainability objectives (e.g., social ones) might be developed at a later stage (TR, recital (6)).
TR, recital (11), first sentence. See also Bose, S., Dong, G. and A. Simpson (2019). The Financial Ecosystem: The Role of Finance in Achieving Sustainability. Palgrave Studies in Impact Finance. Cham, Switzerland: Palgrave Macmillan.
On the current situation concerning national labelling schemes in place and the need to establish uniform criteria to incentivise economic operators to access cross-border capital markets for the purposes of sustainable investment, seethe considerations in recital (11), fourth to last sentences.
In this respect and from a global perspective, see also the Report of 29 June 2017 by the Task Force on Climate-related Financial Disclosures (TCFD) of the Financial Stability Board (FSB), which provides recommendations for consistent, comparable, reliable, clear and efficient climate-related financial disclosures by companies (“Recommendations of the Task Force on Climate-related Financial Disclosures”, available at: https://www.fsb.org/wp-content/uploads/P290617-5.pdf).
TR, recital (55), first sentence [see also below under11.4.1(2)]. In accordance with its Article 1, the objective of that legislative act is to lay down harmonised rules for financial market participants and financial advisers on transparency with regard to the integration of sustainability risks and the consideration of adverse sustainability impacts in their processes and the provision of sustainability-related information with respect to financial products. That legislative act is analysed in Chapter 11 (Busch, D.Sustainability Disclosure in the Financial Sector).
Regulation (EU) 2015/1017 of the European Parliament and of the Council of 25 June 2015 “On the European Fund for Strategic Investments, the European Investment Advisory Hub and the European Investment Project Portal (…)—The European Fund for Strategic Investments” (OJ L 169, 1.7.2015, pp. 1–38) specifies a 40% climate investment target for infrastructure and innovation projects under the Fund [see recitals (2), (9) and (17)].
The term ‘financial market participant’ is defined with reference to Article 2, point (1) SFDR and includes a manufacturer of a pension product to which a Member State has decided to apply that legislative act in accordance with Article 16 thereof [Ibid., Article 2, point (2)].
The term ‘issuer’ is defined with reference to Article 2, point (h) of the Prospectus Regulation (Regulation (EU) 2017/1129 of the European Parliament and of the Council of 14 June 2017, OJ L 168, 30.6.2017, pp. 12–82) [Ibid., Article 2, point (4)].
The term ‘financial product’ is defined [Ibid., Article 2, point (3)] with reference to Article 2, point (12) SFDR, meaning all of the following: a portfolio which is managed in accordance with Article 2, point (6); an alternative investment fund (AIF); an ‘insurance-based investment product’(IBIP); a pension product; a pension scheme; an undertaking for collective investment in transferable securities (UCITS); or a ‘pan-European Personal Pension Product’ (PEPP). It is noted that bank lending is not covered either by this definition or by the TR (and the SFDR) in general.
OJ L 182, 29.6.2013, pp. 19–76. Articles 19a and 29a were inserted into that legislative act by Directive 2014/95/EU of the European Parliament and of the Council of 22 October 2014 (OJ L 330, 15.11.2014, pp. 1–9, the ‘EU Non-Financial Reporting Directive’).
TR, Article 9 and recital (23). According to recital (7) given the systemic nature of global environmental challenges, environmental sustainability should be approached on a systemic and forward-looking basis, addressing growing negative trends, such as climate change, the loss of biodiversity, the global overconsumption of resources, food scarcity, ozone depletion, ocean acidification, the deterioration of the fresh water system, and land system change as well as the appearance of new threats, such as hazardous chemicals and their combined effects.
Ibid., Article 2, point (5). The Paris Agreement was approved in the EU by Council Decision (EU) 2016/1841 of 5 October 2016 “on the conclusion, on behalf of the European Union, of the Paris Agreement adopted under the UN Framework Convention on Climate Change” (OJ L 282, 19.10.2016, pp. 1–3). Article 2(1), point (c) of the Paris Agreement aims to strengthen the response to climate change by making finance flows consistent with a pathway towards low greenhouse gas emissions and climate-resilient development, inter alia. In that context, on 12 December 2019, the European Council adopted conclusions on climate change, in light of which the TR represents a key step towards the objective of achieving a climate-neutral EU by 2050 (TR, recital (3)).
Ibid., recital (25), second sentence. The Sendai Framework, which was adopted at the Third UN World Conference in Sendai, Japan, on 18 March 2015, is the outcome of stakeholder consultations initiated in March 2012 and inter-governmental negotiations from July 2014 until March 2015, supported by the UN Office for Disaster Risk Reduction at the request of the UN General Assembly; its text is available at: https://www.preventionweb.net/files/43291_sendaiframeworkfordrren.pdf. On this Framework, see, by means of mere indication, Aitsi-Selmi, A., Blanchard, K. and V. Murray (2016): Ensuring Science Is Useful, Usable and Used in Global Disaster Risk Reduction and Sustainable Development: A View Through the Sendai FrameworkLens. Palgrave Communications, Vol. 2, available at: https://ssrn.com/abstract=2780391.
This environmental objective should be interpreted in accordance with the sectoral legislative acts laid down in recital (26) and the Commission Communications of 18 July 2007 on “Addressing the challenge of water scarcity and droughts in the European Union”, of 14 November 2012 on “A Blueprint to Safeguard Europe’s Water Resources” and of 11 March 2019 on “European Union Strategic Approach to Pharmaceuticals in the Environment”.
Ibid., Article 2, point (9). ‘Waste hierarchy’ has the meaning laid down in Article 4 of Directive 2008/98/EC of the European Parliament and of the Council of 19 November 2008 “on waste and repealing certain Directives” (the Waste Framework Directive, OJ L 312, 22.11.2008, pp. 3–30) [Ibid., Article 2, point (8)]. This environmental objective should be interpreted in accordance with relevant EU law in the areas of the circular economy, waste and chemicals, and with the Commission Communications of 2 December 2015 on “Closing the Loop—An EU Action Plan for the Circular Economy” and of 16 January 2018 on “A European Strategy for Plastics in a Circular Economy” [Ibid., recital (27)].
‘Pollutant’ means a substance, vibration, heat, noise, light or other contaminant present in air, water or land which may be harmful to human health or the environment, which may result in damage to material property, or which may impair or interfere with amenities and other legitimate uses of the environment [Ibid., Article 2, point (10)].
Ibid., Article 2, points (15) and (13), respectively. The term ‘ecosystem services’ is defined to mean the direct and indirect contributions of ecosystems to the economic, social, cultural and other benefits that people derive from those [Ibid., Article 2, point (14)]. This environmental objective should be interpreted in accordance with the sectoral legislative acts and the Commission Communications set out in recital (30).
TR, Article 4. This provision does not apply to certificate-based tax incentive schemes, which existed prior to the entry into force of the TR and set out requirements for financial products that aim to finance sustainable projects, without prejudice to the respective competences of the EU and the Member States with respect to tax provisions, as set out by the Treaties [Ibid., Article 27(3) and recital (58)].
The definition of the term ‘greenhouse gas’ is made with reference to Annex I to Regulation (EU) No 525/2013 of the European Parliament and of the Council of 21 May 2013 “on a mechanism for monitoring and reporting greenhouse gas emissions and for reporting other information at national and Union level relevant to climate change (…)” (OJ L 165, 18.6.2013, pp. 13–40) [Ibid., Article 2, point (7)].
‘Energy efficiency’ means the more efficient use of energy at all the stages of the energy chain from production to final consumption (TR, Article 2, point (17)). For the purposes of the TR, this term is used in a broad sense and should be construed by taking into several sectoral legislative acts of the European Parliament and of the Council as well as the implementing measures adopted by the Commission [Ibid., recital (33)].
For this purpose and for the establishment of TSC pursuant to Article 19 (see under11.3 below), the Commission must assess the potential contribution and feasibility of all relevant existing technologies [Ibid., Article 10(2)].
‘Good status’ means the following: for surface water, having both ‘good ecological status’, as defined in Article 2, point (22) of Directive 2000/60/EC and ‘good surface water chemical status’, as defined in Article 2, point (24) thereof; and for groundwater, having both ‘good groundwater chemical status’, as defined in Article 2, point (25) of Directive 2000/60/EC and ‘good quantitative status’, as defined in Article 2, point (28) thereof [Ibid., Article 2, point (22)]. In this respect, the terms ‘surface water’ and ‘groundwater’ have the meaning as defined in Article 2, points (1) and (2), respectively of Directive 2000/60/EC [Ibid., Article 2, points (19)–(20)].
‘Good environmental status’ has the meaning as defined in Article 3, point (5) of Directive 2008/56/EC and ‘marine waters’ the meaning as defined in Article 3 point (1) thereof [Ibid., Article 2, points (21) and (18), respectively].
‘Soil’ means the top layer of the earth’s crust situated between the bedrock and the surface, composed of mineral particles, organic matter, water, air and living organisms [Ibid., Article 2, point (11)].
‘Good condition’ means, in relation to an ecosystem, that this is in good physical, chemical and biological condition or is of a good physical, chemical and biological quality with self-reproduction or self-restoration capability, in which species composition, ecosystem structure and ecological functions are not impaired [Ibid., Article 2, point (16)].
TR, Article 18(1) and recital (35), first and second sentences. The International Bill of Human Rights was adopted and proclaimed by UN General Assembly Resolution 217 A (III) of 10 December 1948 (available at: https://www.ohchr.org/Documents/Publications/Compilation1.1en.pdf). Several of these international standards are enshrined in the Charter of Fundamental Rights of the EU. The minimum safeguards are without prejudice to the application of more stringent requirements related to environmental, health, safety and social sustainability as set out in EU law, where applicable [Ibid., recital (35), third and fourth sentences].
On this requirement, see also recital (40), third and fourth sentences. On Article 191 TFEU, see by means of mere indication A. Käller (2019).Artikel 191 des AEUV, in Schwarze, J., Becker, U., Hatje, A. und J. Schoo (2019, Hrsg.): EU-Kommentar, 4. Auflage, Nomos Verlagsgesellshaft, Baden-Baden, pp. 2436–2452 (with extensive further references to primary and secondary sources).
These include the classification of environmental protection activities (CEPA) and resource management activities (CReMA) pursuant to Regulation (EU) No 538/2014 of the European Parliament and of the Council of 16 April 2014 “amending Regulation (EU) No 691/2011 on European environmental economic accounts” (OJ L 158, 27.5.2014, pp. 113–124).
Directive 2001/42/EC of 27 June 2001 “on the assessment of the effects of certain plans and programmes on the environment” (OJ L 197, 21.7.2001, pp. 30–37), Directive 2011/92/EU of 13 December 2011 “on the assessment of the effects of certain public and private projects on the environment” (OJ L 26, 28.1.2012, pp. 1–21), and Directives 2014/23/EU, 2014/24/EU and 2014/25/EU of 26 February 2014 “on the award of concession contracts”, “on public procurement (…)” and “on procurement by entities operating in the water, energy, transport and postal services (…)” (OJ L 94, 28.3.2014, pp. 1–64, 65–242 and 243–374, respectively).
The PRI is a leading proponent of responsible investment, working to understand the investment implications of ESG factors and to support its international network of investor signatories in incorporating these factors into their investment and ownership decisions. It acts in the long-term interests of its signatories, as well as of the financial markets and economies in which they operate (see at: https://www.unpri.org).
Ibid., Article 19(5), first sentence. In that context, before amending or replacing a delegated act, the Commission must assess the implementation of those criteria taking into account the outcome of their application by financial market participants and their impact on capital markets, including on the channelling of investment into environmentally sustainable economic activities. To ensure that economic activities as referred to in Article 10(2) remain on a credible transition pathway consistent with a climate-neutral economy, the Commission must review the TSC for those activities at least every three years and, where appropriate, amend the delegated act referred to in Article 10(3) in line with scientific and technological developments [Ibid., Article 19(5), second and third sentences].
It is noted that the definition of ‘sustainable investment’ in the SFDR includes investments in economic activities that contribute to an environmental objective which, inter alia, should include those into ‘environmentally sustainable economic activities’ within the meaning of the TR. Moreover, the SFDR only considers an investment to be a sustainable investment if it does not significantly harm any environmental or social objective as set out therein [Ibid., recital (19)].
Ibid., recital (21). Economic operators not covered by the TR may be encouraged to publish and disclose information on their websites on a voluntary basis on the environmentally sustainable economic activities they carry out, which will assist financial market participants to easily identify which economic operators carry out environmentally sustainable economic activities and facilitate the latter to raise funds for their environmentally sustainable activities [Ibid., recital (15)].
Article 9(1) SFDR refers to financial products whose objective is sustainable investment and contain an index designated as a reference benchmark; Article 9(2) refers to financial products with the same objective but no index has been designated as a reference benchmark; and Article 9(3) refers to financial products whose objective is a reduction in carbon emissions.
Article 8(1) SFDR refers to financial products which promote, inter alia, environmental or social characteristics, or a combination thereof, provided that the companies in which the investments are made follow good governance practices.
Notably: Regulation (EU) No 600/2014 of 15 May 2014 “On Markets in Financial Instruments (…)” (OJ L 173, 12.6.2014, pp. 84–138, MiFIR); Regulation (EU) No 1286/2014 of 26 November 2014 “On Key Information Documents for Packaged Retail and Insurance-based Investment Products (PRIIPs)” (OJ L 352, 9.12.2014, pp. 1–23); and Regulation (EU) 2019/1238 of 20 June 2019 “On a Pan-European Personal Pension Product (PEPP)” (OJ L 198, 25.7.2019, pp. 1–63).
This requirement is based on Commission Communication of 20 June 2019 “Guidelines on non-financial reporting: Supplement on reporting climate-related information”, which recommends that certain large companies report on certain climate-related key performance indicators (KPIs) on the basis of the TR framework [Ibid., recital (22), first sentence].
Ibid., Article 8(1)–(2). If an undertaking publishes non-financial information pursuant to the above-mentioned Articles 19a or 29a in a separate report pursuant to Articles 19a(4) or 29a(4), this information must be published in that separate report [Ibid., Article 8(3)]. Smaller companies may voluntarily decide to publish such information as well [Ibid., recital (22), last sentence].
TR, Article 23(1)–(3) and recital (54), first sentence. The Commission must gather all necessary expertise, prior to the adoption and during the development of delegated acts, including through the consultation of the experts of the Expert Group on Sustainable Finance. Before adopting a delegated act, it must act in accordance with the principles and procedures laid down in the Interinstitutional Agreement of 13 April 2016 “on Better Law-Making” (OJ L 123, 12.5.2016, pp. 1-14). In particular, to ensure equal participation in the preparation of delegated acts, the European Parliament and the Council should receive all documents at the same time as Member States’ experts, and their experts should systematically have access to meetings of Commission expert groups dealing with the preparation of delegated acts [Ibid., Article 23(4) and recital (54), second and third sentences].
See by means of mere indication Alexander, K. and P.G. Fisher (2018). Banking Regulation and Sustainability. available at https://ssrn.com/abstract=3299351 and Alexander, K. (2019). op. cit., pp. 357–364.
ESG factors are defined as environmental, social or governance characteristics, that may have a positive or negative impact on the financial performance or solvency of an entity, sovereign or individual (EBA/DP/2020/03, para. 30). ESG risks are defined to mean the risks of any negative financial impact to an institution stemming from the current or prospective impacts of ESG factors on its counterparties and materialise themselves through their impact on prudential risk categories (Ibid., para. 38). These include, but are not confined to, the climate-related and environmental risks, as defined in the above-mentioned ECB 2020 Guide (Ibid., para. 8, point a). ESG factors, ESG risks and their transmission channels are discussed in detail in Chapter 4 (pp. 20–47), while Chapter 5 (pp. 48–77) develops on quantitative and qualitative indicators, metrics and methods to assess ESG risks. Annex 1 (pp. 141–153) contains a non-exhaustive list of ESG factors, indicators and metrics.
The legal bases of this Report are Article 98(8) of Directive 2013/36/EU of the European Parliament and of the Council of 26 June 2013 “on access to the activity of credit institutions and the prudential supervision of credit institutions and investment firms (…)”(CRD IV, OJ L 176, 27.6.2013, pp. 338–436), which was inserted by Article 1, point 29(d) of Directive (EU) 2019/878 of the same institutions of 7 June 2019 amending the CRD IV (CRD V, OJ 150, 7.6.2019, pp. 253–295), and Article 35 of Directive (EU) 2019/2034 of the same institutions of 27 November 2019 “on the prudential supervision of investment firms” (IFD, OJ L 314, 5.12.2019, pp. 64–114).
EBA/DP/2020/03, Chapter 6 (pp. 78–117) on the management of ESG risks by credit institutions and investment firms and Chapter 7 (pp. 118–140) on ESG factors and ESG risks in supervision, respectively. Chapter 7 elaborates, in particular, on the effective way to proportionately reflect ESG risks in the supervisory review for credit institutions and makes several related policy recommendations.