Sustainability needs a common language
Increasing and redirecting financial flows to support climate and sustainability objectives is crucial. It is often forgotten that financial flows are a reflection of economic activity. There is a natural link between financial flows and economic activity.
In recent years, investors have increasingly integrated climate change and broader sustainability concerns into their investment decisions and portfolio allocations. Various financial market players have launched a wide range of sustainability-related initiatives with different objectives. As a result, there are many different views on which investments are sustainable.
The many different definitions of “green” and “sustainable” investments are often cited as a major obstacle to the much-needed expansion of green and sustainable investments. Market participants say that one reason for this is the lack of universal rules and standardisation. A move towards generally accepted definitions will therefore be essential to ensure that financial flows become more sustainable through increased effectiveness, efficiency and integrity, thereby making an important contribution to the economic transition.
The EU is forging ahead
In light of this challenge, legislators have begun to adopt provisions to create official definitions for sustainable financial products and services. In May 2018, for example, the European Union proposed a regulation on the creation of a framework to facilitate sustainable investment. This regulation was adopted by the European Parliament and the European Council in December 2019. It is generally referred to as the EU taxonomy.
A taxonomy is a classification system and is broader in scope than a definition. In the case of the EU taxonomy, it is a framework for defining the conditions under which an economic activity is considered environmentally sustainable within the meaning of EU legislation. The EU taxonomy is unique in its attempt to link different environmental objectives on the basis of the “do no significant harm” principle. The principle is based on the idea that the fulfilment of individual goals should not result in negative effects on the other sustainability goals. In addition, the EU taxonomy creates space for a transition and contains thresholds for activities which decrease over time. It will also point the way for Switzerland, as the nation is also participating in initiatives such as the “Network for Greening the Financial System” and, more recently, the “International Platform for Sustainable Finance”.
Taxonomies are a toolbox: if properly designed, they can be a political tool for embedding the many different paths and dimensions of policy into the guidelines for financial markets. They can be adapted to and even encourage innovation.
Superficial assumptions instead of reliable data
The lack of availability of environmental data (and even more so of social and governance data) is currently a challenge for sustainable financial taxonomies. All too often today, superficial assumptions about sustainable activities still have to be made. The development of sustainable financial taxonomies is therefore dependent on an accompanying disclosure policy on the part of businesses (e.g. through corporate social responsibility reporting).
This in turn promotes the emergence of an ecosystem of environmental data that can support sustainability policies at the corporate and public level in various ways.
Taxonomies should improve the transparency and integrity of financial markets if they are properly designed, applied and verified and if they are developed in parallel with other measures. However, companies in particular must also play their part by means of disclosure. The best way to achieve this is through international initiatives such as the Task Force on Climate-related Financial Disclosures (TCFD) or the Non-Financial Reporting Directive (NFRD). Because as mentioned, there is a strong link between financial flows and economic activity.