INTERVIEW | Nathan Fabian: The EU’s new green taxonomy

European Parliament negotiators reached an agreement with Council in December on new criteria to determine whether an economic activity is environmentally sustainable.

The so-called “taxonomy regulation” stipulates that the following environmental objectives should be considered when evaluating how sustainable an economic activity is:

• climate change mitigation and adaptation;
• sustainable use and protection of water and marine resources;
• transition to a circular economy, including waste prevention and increasing the uptake of secondary raw materials;
• pollution prevention and control; and
• protection and restoration of biodiversity and ecosystems

Why is Europe proposing the taxonomy? Why do we need precise definitions of what counts as “green” and what doesn’t?

The big idea is to create a common language on what counts as green. For green investment markets to grow large, and fast, there needs to be clarity, transparency and, importantly, trust on when an economic activity really is contributing to a better environment.

If there is no agreement on what is green, it is hard for investors to know if they are getting what they expect when they seek an environmentally sustainable investment.

Clear definitions will also help investors understand their exposure to environmental trends, which can playback into the investment risk and opportunity.

Why is it so significant? What will be the impact on industry, investors?

If investment funds want to claim they contribute to environmental objectives, they would have to say how.

This disclosure requirement would apply for any investment fund product issued in Europe, including by financial firms domiciled outside Europe.

Investors will need data and so investee companies can expect to be asked to explain whether or not they meet the taxonomy criteria, even if company operations are based outside Europe.

How does the taxonomy work?

An economic activity should contribute towards one or more of the above objectives and not significantly harm any of them, says the agreement.

Its environmental sustainability should be measured using a unified classification system, as national labels based on different criteria make it difficult for investors to compare green investment, thus discouraging them from investing across borders.

The text does not preclude or blacklist any specific technologies or sectors from green activities, apart from solid fossil fuels, such as coal or lignite.

Gas, and nuclear energy production are not explicitly excluded from the regulation, however. These activities can potentially be labelled as an enabling or transitional activity in full respect of the “do not significant harm” principle.

The new legislation should also protect investors from risks of ‘greenwashing’ as it makes it compulsory to provide a detailed description of how the investment meets the environmental objectives.

You are the rapporteur for the technical expert group ... so what is the TEG? And how does Europe write new rules like this?

TEG is a group of investors, banks, taxonomy developers and scientists. Our role is technical -- to say what level of performance on emissions or energy intensity is green enough to be consistent with the Paris Climate Agreement and specifically, a net zero emissions economy in 2050.

We have developed criteria for 67 economic activities so far, across electricity, manufacturing, transport, agriculture, buildings, forestry sectors and more. We’ve also developed criteria for climate adaptation.

To do this work, we had input from over 200 additional industry experts and have conducted two consultations with over 1,000 responses.

Our technical input will form the basis of a new regulation, which requires disclosures by investment funds. The TEG recommends the activities and performance criteria, the European Parliament, the EU Member States and the European Commission negotiate the disclosure obligations for investors and make it law.

What are the next steps to getting the rules in place? What is the time line?

The regulatory negotiation is underway now and we expect a result by early in 2020. The disclosure obligation will likely start within 2021 or 2022. But investors are already using our recommended taxonomy criteria to see if their investments are green. The TEG report can be downloaded from the EU Commission website.

What has been the feedback from industry participants? Where are the biggest debates?

We’ve had excellent and detailed responses from industry. Many in industry want the taxonomy to reflect existing regulations on energy efficiency and emissions performance.

The problem here is that few existing regulations are aligned with future climate goals -- which is why investors need a green taxonomy. There are also requests to call modest reductions in emissions intensive sectors partially green.

TEG takes the view that small emissions reductions today, although welcome, can lock in assets with high emission profiles for the long term. This can do more harm than good to environmental objectives.

Telling the market an activity is green today, then saying it undermines environmental objectives in a few years’ time, is something we should avoid.

Will the taxonomy have a global impact or will it be limited to Europe?

Investors in Europe want green investment opportunities. They can see government policy, technology process and consumer preferences on environmental issues shifting.

Companies that operate globally and have a green story to tell can use the taxonomy to communicate with prospective investors. Other countries globally will want taxonomies too. Having an activity classified green to attract support and green capital is a substantial prize.

The taxonomy is set to underpin a new EU green bond standard. Do you expect that to tighten the rules on green bonds and help eliminate “greenwashing”?

The new Green Bonds Standard will require that the underlying investments meet the Taxonomy criteria.

Those who want clear assurance that their investment is aligned with long-term environmental objectives like the Paris Agreement, can use the Green Bonds Standard to be sure.