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As EU green taxonomy takes shape, social, harmful investments under discussion

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As EU green taxonomy takes shape, social, harmful investments under discussion

➤ EU Sustainable Finance Platform looking at creation of social taxonomy.

➤ Final negotiations on climate rules underway.

➤ Working with China, India on sustainable finance regulations.

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Nathan Fabian, chairperson of the European Platform on Sustainable Finance
Source: Principles for Responsible Investment

Nathan Fabian is chairperson of the European Platform on Sustainable Finance and chief responsible investment officer at the United Nations-backed Principles for Responsible Investment. The platform is a group of experts from industry, finance and civil society who advise the European Commission, the executive arm of the EU, on the future of sustainable finance policy in Europe.

The platform was established as part of the EU's regulation for building a taxonomy to define environmentally friendly investments and set performance thresholds for companies and industries that seek to reduce greenhouse gas emissions or adapt to a changing climate.

The taxonomy assesses 67 economic activities, spanning manufacturing to transport, and is designed to steer companies as they adapt their business strategies to climate change, as well as help investment funds judge sectors based on their environmental performance. It is due to come into practice as of 2022, and some of the rules are still to be finalized. In an interview, Fabian told S&P Global Market Intelligence about upcoming developments in the taxonomy regulation.

The following transcript is edited for length and clarity. Listen to audio from the interview on the ESG Insider Podcast, available on SoundCloud, Spotify and Apple podcasts.

S&P Global Market Intelligence: What kind of challenges are you facing this year in the introduction of the EU taxonomy?

Nathan Fabian: We are working, first, on the additional four environmental objectives under the taxonomy regulation — water, biodiversity, pollution and circular economy — and working out what their substantial contributions to the European objectives are. We are developing criteria and we expect to share our initial recommendations with the public for feedback in the middle of 2021, but we are doing much more than this.

We are examining whether it is possible to create a social taxonomy and whether, in addition to having substantial contribution, this idea of a positive or green taxonomy, we should also have a criteria for identifying significant harm so that the taxonomy would have two functional criteria for every activity. This would create a much richer continuum, if you like, of environmental performance levels that the market could use to benchmark and describe its performance or the performance of individual economic activities against those criteria.

Is your belief that, over time, the taxonomy will have a global approach, will take environmental, social concerns and put them all together?

We are working on how we can use the taxonomy to encourage finance into positive social outcomes and it's going to be a bit different to green. The main reason is that some social objectives are based in norms and rights regimes, so the idea of substantially contributing to a human right is a bit incongruous. We have already recognized that there will be some differences in the way any social taxonomy tool is designed and what other types of disclosure you need on social factors. We need massive investment into education, health, housing, creating more equitable employment and a safe employment environment in many countries. These are all essential social outcomes for the world and, if there is a viable investment there, investors want to know about it, so there is going to be some kind of role for a social taxonomy. We hope to share our thinking around the middle of 2021.

Final negotiations are taking place in the EU on specific climate rules. When can we expect an outcome?

The technical work from the platform has finished on the climate mitigation and climate adaption area. Now we are in the political phase of the process whereby the European co-legislators must agree what the criteria will be. We hope and trust that they are doing their best to honor the science and the evidence with these criteria so it provides the most useful tool for the market but we must recognize ultimately that these tools are controlled through a political process and they have to be supported by the European Parliament.

The final negotiations, the final testing of all those criteria, are underway right now and we expect the final recommended criteria, the first legal criteria on climate mitigation and adaptation, before the middle of the year. April or May is likely. Then everyone will know what they will be reporting on for those two environmental objectives in future years.

What advice would you give to investors who feel that they don't have enough underlying data on their holdings to comply with the taxonomy?

If you are an investor and you have to make a taxonomy disclosure, it depends which asset class you are in and what is the nature of the financial product. The first thing to do is to ask the underlying holding to provide the data. If you have a very large diversified equity portfolio you might say, "surely I am not going to write to everyone" but in those cases there is going to be plenty of taxonomy-aligned analysis products from the ESG ratings providers and the equivalent we have in the market is green revenues analysis. They are all looking at their methodologies about how they can provide a taxonomy-aligned assessment so there will be a way to do that in equity markets.

If you have more concentrated portfolios in real estate or infrastructure, then we are really going to have to let our investees know that we want to see the data and ask them to build it over time, especially if they are not Europe-based and already covered by the nonfinancial reporting directive, which of course does create legal obligations for around 7,000 listed companies to provide the data.

The EU is regarded as a leader in establishing a legal framework for sustainable finance. How are you advising others on taxonomies?

There is something called the International Platform on Sustainable finance, and it has China, it has India, it has the U.K. and several others participating in it. These countries are exchanging on sustainable finance regulation but also taxonomy design. The way things work in markets practically is that when a country wants to develop something like taxonomy, it reaches out to the major financial institutions globally and asks their view. We have this cross fertilization of expertise going on now so I would say the level of exchange is quite high.

If you actually want harmonization of taxonomies it becomes a bit more interesting and you start to get some of the different national interests coming in, so for this point it would be helpful if countries could have similar taxonomy frameworks even if they have different environmental goals. This will allow the markets to understand how and why the criteria in different countries are different from each other.

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