ECB warns ‘regulatory competition undermining’ the EU Action Plan, calls for brown taxonomy

The European Central Bank (ECB) has said that efforts being undertaken in other countries to develop strategies on sustainable finance risk “undermining the EU’s efforts to set high quality standards” and the establishment of “internationally consistent standards”.

The ensuing “regulatory competition” could result in “races to the bottom” and greenwashing, it said in a submission to parallel European Commission consultations on the Renewed Sustainable Finance Strategy, and revisions to the Non-Financial Reporting Directive (NFRD).

The remarks can be seen as a response to criticisms from other jurisdictions that regard the EU’s Sustainable Finance Action Plan as ill-suited to economies that remain dependent on polluting industries. Examples include Japan and Canada, the latter of which is already developing a taxonomy focusing on ‘resource-heavy’ economies.

The Bank says the EU should leverage its experience in developing “one of the most advanced” regulatory approaches to sustainable finance, to “shape regulatory frameworks in other jurisdictions and at the international level” through channels such as the G20, Network for Greening the Financial System and International Accounting Standards Board.

In a comprehensive 30-page letter, the ECB also backed the development of a ‘brown’ taxonomy, which defines environmentally-harmful rather than green economic activities, for the purposes of aiding banks in assessing climate risk. While the ECB stopped short of recommending tougher capital requirements for such assets – a controversial proposal among central banks –  it said that a brown taxonomy would enable such a policy to be enacted if “justified”.

The Renewed Sustainable Finance Strategy is the next phase of the Sustainable Finance Action Plan, and will address topics such as remuneration and passive investing, while the NFRD – which sets out areas of sustainability-related disclosures for European firms – is being revised to improve the quality of corporate reporting. According to the ECB, the current disclosure regime “does not ensure sufficient, consistent and comparable information” which prevents elements of the Action Plan, such as the green taxonomy, from becoming “fully operational”.

The ECB noted that insufficient granularity and breadth of corporate disclosures had resulted in the ESG ratings of banks being driven by traditional corporate social responsibility considerations, such as operational carbon emissions, rather than “their lending activity to carbon-intensive companies”.

A publicly-available “single access point” repository which houses both corporate financial and sustainability-related data would additionally increase the transparency and usability of disclosures, said the ECB.

In further comments, the supervisor suggested that the bloc’s spending plans post-Covid19 and other public spending should be assessed against the green taxonomy. Such an approach is already being considered by Germany – due to assume presidency of the EU Council next month – who is currently assessing European corporate practices against the green taxonomy with the aim of developing “sustainable, climate-friendly” economic recovery plans. The EU recovery plan launched last month, also made reference to the taxonomy as a guide, although it is still unclear what that really means. 25% of the next EU budget, which comes into force next year, has been pledged to green spending already.  

The ECB also referred to ongoing efforts by the European Banking Authority to assess how ESG risks could be incorporated into prudential supervision, saying that current legislation may be strengthened to ensure that lender business strategies and remuneration policies are aligned with management of climate-related and environmental risks.