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FCA regulation of ESG ratings and data providers is ‘long overdue’

Sustainable finance industry group warns that the UK will need to 'learn the correct lessons' from the EU’s experience with its green taxonomy.

Bringing ESG ratings and data providers under the aegis of the UK Financial Conduct Authority is “long overdue”, UK Sustainable Investment and Finance Association CEO James Alexander tells Responsible Investor.

In October, the UK government indicated in its Greening Finance roadmap that it was mulling whether providers of ESG data and ratings should be regulated by the FCA . 

“The EU has been doing a lot of work in this area – as has IOSCO when it comes to transparency – so why isn’t the UK?” says Alexander. “It doesn’t necessarily mean that once ESG ratings and data providers fall under regulation they are hit with an onslaught ofrules and regulations. It’s more that the FCA will have the authority to do so.” 

A new report by UKSIF, Delivering a Net-zero Financial Centre, outlines a series of measures to drive the systems change necessary to move the UK financial sector more rapidly towards net zero, in line with the commitment made by chancellor Rishi Sunak at COP26.  

With regard to data providers, the report recommends that the FCA considers developing “best practice” standards for the industry with a particular focus on issues such as transparency and conflicts of interest, as well as guidance for investors and others on their use of third-party ESG data. 

UKSIF’s report also focuses on the UK’s planned green taxonomy. “The UK will need to learn the correct lessons from the EU’s recent experience with its ‘green taxonomy’, ensuring the UK creates a taxonomy based purely on science by avoiding the inclusion of certain natural gas activities,” it warns. 

Expanding upon this, Alexander – who sits on the government’s Green Technical Advisory Group – said the UK’s taxonomy needs to be usable for the purpose it is designed for. “There’s no point trying to make a taxonomy that’s what I would call a regulatory Swiss army knife, because it means ultimately we end up with something that’s really heavy, that’s too bulky. Ultimately, if you’re trying to make a hammer, the best way to get a hammer is to make one. It’s about making the right tool for the job.”  

He notes the EU taxonomy has been used for other purposes for which it was not originally intended – for example, “as a way to distribute covid recovery funds across member states” – and argues that this has opened the door to lobbying by different industries. 

“If it’s not a just transition, we won’t get a transition at all. All we need to do is look to the 1980s and our transition from coal and the huge chaos that still haunts many communities today”

The first draft of the UK taxonomy was due to be released earlier this year but publication was postponed. Alexander says: “We expected a consultation from the government before the local elections and think that’s what caused the delay. Now they are over we are expecting it to come out very soon.”  

He adds that UKSIF still has “some big questions” about the proposals – namely, “how will the UK treat other international taxonomies, how do we develop ‘do no significant harm’ without restricting the investment universe too much, how do we do transition and social taxonomies alongside the green”.  

UKSIF’s report suggests that the government publish a roadmap for the creation of a social taxonomy, as well as consider a transitional environmental taxonomy. 

Alexander notes that a social taxonomy “is much harder” as it is values-based. “We can all agree the science is the science when it comes to green. It’s not the same when it comes to social issues. However, just because it is much more difficult, doesn’t mean it’s not worth a try. And we potentially have it easier than the EU as we aren’t trying to align the values of different 27 member states.”