This article is part of a series on the creation of sustainable finance taxonomies around the world. You can read more in this series by clicking here.
The first draft of South Africa’s taxonomy is due out by the end of 2020. It’s an ambitious target, given the project only started in earnest in May, when proposals were made to the Treasury on how to stimulate sustainable finance in the country.
“Since 2017 there has been a group of regulators and market participants looking into ESG incorporation and risk management for the Treasury,” explains Karin Ireton, who was brought on by the IFC to support the work in 2018. “Climate was part of that, but it was tucked into a much broader topic when it started.”
However, she says, it became clear early on in the process that ESG considerations are already relatively common in South Africa, and that it was climate risk that needed more attention in order to keep up with global developments.
The result was a report, presented to the Treasury in May, outlining a number of recommendations covering banking, insurance, pensions and investments.
“Comments from the market in South Africa told us they want a level playing field on this – they want to know what they should do, but they also want to be sure that their peers will have to do the same things,” Ireton observes. “So they need some steer from the regulatory authorities.”
The proposals put forward by the group included the promotion of TCFD disclosure, building capacity and expertise, establishing benchmark scenarios, and creating green finance mechanisms. A steering committee was set up to take the recommendations forward, including representatives from all the key financial sector associations.
‘It is sometimes more politically palatable to be able to point to progress being made by our competitors. Otherwise, you run the risk of getting it dismissed as ‘yes, but that’s Europe’’
Most of the proposals orbit one, central recommendation: develop a green taxonomy for South Africa.
“There needs to be something that will show European investors, pension funds and others that a bond or product really is green, and that it is measured in a way they can recognise easily and that it will be attractive to them as a result. So we need to develop a taxonomy.”
Why not just use the EU’s existing taxonomy, especially if the efforts centre on attracting capital from Europe?
“It would be useful to use the EU’s framework as a basis,” agrees Ireton. “But there is a strong argument in South Africa that it might simply be too advanced and go too far for an economy that is currently so fossil fuel dependent.”
According to the International Energy Agency, 70% of South Africa’s primary energy comes from coal. Estimates suggest its emissions are 8.9 tons per capita – way above the 4.9 average for the developing world.
“We’re also a developing country, grappling with very high unemployment, so if we move towards a greener economy too fast, in a way that leaves too many people behind, we will face other systemic risks.”
This social dimension means the notion of a ‘just transition’ will be core to the South African taxonomy, she continues; not just because of unemployment, but because the physical impacts of climate change – water shortage, in particular – are already hitting the country’s poorest and most vulnerable citizens. Average annual temperatures in South Africa have increased more than 1.5 times the global average, according to scientists.
“We will start with green, but the hope is that we will be able to integrate the broader goals of the Sustainable Development Goals as time goes on,” explains Ireton.
She says that the taxonomies of other developing countries are “possibly more useful to South Africa at this stage” than the EU’s, “because it is sometimes more politically palatable to be able to point to progress being made by our competitors. Otherwise, you run the risk of getting it dismissed as ‘yes, but that’s Europe’.”
“So we need to juggle national and economic context with the risk that if we don’t move with the times, we’ll get left behind in the world of international trade, and also that if we have fundamentally different methodologies from the global leaders now, we will face limitations when we are ready to catch up. It’s a balancing act, and we haven’t worked everything out yet.”
Another aspect that is still being worked out is whether the taxonomy should centre on projects or economic activities. Ireton says that, like everywhere else, data availability is a huge challenge in creating a useable taxonomy, and “the further away you get from a project, the worse the data”. But this is one of those “fundamental differences” she mentioned earlier – where a methodology based on projects could cause problems with international harmonisation later down the line, given the EU’s focus on economic activities.
It is important to note that the work being done on taxonomy is no longer just the Treasury working group. It was quickly recognised that the National Business Initiative – a sustainability-focused initiative for listed companies in South Africa – has been working with the Carbon Trust and the IFC to explore the potential of a taxonomy, too. To avoid duplication, they will draft the framework in consultation with the Treasury working group and broader stakeholders.
Informal consultations will be run throughout the coming months before the draft is launched and opened up to the market for official feedback at the end of the year.