This series has previously looked at the taxonomy controversy, the risk of market fragmentation, and the potential impact on fund firms, investors and companies seeking capital. This final instalment investigates the international implications of the EU taxonomy, which is one of several being rolled out.
“We’re seeing a proliferation of taxonomies in other countries,” including China and the UK, reported Elizabeth Gillam, head of EU government relations and public policy at Invesco, a fund firm with roughly $1.57trn in assets under management. “Actually, we’ve seen about 30 different countries around the world currently working on their own definitions of green.”
Restricting capital flows
The proliferation of competing taxonomies around the world, Gillam said, “means that it becomes very challenging, without a clear framework, around how do we assess whether those other taxonomies can be deemed equivalent to the EU one. And what does that mean for clients? If they turn around and say, ‘well, we want you to have a portfolio with X amount of taxonomy alignment’, that potentially restricts those investment opportunities, because there might be very interesting investment opportunities outside of the EU, but they can’t tick those regulatory technical boxes that we would need to call them taxonomy aligned.”
According to Gillian, that potentially “restricts the freedom of capital to flow to those areas that are most in need. When we think about tackling climate change, a lot of those needs aren’t actually within the EU. Some of the worst polluting countries are outside of the EU, and actually to make a difference, you might want to be able to invest in those other areas. But that creates regulatory challenges in terms of being able to declare that those investments adhere to the EU taxonomy.”
Will EU be the benchmark?
Someday the EU standards could “serve as the basis for countries outside of Europe,” said Vanessa Müller, partner and ESG services leader at the consultancy EY in Luxembourg. In discussions with clients out of Asia and the US, in particular, “it generates a lot of traction,” she noted. “I see that for many international groups, this is something that is taken seriously, even if there is no obligation for them to follow” the taxonomy immediately. “They know it’s coming and they want to adopt it as well as much as possible.”
“I’m optimistic,” Müller stated. “I don’t know if it will ultimately be the standard that will be used worldwide. But at least it’s a foundation and it’s a good basis.”
Others are more critical. “The inclusion of gas in the taxonomy undermines the EU’s ambition to set the international benchmarks and standards,” commented Mirjam Wolfrum, director of policy engagement at CDP Europe, an NGO that runs an environmental disclosure system. China’s taxonomy, for example, “is very different, but it excludes gas for now. So I think the EU is sending the wrong signal there.” Europe risks giving up its “leadership role” in sustainable finance, she argued.
Greater international alignment would be a plus, Wolfrum said. “Investment firms would certainly welcome more regulatory consistency in major global economies, at least, where they’re operating in line with the highest standards. This is what we hear loud and clear.”
Some sort of global alignment could eventually take shape. “We know that China and the EU are discussing common ground in their taxonomies,” observed Rick Lacaille, senior investment advisor at the custody bank and financial data provider State Street. “The EU being a first mover has an interesting advantage, and that has an implication for fund companies. If you’re domestic--by that I mean have a European base--and you’re exporting around the world, you may have some advantages in the sense that you’ve encompassed this, adjusted to it. And they’re able to, in a sense, label [their funds] just as Ucits is an exportable label.”
“The flip side of that is when you have a global business that’s outside of Europe, and you’re proud of your credentials when it comes to sustainability, you may have the risk that you have a two-speed investment process. One that matches to the European taxonomy and one that might satisfy the rest of your global client base,” says Lacaille. “That’s a challenge. And it won’t really go away as people develop their own taxonomies, but Europe has some advantages as a first mover in this area.”