EU Sustainable Finance Rule-making “a Process Not an Event”

“Early days” for SFDR, CSRD, says DG FISMA’s Deckers, as Commission aims to boost transition finance and ESG ratings and data transparency.  

The European Commission (EC) is set to carry out a post-summer “comprehensive” assessment of its Sustainable Finance Disclosure Regulation (SFDR) in an attempt to make it “more usable”.  

Speaking at City & Financial Global’s Climate and ESG Data Summit, Alain Deckers, Head of Unit, Asset Management, DG FISMA, European Commission, confirmed that a review is expected to get underway in September, though significant changes will not be made until after the European Parliament elections next year. 

SFDR requires large financial service providers, including asset managers, to disclose detailed information about financial products marketed as mitigating ESG risks or having sustainability characteristics or objectives. 

“We think that making SFDR more usable and addressing, in particular, some of the frictions between SFDR and other pieces of the sustainable finance puzzle is important,” Deckers said. 

Alongside the Corporate Sustainability Reporting Directive (CSRD) and Green Taxonomy, SFDR is a key part of the legislative framework being constructed by the European Commission to channel private capital to sustainable investments. 

Deckers emphasised the iterative nature of sustainable investment regulation, pointing out that all aspects of the Commission’s framework are subject to ongoing review and refinement.  

SFDR is “still in some ways in its relatively early days”, he said, noting that the “detailed disclosure requirements” of its regulatory technical standards only came into effect from 1 January 2023.  

The much-delayed Level 2 of SFDR requires asset managers to provide more detailed disclosures to justify the categorisation of their Article 8 (environmental and/or social characteristics) and Article 9 (environmental and/or social objectives) funds. 

Deckers said the EC has “already identified a number of issues, and even difficulties, that we think need to be addressed”, which it is attempting to clarify through the introduction of tools and Q&As. 

In April, the Commission issued a Q&A in response to questions from the three European Supervisory Authorities, in which it declined to define ‘sustainable investment’, leaving responsibility for justifying their claims of sustainability firmly with service providers.   

Deckers was speaking ahead of the expected publication of the Commission’s proposed new framework for regulating ESG ratings and data providers, which requires greater transparency on methodology, cracks down on conflicts of interest, and introduces new rules around governance and controls.  

The announcement was scheduled to be accompanied by a new plan aimed at stimulating the flow of finance to activities and projects that support the transition to a low-carbon economy, and an updated version of the delegated act that adds non-climate technical screening criteria to the Green Taxonomy.  

DG FISMA is the Commission’s directorate-general responsible for financial stability, financial services and the Capital Markets Union, covering the development and execution of policies on regulation and supervision, insurance and pension funds, and sustainable finance. 

Fine-tuning CSRD 

Deckers also underlined the ongoing nature of sustainable finance regulation implementation with regard to CSRD, which from next year will require European corporates to disclose sustainability-related information in line with European Sustainability Reporting Standards (ESRSs) developed by the European Financial Reporting Advisory Group (EFRAG). 

The draft delegated act for CSRD published for consultation on Friday appeared to dilute previous iterations, requiring materiality tests for some of its reporting requirements and delaying implementation for some firms.  

Deckers, also Vice-Chairman of EFRAG’s European Lab Steering Group, noted that the introduction of CSRD would be a “process, not an event”, with a review process and review cycle being built into the standards allowing them to be fine-tuned over time. 

CSRD is expected to affect up to 50,000 entities that are not currently required to report on ESG activities under the EU’s Non-Financial Reporting Directive, forcing them to make ESG disclosures in annual reports for 2024 onwards. 

Prior to the release of the draft delegated act, the European Sustainable Investment Forum (Eurosif) had urged investors to call on the EC to reconsider proposed changes that would weaken the CSRD. The organisation had cautioned that a reduction in the ambition of the ESRSs risks “undermining the effectiveness” of the CSRD and the implementation of the EU sustainable finance strategy.  

Following outreach events and a public consultation from April to August 2022, EFRAG had already reduced the number of disclosure requirements by 40% and the number of individual data points by about 50%. 

The act is open for consultation until 7 July, which offers a final opportunity for investors and other financial market participants to influence the CSRD standards. 

Four in five of the respondents to Workiva’s recent ‘Annual Reporting Barometer 2023: Facing up to the CSRD’ report said they will be complying with the CSRD in the future, and 94% of the European firms surveyed are working to become compliant by 2024. However, the report warned that EU firms are “running out of time” to comply with CSRD. 

“Trust deficit and aggregate confusion” 

Also speaking at the event, Mark Manning, Strategic Policy Advisor on Sustainable Finance at the UK’s Financial Conduct Authority (FCA), underlined the importance of trust and transparency around ESG data and ratings. 

“With reliance on ESG data services only growing, we think it’s absolutely crucial that there is good transparency of the methodologies that data and rating service providers are using that will improve understanding and interpretation of their outputs,” he said. 

The FCA’s Manning said that the “profusion of different ESG data products, standards and frameworks, and a complex terminology with often interchangeable language to describe the same thing, has created a trust deficit and aggregate confusion” around ESG data.  

He said that the next key steps for ESG data regulation are about addressing methodology gaps and coalescing around a number of key indicators and metrics that will “effectively underpin trust in the market and assessments of the credibility of transition plans” to “ultimately mainstream sustainable finance”. 

The FCA has proposed a code of conduct for ESG data and ratings providers that looks to foster “greater transparency and trust in the market”. To develop this voluntary code, the authority convened a working group co-chaired by M&G, Moody’s, London Stock Exchange Group, and Slaughter and May.  

The UK government’s HM Treasury is currently consulting on a regulatory regime for ESG ratings providers, which aims to “ensure improved transparency and good conduct”. Initially announced as part of its December 2022 Edinburgh reforms and officially opening on 30 March, the consultation is due to close on 30 June. 

“We’ve been quite clear that we see a clear rationale for regulatory oversight of ESG data and ratings providers and for a globally consistent regulatory approach in this area,” Manning said. 

A proposal being unveiled by the EU Commission this week will require ESG rating agencies – including those from outside the bloc – to certify with the EU’s financial regulator as part of a greenwashing crackdown. 

Sanctions for ESG ratings agencies’ conflicts of interest could trigger fines of up to 10% of annual turnover, as the EC attempts to increase transparency. 

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