What is it?
As a next step since introducing the EU Taxonomy, the European Commission was tasked to establish technical screening criteria through ‘Delegated Acts’. This first Delegated Act defines the technical screening criteria (TSC) for specific economic activities that can make a substantial contribution to climate change mitigation and climate change adaptation, covering the economic activities of roughly 40% of listed companies, in sectors which are responsible for almost 80% of direct greenhouse gas emissions in Europe.
The climate mitigation TSC cover over 85 activities across the forestry, manufacturing, energy, transport, waste and water, built environment and information and communication technology sectors, as well as professional, scientific and technical activities and environmental protection and restoration activities. The substantial contribution to climate adaptation TSC includes additional activities related to education, finance and insurance, health and social work, and the arts sector.
The Climate Delegated Act has not yet included the nuclear, natural gas and agriculture sectors; however, the Delegated Act, which will apply from 1 January 2022, is a living document and will continue to evolve with new sectors and activities, including transitional and other enabling activities, added to the scope over time. With regards to the agricultural sector, the European Commission explained that it delayed its inclusion because of the ongoing inter-institutional negotiations on the Common Agricultural Policy but aims to cover it in the next Delegated Act. In relation to hydrogen the Commission pointed out that the criteria covered in the Delegated Act are in line with the EU Hydrogen Strategy and encourage the production and use of hydrogen in accordance with the European Green Deal goals. Notably, the criteria for manufacturing hydrogen are set at a level considered sufficiently ambitious to ensure a substantial contribution to climate change mitigation, favouring the production of hydrogen from renewable sources.
Furthermore, the Delegated Act sets-out the ‘does not significantly harm’ (DNSH) to all six environmental objectives for those activities and the generic DNSH criteria for the six objectives of the EU Taxonomy (see below for a short recap).
A short recap: The EU’s Taxonomy Regulation
The EU Taxonomy helps create the world’s first-ever “green list” – a classification system for environmentally sustainable economic activities that investors can use when investing in economic activities that have a substantial positive impact on the climate and environment.
The EU Taxonomy is based on six environmental objectives:
- climate change mitigation;
- climate change adaptation;
- sustainable use and protection of water and marine resources;
- transition to a circular economy;
- pollution prevention and control; and
- protection and restoration of biodiversity and ecosystems.
In order to be considered environmentally sustainable, economic activities must comply with all four of the following criteria:
- substantially contributes to one or more environmental objectives;
- does not significantly harm (DNSH) any environmental objective;
- complies with minimum safeguards based on certain human rights standards; and
- complies with the Technical Screening Criteria (TSC), which are the detailed conditions for the first two objectives above.
Last year, the European Commission established a permanent expert group, the Platform on Sustainable Finance (the Platform), which plays a key role in bringing together the best expertise on sustainability from the public sector, industry, academia, civil society and the financial industry. Previously, in order to inform its work on sustainable finance, including the Taxonomy Climate Delegated Act, the European Commission established a Technical Expert Group (TEG) on Sustainable Finance in July 2018 - the Platform’s predecessor. In March 2020, the TEG published its final report on the EU Taxonomy. Overall, the development and regular updating of the EU Taxonomy framework via the Delegated Acts will continue to rely on extensive input from experts across the economy and civil society.
The EU Taxonomy, which will also form the core of the EU Green Bond Standard, is an early example of a major jurisdiction defining detailed, science-based criteria about which economic activities contribute most to environmental objectives. Very few countries – China is one example – outside the EU have developed taxonomy frameworks. Consequently, the International Platform on Sustainable Finance (IPSF) has started a working group, co-chaired by China and the EU, to undertake a comprehensive assessment of existing taxonomies from public authorities of its member countries with the aim to develop a Common Ground Taxonomy, which will form a solid basis to develop global common standards.
Who is affected?
Companies seeking sustainable finance; therefore, they will have to meet the expectations of investors, with Taxonomy-aligned reporting very likely becoming the ‘golden standard’ and aligns with Articles 8 and 9 highlighting sustainability of investment decisions, described below.
What is the timing?
Once adopted by the European Commission, which is expected to happen by the end of May 2021, the Climate Delegated Act will be scrutinised by the European Parliament and Council. If there are no objections, the Delegated Act will apply from 1 January 2022.
What are the implications?
The EU Taxonomy Climate Delegated Act delivers the first set of technical criteria for defining activities that contribute substantially to climate change mitigation and adaptation. It includes more economic activities and environmental objectives than used previously in market-based green financing frameworks. This means there will be more reliable, comparable sustainability information publicly available on the market for investors and stakeholders.
Companies can, if they wish, reliably use the EU Taxonomy to plan their climate and environmental transition and raise financing for this transition. Financial market participants can, if they wish, use the EU Taxonomy to design credible green financial products. However, the EC points out that the EU Taxonomy (and Delegated Act) can only guide market participants in their investment decisions, but it doesn’t prohibit investment in any activity. There is no obligation for companies to be Taxonomy-aligned and investors are free to choose what to invest in.