Sustainable finance: The tool box is taking shape, but where is the project?

Brussels, 31 January 2018 – Finance Watch welcomes the publication of the final report of the High-Level Expert Group on Sustainable Finance (HLEG), which aims to inspire and guide the European Commission’s action plan on sustainable finance.

The report contains very thoughtful recommendations for a more sustainable framework for finance in the EU, however, it will fail to deliver on its three core objectives as it lacks a broader vision of how to achieve these targets.

Mireille Martini, Senior Research and Advocacy Officer on Financial systems for sustainability, said:

“The work of the High-Level Expert Group paves the way for sustainable finance to support a sustainable European economy that not only protects EU citizens’ futures but is also the key to future inclusive economic development. 

“In the general interest of citizens, we urge the EU to be more ambitious with developing an economic framework that will let profitable, sustainable real assets emerge so that finance can fulfil its purpose of serving society.”

Benoît Lallemand, Secretary General, said:

“The transformation of the financial system over the past three decades – sometimes referred to as a ‘financialisation’ of the economy – has contributed significantly to accelerating environmental degradation, increasing inequalities and weakening social protection standards. 

“Suggesting that finance can support a transition to a sustainable economy means a deep transformation of the business models of large financial institutions. This goes far beyond the HLEG recommendations.”

Finance Watch assumes that the report will mostly fail in its three objectives:

1. In order to steer the flow of capital towards sustainable investments, it will not be sufficient to establish a taxonomy that will help financial markets categorize sustainable assets and pick those they want to finance. This is a supply side approach.

Sustainable assets will not be produced by financial markets, but only by suitable economic regulation that makes the economy sustainable by pricing negative externalities such as carbon and other pollutants at the right tipping-point levels, where for instance energy efficiency retrofits of buildings become profitable.

This is a fantastic opportunity for the EU to address the lack of infrastructure investment in its economy and to become an economic champion in transition industries. But it will not happen without economic guidance, whatever the efforts in fostering the supply of sustainable finance.

2. The objective of protecting the financial system from sustainability risks will only work if EU citizens and the EU economy are protected from sustainability risks in the first place.

Climate change is already here and harming the EU. The report fails to address two key areas that are necessary to shield the financial system more broadly: the need for an EU adaptation plan, and the need to adapt the insurance and reinsurance sector rules so they protect EU states and citizens from claims arising from climate and environmental damage.

3. In order to deploy the policies on a pan-European scale, the HLEG considers that short termism and the lack of project deployment capacity are the two main hurdles to the mainstreaming of sustainable finance. We see many projects awaiting finance, particularly in the public infrastructure sector, which is key to inclusive prosperity.

These projects cannot be financed because of the lack of public finance availability, and because the cost of capital required by the private sector is too high. It is this high cost of capital that steers the economy towards short termism, and not “market myopia”. Reducing the cost of capital in the EU means addressing the core instability of financial markets.

We advocate financial regulation to increase stability, which will lower the cost of capital, as well as the increased deployment of public capital, and not on-going reliance on privately-funded investment schemes like the Juncker Plan and Sustainable Infrastructure Europe.

We find, however, some very positive recommendations in the HLEG report that we hope will pave the way for the above public interest objectives and considerations to be included in the EU’s approach on sustainable finance. We welcome:

  • A pan-directorate approach for the taxonomy, the involvement of the ESAs, the creation of a Sustainable Finance Observatory at the EU level. We think a transversal approach is necessary to make the transition to a more sustainable economy – not only a finance-centric one (that we describe above). We feel the joint work of several directorates on top of DG FISMA is indeed the way forward. On the topic of ESAs, we would like to see the ECB and the national central banks, as regulators of the banking and insurance systems, who have started to work on climate change, involving ESAs.
  • The attempt to standardize and label green bonds at EU levels. As far as labelling is concerned, we would like the envisaged labelling agency to control that the effective use of proceeds, post-issuance, is consistent with the label, and could be withdrawn if not.
  • The references to more diversified banking models and to the need to devise new sources of financing suited to the needs of the transition (such as local long-term lending banks for local agricultural or energy efficiency projects) are welcome and should be developed.
  • The recognition that international accounting standards need to be adapted to integrate sustainability into valuations, and the willingness to approach EFRAG to adapt EU accounting standards to that effect.
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