“A manifesto for far-reaching reform” is how Valdis Dombrovskis, vice-president of the European Commission, hailed the report published last Wednesday by the EC’s High Level Expert Group on Sustainable Finance.
That is exactly what it needs to be. The financial system at present is not steering Europe towards a sustainable economy — it is largely financing the status quo, which will lead to catastrophic global warming.
The HLEG group of 20 private sector experts — representing investors, banks, exchanges and NGOs — has done an impressive job. The strength of its work partly reflects the way the group was chosen.
Many of the panel are leaders in responsible investing and sustainability — they are not drawn from the sluggish mainstream of financial and business opinion.
The way the process was run by chair Christian Thimann of Axa also allowed the group to multiply its efforts. Meeting for two days a month, it used input from observers, several EC departments and, in the halfway consultation stage, the market at large.
The HLEG did not have time to cover everything — the process was wisely kept to a year and the report to 100 pages. But what is so important is that it covered nearly everything, or at least a great chunk of the myriad interactions between finance and sustainability.
Your green is not my green
Ask a corporate or development bank treasurer or a debt capital markets banker about sustainable finance and they will tell you it is all about green bonds.
Talk to the head of an asset manager, and they may say “Oh, we have some ESG equity funds”. One of the more clued-up pension fund trustees will say they are trying to measure their carbon footprint and make sure the asset managers they employ follow the Principles for Responsible Investment.
They are all doing their bit, but in different ways and often unaware of each other.
These examples are just the tip of the iceberg. Umpteen organisations and movements are trying to make parts of finance sustainable.
Many of them have regulatory force. A report by the PRI in 2016 found that, in the 50 largest economies, there were almost 300 policy instruments “which support investors to consider long-term value drivers, including ESG factors”. More than half had been created since 2013.
Leaders of companies, government bodies and investment firms can be forgiven for scratching their heads and wondering which of this alphabet soup of good works they ought to get involved in.
Just as importantly, organisations can shower investors or other stakeholders with a snow of worthy initiatives and leave them dazzled.
Which of Société Générale and UBS is the bigger bank, the more profitable, the more valuable? Easy to answer. Which is the more sustainable? It could take you a month to weigh up all their contrasting claims and metrics, which will not be comparable.
Your green next to my green
This chaos partly reflects the reality that the environment and society are three dimensional systems, more complex than the linear world of finance, where the outcome is a sum of money.
But it also shows how far the financial system is from truly understanding sustainability and doing anything concerted to bring it about.
The basic fact that people can make a lot of money in the short term and then change jobs or retire means the existing financial system is ill suited to warding off threats that may have long-term severe consequences, but no one knows when or how bad.
How to change that is the task that the European Union — obeying its promise in the Paris Agreement — has now taken ownership of.
What the HLEG report has done is make obvious to all in the financial system what is going on in all the other parts of it.
By bringing all these initiatives and ideas together, sorting them into categories, explaining and prioritising them, the HLEG has produced a primer on sustainable finance.
Others have done that, but the HLEG report is an official European public document. It is going to feed into an even more official Commission sustainable finance action plan.
People in markets pay attention to what the government says. Now, they have an official place to look for answers to their questions about which aspects of sustainability apply to them, and how those interact with other aspects.
On the level of understanding, therefore, the unity of the HLEG report is creating strength.
Both your green and my green
The same is true on the level of action.
The message of the HLEG is: there are many ways to take action — and all of them are necessary.
In a document long on policy advice and short on blather, the panel makes eight key recommendations and 20 more specific or lower priority ones.
The main proposals include establishing an EU taxonomy (i.e. list) of sustainable activities and policy objectives, so finance experts — including green bond issuers — know where their projects belong and can apply comparable standards to them; clarifying that investors’ duty requires them to take into account sustainability, rather than the opposite; making investment advisers ask retail savers about their sustainability preferences; obliging regulators to consider sustainability; and creating a new body, Sustainable Infrastructure Europe, to bring projects to market.
Market players will have different views on which of these are most valuable.
Those involved in green bonds, for example, are bound to be cheered by the taxonomy and proposed EU Green Bond Standard, which promise to give the market official backing and definition.
But at the same time, there is no longer any excuse for the green bond world to be ignorant of what is happening in other fields and channels.
Companies and DCM bankers can now read in clear, forceful prose that the EU says investors should consider the sustainability of their investments. Not just their green bonds.
That implies: debt investments in general should be sustainable — so investors can, should and will increasingly live up to their responsibilities and ask awkward questions about sustainability on roadshows for normal bonds. Banks need to prepare issuers for this.
The risk agenda is probably the most powerful part of the picture. If investors — and, above all, regulators — really look up and face environmental change, they will see enormous risks. When they start trying to manage these, it will drive enormous portfolio shifts.
But all the other parts — taxonomies, standards, metrics, incentives, capacity building — will help them do it more efficiently and smoothly.
Action across the spectrum is required. The HLEG has clearly set out the policy options.
The ball is with the EC, but member states and the European Parliament will have to kick it in the goal. Financial market participants and their lobbyists should try to assist them, not obstruct them with objections or endless talking. It is vital this happens, and quickly.