The momentum on ESG disclosure and integration is accelerating

• The focus on climate remains, but Covid has balanced environmental issues somewhat more with social issues than in the past
• The movement towards greater availability of data and integration by financial sector institutions is gaining greater visibility on regulatory radars
• Pressure to move towards standardization and higher standards with a global approach has heated up, even though it may not produce the best outcomes

Development in responsible finance has been accelerating for the past few years. With the Covid-19 pandemic sweeping around the world in 2020, acknowledgement of ESG went mainstream. The pace of 2021 indicates that change is only likely to accelerate from the second half of 2021, led by regulators.

In our series on financed emissions, RFI Foundation research has shown how much of a gap there is in attributing emissions to the financial sector. The same was confirmed by research from CDP on disclosures made by financial institutions. ECB Executive Board Member Fabio Panetta in a recent blog post highlighted how low average carbon prices are today ($2 per ton) and how few emissions sources (just 5% according to the World Bank) are fully priced in line with the Paris Agreement.

There is a specific operating theory of a ratchet of ambition over time as targets are achieved or slip further from our grasp when working within the Paris Agreement to move the needle forward on climate change-related issues. This creates an Inevitable Policy Response that drives policies to close the gap between current carbon prices and what is “Paris Aligned”, whether through direct carbon taxation, indirect regulation of GHG emissions, or through trade-mechanisms using carbon border adjustments.

That is working as expected in relation to climate change, but the financial sector is still falling behind, especially in the banking sector. However, other changes are afoot, which can be seen in how a blog post about carbon pricing, ‘build back better’, and investments needed to transition away from fossil fuels widens in scope beyond finance and into sustainability disclosures.

The response to the urgency of climate change and the effects of the Covid-19 pandemic has changed the way we perceive sustainability and, in turn, sustainable finance. Environmental issues, and recently climate change in particular, have been at the forefront of responsible finance. Climate change is the most acute global crisis facing the world today, but other ESG issues related to global inequality and inequities in the impact of Covid have gained resonance.

That is affecting how regulators push forward with sustainable finance classifications, taxonomies and standards. There is significant focus on climate disclosures, but an even stronger push towards a “common global approach” to demolish and replace an “edifice of inconsistent and incomparable standards, definitions, and metrics [that] has fragmented sustainable finance markets, reducing their efficiency and limiting the cross-border availability of capital for green investment,” according to Mr. Panetta.

This push is beginning with corporate disclosures, on which Mr. Panetta thinks the EU’s proposed Corporate Sustainability Financial Reporting Directive (CSRD) should be the aspirational benchmark for an international standard. These disclosures are seen rightly as a critical input into sustainable finance applications. As important as good quality data could be if they were globally available, there is a long way between what is aspired to in the EU’s CSRD and what is needed in the interim to make major progress on ESG-related issues within the next 5–10 years.

The perfect can be the enemy of the good, and what is feasible for European companies may not be realistic elsewhere. If this is clear from the outset, building a new edifice on hoped-for corporate reporting need not start with the assumption that it can and will be comparable in emerging and developed countries.

That is what would be needed to make the best-in-class approach the target for a common global approach. It may make the best long-term aspiration. In the meantime, it may cater more to the cross-border users of the data than it would to helping change things on the ground for companies having to collect and report the data.

The importance of context is to bridge the gap between aspiration and what makes a meaningful impact on decision-makers in the periods of time between now and the more distant future. That’s not static or always the ‘best in class’ standard. It requires a clear starting point and a ratchet over time towards a target recognizing both the challenges as well as the need for ambitious targets.

Rather than trying to lock in the best from the start and make it apply to everyone, it will be more effective in the long-term and address the inequities of starting positions to take an equitable approach where each country’s ambition is defined by its past and its future.

Having an agreed objective — as with the Paris Agreement or the Sustainable Development Goals — is important, but the path from the present to those future goals won’t be the same for every country and that affects how each company measures and manages its sustainability risks and opportunities. A more ambitious future is coming for ESG disclosures and integration by the financial sector.

The only question from here is how adaptive it will be to differences between countries. Too adaptive and the door is open to greenwashing and a ‘race to the bottom’. Too rigid, and the focus on quantification and reporting puts a focus too strongly on the outputs rather than the outcomes.

Want to learn more about how RFI Foundation can help you identify your biggest opportunities in responsible finance? Contact us for more information through our Membership Page or by email at info@rfi-foundation.org.

Republished from the RFI Foundation’s weekly newsletter. Subscribe for free here!