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July 27, 2022

The EU Taxonomy's Crisis of Identity

The inclusion of some gas and nuclear plants as 'sustainable' under the EU Taxonomy is symptomatic of an initiative that, despite the best of intentions, is at risk of losing sight of its purpose.

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The EU Taxonomy, the EU’s proposed attempt to define which activities are and are not sustainable, was hailed as a guiding light for sustainable investing not only in Europe, but as a template for other regions of the world to follow. It was supposed to provide a legislative stamp of approval for green investments, offering clarity into a world of greenwashing, and serving as a crucial tool in channelling investments into solutions which drive the climate transition.

 

Lately, however, the details of the taxonomy have been beset by external pressures and political infighting and have starkly exposed the cracks between EU countries.

 

Two developments over the last month stand in stark contrast to each other, and paint a picture of an initiative which, despite the best of intentions, is losing sight of its founding purpose: To ensure that market participants have the necessary framework to steer investments towards a 1.5 degree temperature scenario.These two developments are the inclusion of social safeguards into the EU Taxonomy, and the inclusion of some types of gas- and nuclear-powered energy production as sustainable activities.

 

A sustainable transition is a just transition

 

The EU Platform on Sustainable Finance in July published draft recommendation on how ‘minimum safeguards’ could be developed and embedded into taxonomy rules. The safeguards, set out in Article 18 of the Taxonomy, require companies to implement procedures to comply with UN Guiding Principles on Business and Human Rights and the OECD Guidelines for Multinational Enterprises.

 

These safeguards refer to the social risks of the transition to a green economy. Vulnerable communities, especially in the Global South, have had their land taken and food security threatened in the drive for biofuel. Human rights abuses linked to the mining of minerals essential for renewable energy and electric vehicles have been reported, and countless cases of displacement and violations of indigenous people’s rights have been linked to renewable energy projects around the world.

 

The social safeguards recommend that certain requirements on human and labour rights, corruption, bribery, taxation and fair competition are included in the EU Taxonomy. If companies are found to be in serious violation of these, it would render them non-compliant with the EU Taxonomy.

 

One of the core tenets of the EU Taxonomy is the concept of ‘Do no significant harm’, which entails that progress in one area cannot come at the expense of another. This refers both to the six environmental objectives laid out in the EU Taxonomy, as well as the EU’s wider sustainability agenda. Similarly, the United Nations Global Compact’s guidance for Business and the SDGs repeatedly expresses that good practices or innovation in one area cannot make up for doing harm in another.

 

This is especially pertinent on the issue of human rights. An analysis undertaken by Matter of the 45 largest sustainability-themed ETFs found that 10.3% of the average portfolio had been flagged for having a problematic approach to Human and Labour Rights. The standard, as Business for Social Responsibility writes, should be 0, as human rights are a global standard of expected conduct for all companies and investors, not simply an optional ESG extra.

 

These safeguards, although only part of a just transition, are essential in ensuring that the EU Taxonomy does not legitimise the creation of problems of one kind while solving another.

 

Inclusion of Gas and Nuclear threatens the EU Taxonomy’s legitimacy

 

At the same time as progress has been made on social safeguards, The EU Parliament has backed proposals to label investments in some gas and nuclear power plants as climate friendly.

 

The inclusion of gas and nuclear power plants as ‘sustainable activities’ under the EU Taxonomy has sparked fierce debates between EU countries, environmental groups, lawmakers and investors since it was proposed earlier this year.

 

The EU have quickly found out that they cannot please everyone. Too hard-line, and the taxonomy risks being called impractical and unrealistic. Too soft, and it becomes vulnerable to the critiques of environmentalists that the taxonomy will legitimise unsustainable practices and critically undermine the green transition. This quandary has been worsened by how climate goals can be hit amid a crisis with Russia over its gas supplies.

 

Elizabeth Meager in Capital Monitor explains that “Many believe the EU’s move will put a dent in its aim to have a world-leading taxonomy, considering that even Russia’s proposal does not currently include gas.”

 

To do significant harm, or not to do significant harm?

 

One of the key issues with the inclusion of gas and nuclear, is whether it goes against some of the foundational principles of the EU Taxonomy. The EU Platform on Sustainable Finance studied the impact of gas plants that would be eligible under the new Taxonomy rules and determined that this type of energy “is not green at any point in its life”, and does not offer a substantial contribution to mitigation consistent with 1.5 degree temperature scenarios. In other words, the Taxonomy is set to include activities that are, by its own definitions, unsustainable.

 

On nuclear, some are going as far as to question whether its inclusion as sustainable is even legal. Critics argue it violates the “do no significant harm” principle, with the inherent creation of nuclear waste hindering the taxonomy objective of pollution prevention.Further from that, the taxonomy aims to identify investment targets contributing to 2030 and 2050 transition goals, under Taxonomy rules new nuclear plants would not receive permits until around 2045, meaning their role will be limited in achieving these targets.

 

In response to the Platform’s findings, Sebastian Godinot from WWF said, “Attempts have been made to stifle the science, but today the platform has given it a megaphone: fossil gas generates huge emissions, and nuclear power creates highly radioactive waste which we still don’t know how to handle,”

 

The purpose of the EU Taxonomy has become blurred

 

These criticisms call the purpose of the EU Taxonomy into question. It appears that, increasingly, the EU Taxonomy is leaning in direction of being a practical framework for implementing the energy transition. This is not what it was conceived to be, however. The purpose of the EU Taxonomy is to focus on the environmental performance of economic activities and to identify sustainable activities that contribute to science-based 2030 and 2050 climate goals, in alignment with the Paris agreement.

 

The EU Platform on Sustainable Finance argues that gas can play a part in the energy transition towards net-zero emissions, along with ambitious increases in energy storage deployment and renewable, but this should not mean that gas investment are labelled as sustainable.

 

Exclusion from the taxonomy does not mean an activity is banned, simply that it is not considered as green by the authorities. Therefore, there was a scenario in which gas and nuclear could reasonably be spoken about as part of the transition, but not included under the strict, science-based criteria of the EU Taxonomy. As the lines between economic pragmatism and genuinely sustainable business activities blur, this appears to be gradually slipping away.

 

The EU Taxonomy

 

It is impossible to say at this stage what the ramifications of these decisions could be. In the short-term, it is undeniably a blow to the credibility and legitimacy of the EU Taxonomy and could have wider implications if other frameworks worldwide use it as their precedent.

 

However, it should not take away from how remarkable a piece of legislation the EUTaxonomy it is, and where we are now compared to four years ago. The EU Taxonomy offers investors, for the most-part, genuine, science-based insights into how environmental their investments are.

 

There is still a chance that the Member States will veto the inclusion of gas and nuclear, but even if they are included, the taxonomy combined with SFDR and the CSRD will represent an enormous step forward, and the scope for greenwashing will decrease dramatically, even from where we are now.

 

It would have been naïve to think that an initiative as complex as this would be without its teething problems. The hope is that the discussions being had will offer those behind the taxonomy an opportunity to reflect on its purpose, and that the backlash will serve as a warning sign to regulators around the world not to use this as an excuse to soften their frameworks, but to build on it and make something even better

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