What is the EU’s “green” taxonomy of sustainable finance?

Supporters say it is the world’s most ambitious green investment ordinance and could channel huge sums of money into the fight against climate change. Critics say it’s an exercise in greenwashing that puts the European Union’s climate change goals at risk.

So what is the EU sustainable finance taxonomy?

What is taxonomy?

The EU taxonomy is a complex system for classifying parts of the economy that can be marketed as sustainable investments. It includes economic activities, as well as detailed environmental criteria that each economic activity must meet in order to receive a green label. The rules for most sectors came into effect this year, covering investments including steel plants, electric cars and building renovations.

Rules for gas and nuclear power, however, have long been delayed amid intense lobbying by governments that disagree over whether the fuels help fight climate change.

What does it say about gas and nuclear energy?

In February, the European Commission made a proposal to add gas and nuclear power plants to the taxonomy if they meet certain criteria. The European Parliament backed the proposal in a vote on Wednesday, paving the way for it to become law and apply from 2023. Twenty of the 27 EU member states could veto the proposal, but that is considered unlikely.

According to the Commission’s proposal, for a gas-fired power plant to be considered green, it must not emit more than 270 grams of CO2 equivalent per kilowatt hour or have an average emission of 550 g CO2e/kW over 20 years. It must also commit to switching to low-carbon gases by 2035.

The Gas Commission’s original proposal, published at the end of 2020, included a lower limit of 100g of CO2. It was amended following a backlash from countries including Poland and Bulgaria, which say gas investment is needed to move away from more polluting coal. Others, such as Denmark and Luxembourg, say it is not credible to label gas, a fossil fuel, as green.

What is taxonomy for?

The taxonomy does not prohibit investment in activities that are not labeled as “green,” but it does limit which companies and investors can claim to be climate-friendly. The EU’s goal of eliminating its net emissions by 2050 will require huge investments, mostly private financing. The taxonomy aims to make truly green activities more visible and attractive to investors.

The rules also aim to stamp out greenwashing, where organizations exaggerate their environmental credentials, among so-called green investment products.

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Who does it refer to?

Financial product providers – including pension providers – in the EU must disclose which investments comply with the taxonomy’s climate criteria. For each investment, fund or portfolio, they must disclose what proportion of the underlying investments are compliant. Large companies and listed firms must also disclose what proportion of their turnover and capital expenditure qualifies.

This means that polluting companies can get credit for green investments. For example, if an oil company invested in a wind farm, it could label that expenditure as green.

What makes a “green” investment?

The rules classify three types of green investments. First, those that contribute significantly to green goals, for example, wind farms.

Second, those that enable other green activities, for example, facilities that can store renewable electricity or hydrogen. Third, transitional activities that cannot be made fully sustainable, but which have emissions below the industry average and do not close polluting assets or crowd out greener alternatives. Gas and nuclear power plants are classified as transitional activities.

Why did it take so long?

The gas and nuclear power rules have faced more than a year of intense lobbying by EU governments and industry. EU policymakers had hoped the climate rules would end in 2020. Finally, the EU published a set of rules covering most sectors in April 2021 and delayed the criteria for gas and nuclear power until this year. The criteria are based on the recommendations of expert advisors, designed to be in line with scientifically based goals in the fight against climate change. But some advisers say scientific criteria have been sidelined in the EU’s political battle over the rules.

Is it all in taxonomy?

No. To be considered green, an activity must significantly contribute to one of the six environmental goals and not harm the other five. So far, the rules cover two goals – combating climate change and adapting to its impacts. The criteria for the others will follow this year.

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