SUSTAINABLE FINANCE ROUNDUP

Clarifying greenwashing to prevent greenhushing

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BRUSSELS, 26 April 2023

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Sustainability has been attracting considerable and growing attention over the last years. With increasing regulatory developments and industry initiatives related to sustainability, greenwashing claims have also begun to rise. While many financial institutions’ sustainability claims are based on corresponding sustainability claims from their customers and counterparties, reputational implications, including of wrongful greenwashing accusations, risk deterring financial institutions from increasing transition and sustainability financing and the development of sustainable financial market products. The perception of greenwashing also undermines trust in the market for sustainable finance products which can hold back the demand from investors, and ultimately reduce the impact of efforts to channel finance in support of sustainability objectives. The fear of greenwashing accusations linked to the possibility of ultimately being unable to achieve a global objective, or to achieve it in the agreed timeframe, due to external influences beyond a bank’s control may also further disincentivize the uptake of voluntary commitments and can also generate an exit effect, especially taking into account the duration of such commitments, the diversity of actors involved and the complexity of the current geopolitical context.

The risk could be averted by building on and further harmonizing the existing legislative framework. Unambiguous principles for both financial and non-financial undertakings, which are applied consistently across the various legislative initiatives, could be established with the aim of eliminating the risk of greenwashing. Firstly, it is essential to relate greenwashing to the damage caused mainly to market integrity and/or customer protection due to misleading information or material omissions that could affect decision-making processes around sustainability. Two main elements should then be considered when assessing a potential case of greenwashing: the presence of gross negligence and/or intentionality. The notions of intentionality or negligence imply that a firm can be at risk of greenwashing if it has failed to comply with legal requirements or voluntary frameworks against which it has claimed sustainability. Actions of misrepresentation that do not involve the elements of gross negligence and/or intentionality should, instead, be treated differently.

Lack of clarity and consistency of EU regulation addressing greenwashing, which is just coming into effect under short implementation timelines and in a context of insufficient maturity of ESG data and ESG methodologies, could create the foundation for possible unintentional misrepresentation even in the presence of the best possible due diligence. Where a market participant has no intention and has not been negligent in using or communicating information which has been provided by a third party or based on proxies, that market participant, or its action, should not themself be categorized as greenwashing. This is an important distinction as it is nether appropriate, nor practicable or proportionate to hold market participants liable for misleading statements made by third parties unless they have themselves intended to mislead or have been negligent in using or communicating the misleading information.

Concerning the definition of what could be considered sustainable, the EU Taxonomy defines what can be considered a sustainable activity. However, many activities are not (or not yet) included in the taxonomy and there is no objective basis for labelling these activities. Even more importantly, there is no definition of what could be considered as transition finance – the financing of activities or companies in their transition to net zero. As recognized by the G20 in its recent report, despite the rapid growth of the green and sustainable finance markets, financing efforts have mostly focused on green activities, while support to the broader range of investments needed for the climate transition of the entire economy, including GHG-intensive sectors and firms, has been more limited. An effective framework for transition finance has the potential to not only support the whole economy’s transition and improve the ability of sectors or firms to gain access to financing to support their transition to net zero, provide incentives and opportunities to promote more sustainability-aligned products or businesses and contribute to transparency and financing ESG activities/products, but also reduce the risks of greenwashing, increase transparency and the understanding of the real contribution of the financial and non-financial sector to net-zero objectives. Furthermore, a single approach for the use of proxies and estimates across EU legislation and a list of acceptable proxies defined at EU level would further improve comparability of disclosures and reduce the risk of unintentional misrepresentation. Finally, the regulation of ESG ratings and ESG data providers would be beneficial to the entire market by enhancing transparency on their methodologies and reliability of the ratings and data, thus reducing the risk of unintentional greenwashing.

To conclude, a broad concept of greenwashing would pave the way for more greenwashing claims against the financial market participants in a situation where the regulatory framework and data are still maturing. As this will eventually be to the detriment of the green transition, unintentional or passive misrepresentation of sustainable features should therefore clearly be treated differently. Alternatively, for the first few years and until regulations are stabilized and high-quality data becomes available, “safe harbour” provisions, or similar, might be envisaged. In any case, it is important to enhance legal clarity, legal certainty and address areas of uncertainty or lack of appropriate sequencing throughout the sustainable finance regulatory framework in order to achieve the common net-zero ambition.

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For more information:

Alexia Femia, Financing Sustainable Growth Adviser, a.femia@ebf.eu

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