Why Do We Need a Common Ground Taxonomy
The main intention of the IPSF to conduct the comparative study on the EU Taxonomy and the China Taxonomy was to bring more clarity to the commonalities and differences between the two approaches. Harmonising both approaches can reduce the fragmentation as a universal standard is critical to boosting cross-territory sustainable investing and reducing the transaction costs arising from duplicated verification, thus scaling up sustainable capital internationally.
The Global Impacts of the Common Ground Taxonomy
Although the work to develop the Common Ground Taxonomy is led by the EU and China, IPSF has 18 members across the globe that account for 55% of the global GDP or GHG emissions in total.
The existing outputs and future ones to be developed by the Taxonomy Working Group will have profound impacts on the members’ jurisdictions, while encouraging other countries and regions to refer to the outputs when creating their own classification tools.
Despite no legal effects, the Common Ground Taxonomy may still play a pivotal role in advising stakeholders in the green finance area, including financial institutions, firms and academia.
The current Common Ground Taxonomy represents the first step in the long and cumbersome path ahead when it comes to harmonising and aligning international taxonomies. By doing so we will overcome a significant we will overcome a significant hurdle we face in the transition to a low-carbon economy by enhancing the quality and quantity of ESG data, obtaining better disclosure, and formulating more consistent regulations.
On 19 July 2021, the Global Sustainable Investment Alliance released its fifth biennial report “2020 Global Sustainable Investment Review”, which reveals that global sustainable investment had exceeded USD 35.3 trillion by the end of 2020, accounting for around 36% of total assets under management[1].
While global sustainable investment jumped by 15% from USD 30.7 trillion in 2018, one irregular trend has emerged in Europe where sustainably invested assets under management dropped from USD 14 trillion to USD 12 trillion. Instead of that market was shrinking in Europe, there has been a significant change in the economy to the definition of what is sustainable as noted by the report. European asset managers and banks had approached sustainable investing with more caution. Policymakers also worked on tackling greenwashing. In particular, the EU Taxonomy officially entered into force in July 2020.
Apart from the EU, policymakers across the world have tried to resolve greenwashing challenges. As much as coating business activities with a slight touch of sustainable features left regulators worried, sporadic economy-wide taxonomies have made international sustainable investments challenging. That is why China and the EU, both large economies with green taxonomies in use, have come together to develop a “Common Ground Taxonomy”.
On 4 November 2021, the International Platform on Sustainable Finance’s (IPSF) Taxonomy Working Group co-chaired by the EU and China released the “Common Ground Taxonomy – Climate Change Mitigation Instruction Report” and the accompanying Climate Change Common Ground Taxonomy.
The report contains an in-depth comparison between the EU and China taxonomies regarding climate change mitigation; this publication may broaden over time to address other environmental objectives[2]. The harmonized taxonomy covers 80 activities across 6 sectors: agriculture; forestry and fishing; manufacturing; electricity, gas, steam and air conditioning supply; water supply, sewage, waste management and remediation activities; construction; and transportation and storage.
The EU Taxonomy
The EU Taxonomy is a classification tool that will help scale up sustainable investment as it provides policymakers, undertakings, and investors with the appropriate definitions for which economic activities are deemed environmentally sustainable. The main environmental objectives of the taxonomy are: 1) climate change mitigation; 2) climate change adaptation; 3) sustainable use and protection of water and marine resources; 4) transition to a circular economy; 5) pollution prevention and control; and 6) protection and restoration of biodiversity and ecosystems.
The EU Taxonomy was created to develop a list of economic activities to help the region meet the climate goals and other sustainability goals in the EU and globally. The flow of capital towards building a low-carbon climate resilient economy is vital. Capital is also necessary in meeting the EU’s climate and energy mid-term targets for 2030 and realizing the “European Green Deal” which aims to transform the EU into a modern, resource-efficient and competitive economy. The EU’s green Taxonomy plays a key role in guiding the financing of these objectives.
The EU Taxonomy focuses on 9 industries: forestry (4 categories); environmental protection and restoration activities (1 category); manufacturing (17 categories); energy (21 categories); water supply, sewage, waste management and remediation (12 categories); transport (17 categories); and construction and real estate activities (7 categories); information and communication (2 categories); professional scientific and technical activities (3 categories).
The China Taxonomy
In April 2021, Chinese regulators the People’s Bank of China (PBoC), National Development and Reform Commission (NDRC) and China Securities Regulatory Commission (CSRC) jointly released the “Green Bond Endorsed Projects Catalogue (2021 Edition)”. It came off the consultation paper published by the three regulators on 8 July 2020 that represented a major revision to the “Green Bond Endorsed Projects Catalogue (2015 Edition)”.
Substantial progress has been made in the new version from its 2015 edition. Among the notable changes are the inclusion of now-five types of green services instead of just one previously and the removal of clean coal projects to keep pace with the global trend.
Other changes include narrowing down the scope of hydropower projects to recognise only the large-scale projects and the addition of new energy-related projects like electric vehicles and energy storage.
The latest catalogue outlines a sum of 204 programs classified in six major categories: 1) Energy-saving and Environmental Protection Industry (62 programs), 2) Clean Production Industry (19 programs), 3) Clean Energy Industry (26 programs), 4) Ecology and Environment-related Sector (28 programs), 5) Sustainable Upgrade of Infrastructure (38 programs), and 6) Green Services (31 programs).
Delivering the Common Ground Taxonomy
Unlike the EU, China does not specify the environmental objectives it tries to support with the green taxonomy. However, the “Guidelines of Establishing the Green Financial System” published by seven governmental bodies including the PBoC in 2016 noted that the primary objectives of developing green finance are: 1) environmental improvement, 2) climate change response, 3) more efficient resource utilization[3].
The Taxonomy Working Group considered that high correlations exist between the environmental objectives of the EU and China by concluding the following mapping table:
Table 1 The EU and China’s Environmental Objectives
The first phase of work, the Common Ground Taxonomy on climate change mitigation was elaborated based upon the part of the EU Taxonomy on climate change mitigation and the part of the China taxonomy on climate change response.
Focusing on mitigating climate change, the Common Ground Taxonomy prioritises the largest emitting sectors, such as electricity supply, construction, etc, while leaving out the less GHG-intensive sectors like information and communication, or green services. The Common Ground Taxonomy has explored the commonalities of the EU and China’s approaches rather than the differences. The working group reported that in scenarios where one taxonomy has a more stringent/detailed definition or criteria, the Common Ground Taxonomy will follow the more stringent/detailed approach.
Table 2 Scenario Analysis of Common Ground Taxonomy
Find more about the Common Ground Taxonomy and the IPSF: International Platform on Sustainable Finance | European Commission
Covered Document:
Common Ground Taxonomy – Climate Change Mitigation Instruction Report
Climate Change Common Ground Taxonomy
China Taxonomy: Green Bond Endorsed Projects Catalogue (2021 Edition)