Sustainable finance: what to watch in 2023
Co-author: Oliver Doraisamy - Senior Manager Climate & Sustainability
As the global community responds to seismic shifts in economic, social, and environmental priorities, sustainable finance continues to move from a niche part of the market to the mainstream.
Australian financial institutions are increasingly integrating sustainability considerations in their strategy, decision-making and reporting1, with climate-related risk and scenario analysis, net zero targets and climate disclosures under the spotlight. But while climate has been a major focus in last few years, the sustainable finance transition is extending across a range of sustainability issues. A record amount of assets under management are incorporating responsible investment principles2, and sustainable debt issuances (linked to a range of social and environmental outcomes) continue to grow3.
The growing expectation – from investors, customers, regulators, and the public more broadly - is that financial institutions not only manage the negative environmental and social impacts of their portfolios, but also actively support the transition to a greener and more inclusive economy.
Against this backdrop, we set out below four things to watch in 2023 in the sustainable finance space in Australia, all of which point to the need for robust, holistic, and stakeholder-centric approaches to sustainability.
1. Movement towards mandatory disclosures
Several significant developments regarding sustainability-related disclosures occurred in Australia in the second half of 2022. Arguably the most significant of these was the announcement in December that the Federal Government was launching consultations on a proposed mandatory climate-related disclosure regime. If implemented, this would see Australia following the lead of other jurisdictions including the EU, UK, and New Zealand.
Three questions are likely to feature prominently in consultations and subsequent development of the regime. First, when should mandatory disclosures be phased in? Second, who should the disclosure regime apply to? (The Government has flagged its initial view that it should apply to large corporates and financial institutions). Third, how should Australia’s regime align to international standards?
On the third question, there is growing momentum both globally and in Australia behind the ISSB’s Sustainability Disclosure Standards. Expected to be finalised early this year, the standards aim to create a global baseline for investor-focused sustainability reporting, building on existing standards and frameworks including those set out by the Global Reporting Initiative (GRI) and Taskforce on Climate-related Financial Disclosures (TCFD).
While the Government has so far only committed to exploring mandatory disclosures for climate, it has signalled its support for consideration by businesses of the full suite of sustainability-related risks and opportunities. It has also said it is closely watching developments on nature-related reporting, particularly via the Taskforce on Nature-related Financial Disclosures (TNFD). This points to the possibility of potential broader sustainability disclosure requirements in the years ahead.
2. Heightened regulatory scrutiny of “greenwashing”
Alongside growing demand for action on sustainability, regulators are paying close attention to statements being made by corporates and financial institutions. In June last year, ASIC released its market guidance on how to avoid greenwashing when offering or promoting sustainability-related products, and in October took its first action against an organisation it deemed had contravened provisions of the Australian Securities and Investments Commission Act. Both ASIC and the ACCC have signalled their intent to play more active roles in supervising misleading ESG claims, and where necessary taking enforcement actions.
Equally, consumers and investors are becoming more sophisticated and attuned to the veracity of organisations’ sustainability-related claims. This poses potential reputational risk for financial institutions who are seen to exaggerate the extent to which they are integrating sustainability in their operations and financing.
As a result, care must be taken to ensure the use of clear and accurate language in both sustainability product labelling and disclosures. Familiarity with, and alignment to, industry-recognised standards and frameworks (in particular GRI, TCFD, TNFD, ISSB and emerging sustainable finance taxonomies) will be increasingly important in this context.
3. Progress towards an Australian sustainable finance taxonomy
Another significant area of work supporting the sustainable finance transition is the development of an Australian sustainable finance taxonomy. To date this has been led by ASFI with input from industry, however the Federal Government has announced it plans to take a leadership role in further development of the taxonomy as part of a broader suite of policy measures to drive the sustainable finance transition in Australia.
An Australian taxonomy would provide common definitions for what constitutes a sustainable activity or investment, helping guide capital towards defined objectives and providing both issuers and investors with confidence about sustainability-related claims (including to avoid risks around ‘greenwashing’).
In December last year, ASFI published its initial recommendations, drawing on input from experts across industry and government. Several principles are likely to feature in further development of the taxonomy. First, the taxonomy should be credible, i.e., underpinned by credible, science-based technical screening criteria. Second, to ensure usability and relevance, the taxonomy should align as much as possible to overseas taxonomies, while also reflecting unique characteristics of the Australian context. Third, the taxonomy will likely include a transition category, for example through a traffic-light system. Finally, while the taxonomy will initially focus on climate mitigation across priority sectors, subsequent iterations will expand both in terms of sectoral coverage and links to broader sustainability objectives.
4. Increasing focus on nature
As demonstrated at COP15 in December, there is growing attention from governments and businesses on the nature crisis. This is important given how much our economies rely on nature (the WEF estimates that US$44 trillion - more than half of global GDP - is moderately or highly dependent on nature) and the fact that resources are being extracted faster than they can be restored4.
The landmark Kumming-Montreal Agreement reached at COP15 establishes a goal of conserving at least 30% of the world’s natural habitat by 2030. Importantly, it also sets out targets for integrating nature-related considerations by governments (in policy, regulations, and accounting) and by businesses (in operations, supply chains and portfolios). This includes a pathway for mobilising at least US$200billion a year in nature financing, with a growing role for private finance.
Given its exposure across the economy, the finance sector is not only subject to, but also has a significant role to play in addressing, nature risk. At the same time, there are opportunities flowing from the nature-positive transition. Interest in nature markets is growing, with biodiversity credits and offsets a key part of this. The Federal Government’s announcement last year of its intent to develop a biodiversity certificates scheme is one such example.
Additionally, momentum behind the TNFD is continuing. The Federal Government has been a strong supporter and funding partner of the TNFD, and several Australian financial institutions are planning to pilot the framework this year. These pilots will not only inform the final version of the framework (expected in September) but also contribute to development of policy in Australia.
How can financial institutions respond?
The sustainable finance transition is unlikely to slow. To be competitive, financial institutions must be aware of, and respond to, a broad range of interests and expectations regarding sustainability.
We recommend three key considerations for doing so:
- Understand what matters to your stakeholders and identify key risks and opportunities across environmental, social and governance domains (this includes considering competitive positioning and alignment to relevant sustainability regulations, frameworks, and standards)
- Respond to identified sustainability risks and opportunities in your strategy, governance, operational planning, and risk management.
- Communicate transparently both your achievements and gaps in addressing sustainability risks and opportunities
References:
1. ASFI, Australian Sustainable Finance Progress Tracker, 2022
2. Responsible Investment Association of Australasia, Benchmark Report, 2022
3. ASFI, Australian Sustainable Finance Progress Tracker, 2022
4. WEF, Nature Risk Rising: Why the Crisis Engulfing Nature Matters for Business and the Economy, 2020