The engine that powers sustainable organisations
Sustainable taxonomies, or sustainable finance taxonomies, are classification systems that identify economic activities deemed environmentally or socially sustainable. Existing taxonomies are mostly green taxonomies focusing on environmental objectives. Used by the finance sector to develop green products and qualify ESG investing opportunities, these taxonomies facilitate the growth of sustainability themes in the capital markets. Capital can be directed towards transition activities that contribute to a greener economy.
A taxonomy is essentially a set of science-based, technical criteria. It serves as a guide for companies and investors to determine what exactly qualifies as sustainable. It thereby helps to envision the specific characteristics of a sustainable economy as relevant to the taxonomy country.
Taxonomies are often government-led efforts and developed by technical working groups with expertise in green finance and sustainable industry, though cases exist where the initiative is led by the private sector. Inputs from international bodies such as the World Bank is also common.
No social taxonomy has been established to date, although a draft is currently underway in the EU. Some green taxonomies already incorporate certain social dimensions, such as the Mongolian and South African taxonomies. An SDG taxonomy focusing on several key social aspects was released by UNDP China and China International Centre for Economic and Technical Exchange (CICETE).
In tandem with the growth of green finance worldwide is taxonomy development. The EU has been one of the most active in developing a green taxonomy and it is the only one in implementation currently. The EU taxonomy is already in practical application among member states since 2022. This happened via a delegated act on sustainable activities for climate change adaptation and mitigation, with more acts to follow.
Other regional and national-level taxonomies have been proposed around the world, from Georgia to Mexico to Bangladesh and beyond, with several already accepted and awaiting implementation. Efforts to develop national taxonomies reflect the race to get ahead of the green finance curve worth trillions in an economy that is already headed in that direction. As countries work to transition their economies and strengthen their competitive advantage, sustainable taxonomies are a useful and much-needed tool to add to the governing architecture.
The UK Green Taxonomy is under development with the objectives to combat greenwashing, inform business and investing choices, promote sustainable investments, and tackle climate change. This comes in an effort to position itself as a green finance centre. Singapore is leading efforts to develop an ASEAN-wide taxonomy for similar reasons.
The focus of each taxonomy may differ from country to country. Malaysia has developed a climate change-specific taxonomy, while Chile is developing a taxonomy for the mining and extractive sector. Meanwhile, in Japan, transition taxonomies are being developed for key sectors.
Taxonomy-aligned disclosures are already emerging as a mandatory requirement for companies wishing to access sustainable finance opportunities. Complying with regulations and demonstrating alignment with a taxonomy will be a new learning curve for everyone. Companies are as yet unprepared for taxonomy alignment given its newness.
These country taxonomies do not address the fact that global capital markets are interconnected and a universally applicable taxonomy is needed. The International Sustainability Standards Board (ISSB) is in the process of developing one such standard that could provide a single point of reference for companies looking for guidance on taxonomy alignment. The ISSB is now seeking feedback on the proposed IFRS Sustainability Disclosure Taxonomy until 30 September 2022.