1. Clarification of the concept of sustainable finance taxonomy
A sustainable finance taxonomy is a set of criteria that can be used as a basis for assessing the ability of a financial asset to meet sustainability objectives. The objective of this taxonomy is:
- To give a strong signal to investors and other stakeholders on the progress of sustainable finance.
- To help investors make decisions by identifying the type of information needed to assess the sustainability of an asset.
- To classify an asset on the basis of its contribution to given sustainability objectives.
Taxonomies can be classified according to four key characteristics:
- Compliance with sustainability objectives.
- The list of activities/industries/entities included.
- The measurability of the asset’s sustainability characteristics.
- The types of information available on the sustainability of this asset.
2. The need for an international taxonomy of sustainable finance
Sustainable finance taxonomies can play an important role in the international roll-out of high-level goals such as the Paris Climate Agreement and the UN Sustainable Development Goals.
Scaling up sustainable finance is a key element in mobilising private finance to support the transition to a sustainable economy. However, the question arises as to whether existing sustainable finance taxonomies can truly encourage financial flows towards sustainable investments and accompany this transition in the most effective way.
This BIS note develops a framework for classifying and comparing the major existing taxonomies of key sustainable finance markets.
Several weaknesses of current classifications are apparent, including:
- A lack of use of measurable sustainability performance indicators.
- A lack of granularity of the taxonomy with a mixture of several sustainability objectives for a single taxonomy.
- A lack of verification of actual sustainability benefits achieved.
On this basis, this paper proposes principles for the design of effective taxonomies. The principles will help develop a simple framework for transitional sustainable finance taxonomies.
3. Five principles for designing effective transition taxonomies
Transition taxonomies correspond to a transition to carbon emissions consistent with the Paris Agreement. The principles anticipate a rapid growth in the amount of available sustainability-related data in the future. This data availability is made possible by increasing sustainability publications, third-party data collection, and technological innovation in data collection.
The five basic principles for designing effective taxonomies are:
- Alignment with high-level policy objectives (Paris Agreement, UN principles) and measurable intermediate objectives:
- In other words, unaligned taxonomies are subject to “transition risk” and may become unsustainable.
- Bijectivity between objective and taxonomy: one taxonomy, one objective
- Mixing several objectives for a single taxonomy naturally reduces the value of the information (loss of information)
- Results using simple and published key performance indicators (KPIs):
- Measuring results through simple, published key performance indicators allows investors to verify an asset’s sustainability performance and more granular assessments.
- Consideration of specific information based on each entity whenever possible:
- A taxonomy that ignores entity-based information risks encouraging greenwashing through misleading labelling or fraud.
- Sufficient granularity, covering both high and low durability performance:
- For a taxonomy to provide a useful decision signal, investors need a certain level of granularity to determine whether an asset fits into their investment strategy.
- Binary taxonomies (e.g. “green” vs. not green) severely limit the range of investment strategies based on such taxonomies.
In addition to providing clarity to investors and other stakeholders on the sustainability benefits of a given asset, the principles of taxonomies greatly facilitate their comparability and interoperability across different companies and markets – including emerging markets.
4. Policy measures to facilitate the increase in the value of information and the effectiveness of existing taxonomies
The following policy measures should be taken to better channel financial flows towards more sustainable investments:
- Taxonomies should correspond to specific sustainability objectives.
- The development of transition taxonomies should be encouraged.
- Alignment with the objectives of the Paris Agreement must be given priority.
- The evolution of the certification and verification processes for taxonomies must be monitored and supervised.
- Impact reporting for green bonds should be made mandatory.