Pia Rebelo

‘Sustainable finance’ and ‘green finance’ are terms used, often interchangeably, to cover a plethora of financial products aimed at supporting green and sustainable projects and activities. The dominant focus of green finance over the last two decades has been the mobilisation of funds for clean energy and low-emission land transportation, yet the Covid-19 pandemic is steering the focus away from environmental issues to the social and economic pillars of the sustainable development triage. Momentum for ‘sustainable finance’, covering a much wider range of environmental and social governance (ESG) factors, has been propelled in 2020 in what has been described a ‘watershed’ year for ESG investing. This is largely due to the rise of ‘woke’ millennial investors coupled with steady returns on ESG investments which are holding up strongly during the pandemic. The European Union has also been paying attention to the growing surge in ESG investments and has aligned climate change objectives with its post-pandemic recovery plan. The European Union is set to sell 225 billion euros of green bonds as part of its pandemic recovery fund, whilst its 100 billion euros SURE unemployment scheme is set to be fully funded by social bonds. However, sustainable finance is not without its own set of criticisms. From a legal perspective, sustainable or green finance presents both regulatory issues and resultant challenges for private law implementation and enforcement.

The major issue plaguing regulatory frameworks is a lack of cohesive principles and uniform understandings of scope concerning sustainable/green projects or activities. As early as 2016, the G20 Green Finance Synthesis Report recognised that a lack of clarity as to what constitutes green finance activities and products (such as green loans and green bonds) is a major obstacle for governments, banks, and private companies seeking to identify opportunities. A diversity of voluntarily adopted taxonomies has hampered accountability and comparability, with asset selection for green products running the risk of ‘greenwashing’ – the misleading advertising of investments or products as ‘green’ without meaningful engagement with a set of sustainability criteria. The EU aims to combat these issues of scope with its Taxonomy Regulation that will enforce a framework to facilitate sustainable investment. Although the Taxonomy Regulation came into force on 12 July 2020, many provisions will not apply until a later date to allow for delegated legislation to provide detailed technical screening criteria for determining certain economic activities as sustainable and taxonomy-aligned.

Thus far the Technical Expert Group has developed technical screening criteria for 70 activities across 8 economic sectors contributing to climate change mitigation and 68 activities contributing to climate change adaptation. Some major industries such as maritime transport have been left out of the first round of TR inclusions, thus prompting the NGO Climate Bonds Initiative Standard and Certification scheme to develop Shipping Criteria to assist stakeholders. This exclusion is unfortunate, given the dire need to finance the decarbonisation of the sector to meet global targets.

The Taxonomy Regulation has amended the Disclosure Regulation – also integral to the EU’s sustainable finance reform package –  which requires firms to disclose information pertaining to the degree of environmental sustainability of funds and products which are promoted as environmentally friendly. The European Investment Bank is the first issuer to have aligned its Climate Awareness Bonds and Sustainability Awareness Bonds with the EU Taxonomy in order to extend loan eligibilities in line with adapting legislation.

The lack of cohesive criteria for screening eligible economic activities for financial support, has also had implications for legal accountability in respect of banking relationships. Banks need to ensure that investor funds are actually used to promote sustainability, this requires a strict set of loan terms to control how borrowers utilise loan disbursements. In this regard, voluntarily adopted sustainability frameworks have emphasized the importance of covenants in loan agreements – by way of example, the Equator Principles has provided extensive contractual guidance on how to incorporate environmental and social considerations into signatory loan agreements, including a number of suggested template clauses. Banks will need to explore a number of contractual mechanisms in enforcing sustainability criteria so that environmental and social obligations are not viewed as mere ‘soft’ obligations, but amount to material terms with a full range of available remedies for breach. The question of how to incorporate sustainable terms with desired effect will depend on the type of financial product being offered. A credit facility for project financing will require a different set of sustainability considerations to that of a receivables purchase agreement in the context of supply chain finance. How banks choose to incorporate green terms will thus be product specific, with a wide range of options from express obligations contained in the agreement itself, to incorporation by way of reference to a code of ethics or sustainability framework. Sustainable supply chain management practices have similar expectations that corporate social responsibility (CSR) expectations will be clearly formulated and integrated into supplier contracts, thus providing useful examples of incorporation techniques.

However, all contractual terms must be consistent with an overarching legitimate framework that provides a clear foundation for sustainable development ambitions. Consistently applied criteria are essential for investor confidence and the directing of funds to sustainable growth opportunities. This becomes increasingly important in realising a sustainable road to recovery in a post-Covid economy.

This year, City Law School doctoral researcher, Pia Rebelo, has published articles surrounding the topic of sustainable and green finance in respect of the maritime sector and supply chains.  Her titles address some of the key issues discussed above.