The Council of the European Union has endorsed a significant regulation aimed at enhancing the transparency, consistency, and comparability of ESG ratings.
According to ESG News, this regulatory advance seeks to boost investor confidence in sustainable financial products by ensuring the reliability of ESG evaluations.
ESG ratings are crucial for assessing the sustainability profiles of companies and financial instruments, reflecting their societal and environmental impacts and exposure to sustainability risks. The increasing reliance on these ratings in capital markets underscores the need for credible assessments.
Under the new regulation, ESG rating providers within the EU will require authorization and be subject to monitoring by the European Securities and Markets Authority (ESMA). These providers must also disclose their rating methodologies and information sources to uphold transparency.
Additionally, the regulation sets out criteria for non-EU rating providers, who must either secure endorsements from EU-authorized entities or be recognized in the EU registry through equivalence decisions. A key aspect of the regulation is the mandated separation of business and rating activities to prevent conflicts of interest.
The Council highlighted the regulation’s objective, stating, “The new rules aim to strengthen the reliability and comparability of ESG ratings by improving the transparency and integrity of the operations that ESG rating providers carry out and by preventing potential conflicts of interest.” This initiative is part of a broader effort to align with global standards, as the UK is also advancing its regulatory framework for ESG ratings, expected to legislate by early 2025 with full implementation within four years.
In the UK, a significant majority (95%) of respondents during consultations supported the regulation, emphasizing the need for transparent methodologies. However, concerns about potential cost burdens were raised, particularly by smaller firms. The UK’s framework will cover both local and international providers dealing with UK clients, aiming for global consistency in ESG reporting.
Economic Secretary to the Treasury, Tulip Siddiq MP, commented on the importance of the regulatory measures: “Bringing ESG ratings providers into regulation will boost investor confidence, reduce greenwashing, and address the lack of transparency highlighted in responses to the government’s consultation.”
The regulation will officially publish in the EU’s Official Journal and will become effective 20 days post-publication. Its application is set to commence 18 months after it comes into force, providing ample time for stakeholders to adapt.
This development follows a June 2023 proposal by the European Commission and an agreement with the European Parliament under the ordinary legislative procedure, marking a pivotal step in standardizing ESG assessments and enhancing trust in sustainable finance.
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