The development of sustainability reporting standards is now reaching a critical phase. The EU Green Deal Industrial Plan (GDIP) and the US Inflation Reduction Act (IRA) make these standards more important than ever, increasing the importance of promoting interoperability and avoiding global fragmentation.
Three interrelated standards for corporate sustainability reporting are close to finalisation:
- The European Commission will adopt the Delegated Acts specifying the European Sustainability Reporting Standards (ESRS) on 30 June;
- The International Sustainability Standards Board (ISSB) will publish its final S1 framework and S2 climate requirements in June;
- The US Securities and Exchange Commission (SEC) Climate Rule will be finalised in the spring, although legal challenges are likely to create 12-24 months of further delay.
A key difference between these standards relates to what information is considered relevant or “material”. The ISSB focuses on “financial materiality”. While discussions on defining this concept are still underway, this lens should prove close to the SEC’s “investor-driven” approach. The ESRS, however, explicitly integrates the impact of companies’ activities (“impact materiality”), an approach generally referred to as “double materiality” which is enshrined in EU law by the Corporate Sustainability Reporting Directive (CSRD).
Considering the different approaches taken, these standards are unlikely to be fully interoperable from the get-go.
So where should we go from here?
Competing standards ‘blocs’ could inhibit a common understanding of sustainability risks and impacts in the private sector. This could hamper mobilisation of the cross-national capital flows which are required to finance the climate transition in all parts of the world.
If respective regulators can send stronger signals now about how ISSB and ESRS will align, this could make a difference to the future regulatory decisions of non-EU countries and will support future interoperability. Some efforts have already been made on this front. The final ESRS is expected to align more closely than its draft version with ISSB’s financial disclosures terminology and format. Meanwhile, the ESRS will be referenced in the final ISSB’s standard as a source of guidance on matters where a specific ISSB standard is absent.
Interoperability of sustainability reporting standards needs further effort:
At the international level:
- G20 Finance Ministers have supported both ISSB specifically, and standards interoperability in general. In 2023, this group should send a strong political signal by committing to best efforts to ensuring interoperability between different approaches to sustainability disclosures.
- The potential for the ISSB Jurisdictional Working group, which includes both the EU and US as members, to be used as a forum to promote consistency and alignment in implementation of the new standards, should be maximised.
- When it endorses the ISSB standard, which is expected to happen in summer 2023, the International Organisation of Securities Commissions (IOSCO), can take on a forward role to foster alignment of implementation efforts. A first output of this coordination could be a mapping by IOSCO of gaps and overlaps between these standards, followed by a tracking of implementation. This would build on efforts currently underway to support the G20’s Financial Stability Board in its preparation of a progress report on disclosures (expected October 2023).
Within the EU:
- The European Commission should clearly separate the financial and impact disclosures parts of the ESRS, as suggested by the European Securities and Markets Authority (ESMA).
- This separation would support the IOSCO mapping proposed above and set the right conditions to facilitate EU inter-recognition processes. The CSRD allows for the European Commission to take equivalence decision between the ESRS and other non-EU standards. Such equivalence decisions could be assessed on the financial disclosure parts of ISSB and ESRS standards and create a common global reporting baseline.
In the US:
- The SEC should include language in its final rule facilitating future equivalency decisions, or other recognition of external standards. Despite ongoing legal disputes at home, the SEC should continue efforts within IOSCO, the ISSB, and bilateral engagements, to foster alignments.
Major economies are moving fast to invest in climate transition and for good reason, as illustrated by the IRA, GDIP and the latest IPCC report. International cooperation and alignment on financial regulation has never been more important.
