Environmental aspects becoming part of fiscal and financial policy – European Green Deal speeds up the change

Environmental considerations are finding their way into fiscal and financial policy. The reason is obvious. Climate change, biodiversity loss and other similar global problems also pose a significant risk to the economy and its functioning.

The European Green Deal reforms the EU’s operation

Green development is becoming a priority area in several sectors of the EU from agriculture to industrial policy. Behind this development is the European Green Deal, the programme the European Commission has adopted as its main strategy. The implementation of the programme is currently under way and its impacts extend to financial and fiscal policy as well.

The Commission aims to mobilise both public and private financing to support green development. A minimum of 37 per cent of the funding awarded by the EU’s Recovery and Resilience Facility (RRF) must be directed to climate actions. According to the Government, approximately half of the financing proposals in Finland’s national Recovery and Resilience Plan support the green transition. It is estimated that the package of approximately EUR 2.1 billion that Finland has applied for would also attract private investments amounting to more than EUR 3 billion. The most significant leverage effects would come from reforms in the energy economy.

The Commission is in the process of greening the EU’s Multiannual Financial Framework (MFF) and improving the traceability of climate and environmental sustainability in the funding awarded by the EU. In addition, the Commission supports the development of green budgeting in the Member States. The EU’s Innovation Fund and the InvestEU Programme invest in low carbon solutions. The European Investment Bank and the European Investment Fund are also greening their financial policies.

Environmental criteria for investments

The flagship of the EU’s programme for a sustainable financial market is a classification system that defines the environmental sustainability of investment targets (taxonomy). The aim is to help companies in making their own investment decisions and provide actors in the financial market with information not only on the financial indicators but also on the ecological sustainability of the investment target. The Member States must also comply with the taxonomy, for example, when creating green development frameworks for financial products or bonds. The reform of notification obligations in turn obligates banks and financial institutions to publish information on the sustainability of their loan portfolios and investments.

The EU Taxonomy Regulation classifies activities in different industries and sectors from the point of view of six environmental objectives. They concern climate, water and marine resources, the circular economy, pollution of the environment and biodiversity. For an activity to qualify as sustainable, it must contribute to at least one of the objectives and do no significant harm to the other five. The latter is called the principle of “do no significant harm”. The Commission also requires compliance with the same principle in the investments that the Member States propose to be financed from the funds of the EU’s Recovery and Resilience Facility.

The Commission will work on detailed technical criteria for the assessment of each sustainability objective in the taxonomy. They will be issued as so-called delegated regulations. The first one has just been published and concerns climate change mitigation and adaptation, covering approximately 200 different activities. In Finland, there have been concerns about the criteria for nuclear power and forestry.

A year ago, the National Audit Office commissioned a report on climate policy and the sustainability of central government finances (in Finnish). According to the report, climate policy may change the dynamics of business cycle fluctuations in the national economy, cause disturbances in the financial market and affect the value of state holdings. Long-term risks should also be considered in income distribution, regional and investment policies. On the other hand, not responding to climate warming and biodiversity loss may lead to considerable risks and costs as well.

Lastly, the NAOF has decided to include an audit of the funding awarded from the EU Recovery and Resilience Facility in its audit plan. There will be more information on this later on.

This is the first part of the two-part blog series on greener fiscal and financial policy. The second part will be published in a week’s time.