Enhancing Oversight: A Proposed Regulatory Framework for ESG Ratings Providers
On 13 June 2023, The European Commission put forward a package of measures to enhance the foundation of the EU sustainable finance framework and support the transition to a climate-neutral and sustainable economy by 2050. It contains measures to harness financial services' transformative power and shift private capital towards sustainable investment. A part of this package is a proposal for a new regulation on ESG rating activities. The aim is to enhance the transparency of ESG ratings characteristics and methodologies, ensure good governance and increase clarity on the operations of ESG rating providers.
The ESG ratings play a crucial role in the European sustainable finance market by facilitating the signaling of investment strategies and risk management regarding ESG to market participants. However, the rating market needs more transparency, where some companies provide insightful and reliable evaluations while others remain ambiguous. Therefore, this proposal comes at a good time to improve reliability and integrity by introducing new organisational principles and transparency rules regarding the methodologies and critical rating assumptions. Additionally, it calls for clear rules on conflict-of-interest prevention. The proposal requires the rating providers to be authorised and supervised by the European Securities and Markets Authority (ESMA).
This regulation will help the reputation of ESG ratings and facilitate the increase in their significance among investors, allowing for more efficient decisions and ultimately benefiting the flow of funds toward sustainable investments in line with the EU's sustainability objectives. The next steps for the regulation will include European Parliament and Council adopting their positions before the trilogue negotiations and further implementation.
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