Rules alone will not stop greenwashing, we need education

Claude Brown

Claude Brown

While the recent Financial Conduct Authority consultation paper on greenwashing has largely been well received, it risks failing to cut to the heart of the matter.

The proposed new measures seek to restore what the FCA sees as damaged confidence in investment products that have been marketed as ‘green’ or make unsubstantiated sustainability claims.

However, the prescriptive approach adopted risks straight-jacketing innovation, and potentially driving investors towards the European market.

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Defining the problem 

Plans to force funds to drop ESG and sustainability labels and branding from their funds if they fail to meet the FCA's criteria are positive.

However, one of the most consistent issues with greenwashing is the way that the terminology is applied. Even in the FCA’s announcement, terms such as ‘green’, ‘ESG’ and ‘sustainable’ are bandied about almost interchangeably.

Ultimately, there is a distinction to be made between products that make exaggerated claims, those that are deliberately misleading in their names and those that have a different interpretation of loosely defined terms. They should not all be tarred with the same brush.

With little guidance on how to define sustainability offered by the FCA consultation paper, the risk is that these terms become a point of further confusion, possibly even, ironically, continuing the risk of further greenwashing. We must not let ESG terms like ‘sustainable’ or ‘impact’ become murky or unfixed – equivalent to terms like ‘free range’ in farming. 

The challenge is allowing the use of the terms ‘green’ and ‘sustainable’ in a way that does not mislead or confuse investors, but also does not straight-jacket innovation or inhibit the diversity of sustainable initiatives. There needs to be distinction between those actually greenwashing and those who are simply operating in a space that needs more specific guidance.

If we see too prescriptive rule-making in this area, we may end up with a sector only capable of producing plain vanilla products. If the UK’s intention is to lead the way on sustainable finance, then it needs to allow for innovation. 

International divergence

Of course, in developing its proposals on sustainability disclosure requirements, the UK had a model in the EU’s sustainable finance disclosures regulation. UK-based asset managers have already gained a degree of familiarity with Article 6, 8 and 9 funds.

While many of the new FCA proposals are consistent with regimes like SFDR, the most obvious divergence is labelling – with three labels introduced: sustainable focus, sustainable improvers, and sustainable impact.

The FCA, then, is at risk of gold-plating the EU’s sustainable finance regime, which will create difficulties for firms who are trying to handle both EU and UK rules. With divergencies such as these, regulatory complexity in cross-jurisdictional transactions and operations is almost an inevitability. 

Another element of international divergence is the somewhat paternalistic approach the FCA has adopted. The consultation paper singles out consumers as needing a higher standard of protection than institutions. This is something that, at present, is consistent across the FCA. We see this elsewhere, for example in the approach the FCA takes to crypto assets.