ESMA has published a letter to the European co-legislators outlining its principal observations on the proposal for a regulation of European Green Bonds (known as the “EU Green Bond Standard” or “EU GBS”). ESMA welcomes the Commission’s legislative proposal which it says will contribute to channeling investment flows towards more sustainable activities and shares some observations on the possible challenges it foresees with the proposal.

The EU GBS envisages that external reviewers providing services to issuers of EU green bonds must be registered with and supervised by ESMA. Given ESMA’s proposed role , its observations are focused on this supervisory framework for external reviewers, rather than the scope of the EU GBS itself, which has been the subject of other recent publications (including from the Rapporteur for the European Parliament and the ECB). ESMA comment in particular on: (i) the timing of implementing measures, (ii) the functioning of the third country regimes; as well as (iii) the appropriateness of the resourcing and funding model provided for ESMA’s supervision.

Timing of implementing measures

Firstly, ESMA welcomes that a large number of technical requirements are expected to be specified via regulatory technical standards. This will allow the regulatory framework to evolve over time and will allow ESMA to ensure that elements of the regulatory framework are subject to market feedback prior to implementation. ESMA challenges the fact that as currently foreseen it will need to deliver the majority of these technical standards prior to the start of its supervisory mandate and within 12 months after entry into force. ESMA believes is concerned that this will pose timing challenges.

Functioning of the third country regimes

Secondly, ESMA recognises the importance of providing mechanisms for third country external reviewers to offer services in the European Union and is pleased that the envisioned equivalence and endorsement regimes are largely based on what is already in operation for credit rating agencies under the CRA Regulation. However, ESMA cautions that the approach taken regarding the recognition regime only requires a third country external reviewer to have a legal representative in the EU. This will mean ESMA has limited visibility over these activities, aggravated by the lack of supervisory counterpart in the third countries.

Appropriateness of the resourcing and funding model

Thirdly, ESMA suggests a review of the funding model for the supervision of external reviewers in order to most effectively use its supervisory resources. This would enable the co-legislators to take into account any changes in the expected makeup of the market of external verifiers and ensure the funding model remains appropriate for the supervised entities, as well as for ESMA’s ability to create an effective and risk-based supervisory approach.

Insights gained from supervision of the credit rating agencies

The letter concludes with insight gained by ESMA from the supervision of credit rating agencies, which may be relevant to their supervision of external reviewers. ESMA emphasises the importance of ensuring that external reviewers maintain a minimum level of substance to their assessment activities. Assessment activities should only be outsourced where there are legitimate and objective reasons for doing so.

Any provisions designed to mitigate conflicts of interest in the business models of external reviewers should be extended to conflicts of interest in relation to shareholders. This will allow ESMA to ensure the assessment activities of external reviewers are not subject to undue influence, be it external or internal.

Given the important role that external reviewers currently play in the sustainable labelled bond market and the increased significance of their role under the proposed EU GBS, this feedback on the development of the supervisory regime provides helpful insight into the challenges foreseen in implementing appropriate oversight.

Legislative timeline

The EU GBS is still in the preliminary phases of the legislative process. It is currently making its way through the European Parliament and the Parliament plans to adopt its report at committee level on 31 March 2022.

The Council, in parallel, also needs to adopt its general approach. Once both co-legislators have adopted their negotiating positions, they will begin the so-called 'trilogue' negotiations.

If all goes well, trilogue negotiations between the Parliament and Council could begin in Q2 2022. Negotiations usually last around 18 months, but the Council and Parliament are anticipated to disagree on several important points on this matter so they may take longer.

For further details, see our previous blog posts and podcast on the EU GBS: