UK: Regulating ESG ratings providers - Treasury responds to its consultation

The government has responded to its 2023 consultation on regulating ESG ratings providers, noting that there is strong support for the policy. It has also released draft legislation which applies to both UK and overseas based ESG ratings providers. The draft legislation is open for technical feedback until 14 January 2025. 

The draft rules have been prepared with proportionality in mind, with a clarified scope (with the activity of providing ESG ratings drafted more narrowly than in the original consultation), and a range of exclusions including an exclusion for ratings produced as part of another regulated service. However, firms will need to consider these quite carefully – whilst many firms not seeking to be regulated ESG ratings providers will benefit from this regulated services exclusion (by virtue of either carrying on another regulated activity or an activity otherwise subject to FCA approval) there does appear to be a gap for certain firms operating cross border into the UK (for example where operating in reliance on the OPE).   The government is also still considering its approach to firms that access the UK via other market access arrangements – at this point in time namely with respect to credit ratings, benchmarks and overseas funds.  Whilst it appears appropriate for an exclusion to extend to firms providing such products and services - and the government has drafted this in - it is still deciding how best to set the parameters of the exclusion here. 

The overall process of designing, developing and commencing the ESG ratings regulatory regime is expected to take approximately four years, with the government aiming to lay the legislation before Parliament in early 2025 (subject to parliamentary time). However, the devil will be in the detail - as the detailed rules that would apply to ESG ratings providers are in the hands of the FCA, who have yet to consult. It is only once legislation is enacted that we can expect to see the FCA’s policy proposals on the rules and guidance that will apply to ESG ratings providers, and how the rules bite on different providers. This is particularly relevant for smaller ESG ratings providers. Treasury has kept the definition of ESG rating and ESG rating provider very wide – with no alternative provision made for these smaller providers. The focus here has been on avoiding creating incentives for ESG ratings providers to structure themselves in a way that avoids regulation. This means that all firms in scope of regulation will be required to submit an application for authorisation and the FCA will apply a risk-based approach when assessing these applications.  It will be for the FCA to determine the rules that will apply to firms – with proportionality in mind as these are consulted on and developed - the rules are expected to be informed by IOSCO’s 2021 recommendations. The FCA consultation will also consider the approach to overseas ESG ratings providers, and whether they would need to establish a presence in the UK.

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