Europe regrets being a "regulatory hell" and picks up the tab with its demands on the ESG front

The European Union is about to take a major step back from its main project of recent years. The European institutions have wanted the Old Continent to lead the transition towards a world dominated by ESG (environmental, social and governance) criteria, but, in recent quarters, faced with the criticism they have received for the negative impact of their proposals on the European economy itself and, above all, in the face of a US government that is going to take the opposite steps, it seems that the European Commission has decided to make a major change to its future plan. According to the Bloomberg agency, which has had access to Commission documents, this Wednesday a key withdrawal of the requirements that were being prepared on the ESG front is going to be made official: the new directives focused on sustainability are going to be greatly softened, with a final proposal that will leave out 85% of the companies that, in principle, were going to be subject to the new requirements.

When French government spokesperson Sophie Primas declared at the end of January that Europe was becoming a “regulatory hell” for companies, it was clear that a shift in European sustainability strategy was being confirmed. France has always been one of the main drivers in this effort and, if one of the ESG hearts in Europe stopped supporting the Brussels plan, it seemed inevitable that the Commission would end up picking up the slack with the proposals that had been put on the table.

Now, Bloomberg confirms that this is definitely going to be the case: the agency publishes how this Wednesday the Commission will officially propose that ESG regulations be substantially moderated, after having access to the document that includes the organization's proposals.

According to the agency, the Commission's two main directives on ESG regulation, known as CSDDD and CSRD , are to be reviewed. The first focuses on the due diligence that companies operating in Europe must open on corporate sustainability, while the second focuses on the disclosure of the impact their business has on issues such as the environment worldwide.

The Commission has reportedly decided to reduce sanctions and the obligation to monitor the ESG risks posed by its suppliers and the entire supply chain of a company operating in Europe. In addition, the proposal that companies be subject to legal consequences if they violate rules focused on environmental protection or social aspects will be withdrawn.

There are some concrete proposals that have been put on the table, for example, reducing the communication requirements for companies that import steel and cement from countries that have more lax regulation on this front and, most importantly of all, drastically reducing the number of companies that will be forced to comply with the requirements of the CSDDD and the CSRD. In this regard, it will be communicated that only companies with more than 1,000 employees, and that exceed 450 million euros in annual profits, will be fully subject to this regulation.

This last point is the key to the change made by the Commission: it will remove the requirements for 85% of companies that were initially expected to have to comply with the regulation, and thus fits in with the approaches put forward by the two largest European economies, France and Germany.

Another change that is already ready to be proposed is the one-year delay in the entry into force of the regulation that requires reporting on the climate impact of a company's economic activity, a part of the directive that, in recent years, has raised many blisters in different corporate sectors of the Old Continent, for example, in producers of foods based on cocoa or coffee , who have encountered serious problems in adapting to the directive that had been prepared by the European Commission.

The arrival of the new US administration may have had an impact on the European Commission's decision to reduce its requirements for business activity in the Old Continent, and it has done so in two ways: first, by directly putting pressure on US companies not to be subject to regulations that they consider excessive. In January, Howard Lutnick, the country's Secretary of Commerce, confirmed in the US Senate that the new administration was considering deploying "trade weapons" to ensure that US companies active in the euro zone did not have to comply with the CSDDD.

Furthermore, on the other hand, the deregulation process being carried out by the Trump administration may have had an impact on the European Commission in convincing itself that Europe must be able to be competitive, and that it would fall far behind in terms of attractiveness for investors compared to American companies if the new directives were not amended.

The decision that the European Commission appears to have taken may also have had to do with an increase in the lack of interest on the part of the markets in ESG issues. Before the arrival of the pandemic, the financial markets were focused on the start of this new trend, and although it is true that there are still efforts to keep these criteria afloat, and continue to give them importance, the appeal that they seemed to have at that time for many investors is showing signs of weakness.

The redemptions taking place in ESG investment funds are good proof of this. As Morningstar explained at the end of January, funds that met the strictest ESG standards of the European Union had suffered investment outflows at a record rate in the last quarter of last year . In addition, they also highlighted the fact that an unprecedented number of investment funds had decided to remove the term 'ESG', or concepts related to it, from their name, another sign of rejection by the industry towards this investment trend.

Moreover, according to the latest survey by the Inverco Observatory, only 7% of the surveyed fund managers expect to launch new products with the highest sustainability rating , the famous "Article 9" funds.

These milestones are truly significant for the investment industry in Europe, where 80% of ESG assets are held in investment funds around the world, and may have had something to do with the decision that the European Commission appears to have taken.