I recently found myself saying that accounting is ‘sexy’. In March, my alma mater, Ca’ Foscari University of Venice, kindly invited me to join a seminar on sustainable finance. Prompted by a fellow speaker’s comments on the importance of measuring and disclosing environmental and social data, I agreed that the accounting profession may well enjoy a renaissance. It will play a centre-stage role in solving the sustainability problem. Chiara Mio, a Ca’ Foscari academic and board member of the International Federation of Accountants, was encouraging students to consider the field.
Venice is the right place to discuss accounting. The first manuscript to describe the double-entry bookkeeping method, by friar Luca Pacioli in 1494, relied on the already established use of the practice by Venetian merchants in the 1300s. And this, indeed, is the right time to place greater focus on new types of reporting and disclosure.
There are multiple international efforts to quantify companies’ environmental and social impact, as well as on their exposure to those risks. In Europe, the EU has created non-financial disclosure rules, due to come into force in 2022, and a green taxonomy to help define what assets, exactly, can be labeled as such. More recently, the European Banking Authority (EBA) has proposed the use of a green asset ratio (GAR) to help evaluate financial institutions. The ratio would show the proportion of assets considered green, according to the EU taxonomy, in relation to the total.
The ratio would include all exposures, including to small businesses and households, house financing for local governments, debt and equity products. It would exclude, both at the numerator and denominator, exposure to sovereigns and central banks, because of the lack of a specific taxonomy, and disclosure standards to evaluate these types of asset.
Green or brown?
Some have expressed concerns about the proposal. ING, the Dutch lender that has long been vocal about its sustainability credentials, has highlighted a few contentious points. The bank believes that the GAR would fail to reward and encourage financing to move from badly polluting to less polluting assets. The focus, it says, would be on the absolute level of ‘greenness’, rather than on the relative benefit of moving up the colour scale, starting from a much ‘browner’ base.
Defining, measuring and disclosing sustainability indicators is a task far from being concluded
For example, a loan that would help a transition from a poorly energy efficient building to a moderately efficient one would not be captured by the GAR, says ING, whereas the improvement from moderately to highly efficient would. The lender feels the former type of financing would have a greater positive impact on the environment than the latter. It suggests the introduction of a brown asset ratio, to measure and incentivise that transition.
Scope Rating, a European rating agency, notes that managing the muddy shades between brown and green will likely create a governance challenge in terms of dealing with non-green assets. It also warns against the risks of a “supposedly simple-to-read metric [which] will attract full public attention”. It adds: “Compared to existing regulatory requirements enshrined in complex and technical bank-specific frameworks, from capital adequacy calculation to resolution regimes, the GAR is likely to have a much broader echo in the public sphere.”
The agency suggests that while helping to focus minds on the importance of environmental exposures and speed up change, an “abrupt” reliance on the GAR could lead to equally abrupt adjustments in terms of stakeholder preferences, including investors and depositors, with potentially systemic implications. This adjustment may well be positive, but it will have to be managed. The EBA, Scope acknowledges, does suggest accompanying the GAR with several other key indicators.
Defining, measuring and disclosing sustainability indicators is a task far from being concluded. It is as complex an activity as it is important. Rather than ‘sexy’, some may find the job daunting, but the accounting profession that will need to help build these new reporting systems will, at the very least, as Ms Mio says, feel that their orderly job has a new, invigorating purpose.
Silvia Pavoni is the economics editor at The Banker.
