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April 2, 2024

Why EU leaders should listen to business concerns around green laws

In response to the EU Deforestation Regulation, the Austrian government is reportedly calling for revisions to grant a general exemption to EU countries that have strict national forestry legislation (Photo: Andrey Rudakov/Bloomberg)
In response to the EU Deforestation Regulation, the Austrian government is reportedly calling for revisions to grant a general exemption to EU countries that have strict national forestry legislation (Photo: Andrey Rudakov/Bloomberg)

The European Commission has rushed through Green Deal rules – and EU businesses will pay the price

Early in her mandate, European Commission president Ursula von der Leyen announced that she would lead a geopolitical commission focused on a policy of “open strategic autonomy,” defined by the EU as “cooperating multilaterally wherever we can, acting autonomously wherever we must,” and the twin pillars of the digital and energy transitions.

The aim was to secure the EU’s role as a global rule setter, leveraging the single market effectively to export its high regulatory standards while ensuring that European industry is protected by a level-playing field.

Since then, the world has become a good deal more complex. Geopolitical events have left the global trading system chronically weakened. External shocks have shown Europe is overly reliant for some critical raw materials on non-EU countries that can leverage this dependency in ways that would have been unthinkable just a few years ago.

It seems that even the US – which is currently attracting European investment in a range of green technologies with its Inflation Reduction Act tax credits – can no longer be relied on to “play fair” according to the old rule book.

The EU response to many of these challenges has been to issue more legislation, including new and complex rules designed to control foreign subsidies; improve screening of foreign direct investment; protect against exports of sensitive technologies; encourage the onshoring of critical supplies manufacturing; tame big tech; regulate artificial intelligence; and to drive the Green Deal.

This veritable tsunami of EU regulation has been rushed through. The commission has been given little time to draft and adopt a broad array of complex secondary implementing legislation, and arguably this has allowed insufficient oversight, and little focus on the cumulative macroeconomic impact and the overall costs of compliance.

These features are particularly prevalent in the context of the Green Deal, as illustrated by the following snapshots of some key measures and their potential consequences.

Carbon Border Adjustment Mechanism: Companies in Europe producing CBAM-covered goods that benefit from free emission allowances under the EU Emissions Trading System will see those allowances phased out and face increased carbon prices when the CBAM takes effect from 2026. Importers will have to introduce carbon accounting, and show that they are subject to an equivalent carbon pricing mechanism or pay a “tax” to ensure a level playing field.

The UK electricity industry claims the CBAM will impose a punitive 40 per cent tax on UK electricity exports to the EU, increasing reliance on domestic production in Europe and chilling investment in North Sea green energy assets in the process.

EU Deforestation Regulation: By the end of December 2024, operators and traders will have to comply with new rules stipulating that certain commodities and derivative products can only be placed on the EU market if they are deforestation-free, produced in accordance with various country-of-origin laws, and supported by a mandatory due diligence statement providing detailed information on product compliance, together with a risk and mitigation assessment. Non-compliance may entail fines of up to 4 per cent of EU annual revenues and a temporary exclusion of up to 12 months from public procurement processes and access to public funding.

The Austrian government is reportedly calling for revised laws to grant a general exemption to EU countries that have strict national forestry legislation; an extension of the implementation period; and the elimination of undue administrative burdens.

Corporate Sustainability Reporting Directive: In-scope businesses must report on cross-cutting material ESG issues. Disclosures must comply with a broad range of binding European Sustainability Reporting Standards on the basis of a “double materiality” assessment of ESG risks and opportunities within their own operations and their value chains. Reports must be validated through external assurance by financial auditors.

Penalties for non-compliance are left to member states. For example, under French implementing law, corporate directors could face two years of imprisonment and up to €30,000 in fines for failing to get their CSRD report audited by a certified entity, or pay up to €75,000 with up to five years’ imprisonment if they do not present the information necessary for external auditors to certify their CSRD reports, or if they obstruct their work in any way. Meanwhile, under Czech law, companies failing to publish their sustainability report face fines of up to 3 per cent of the value of their assets.

Corporate Sustainability Due Diligence Directive: The Belgian presidency recently succeeded in forcing through the CSDDD at council level by narrowing its scope to EU companies with more than 1,000 employees and revenues in excess of €450mn, as well as non-EU companies with EU revenues in excess of €450mn. Companies will have to identify, prevent, mitigate, or remedy adverse impacts on human rights and the environment along the supply and value chain (upstream and downstream) and put into effect a detailed climate transition plan. The rules will be enforced by national authorities, which can impose fines of up to 4 per cent of EU annual revenues, or higher if necessary to make non-compliance uneconomic.

Industry is increasingly concerned at the cost and complexity of compliance, and has good reason. In February 2024, business leaders at the European Industry Summit issued the “Antwerp Declaration for a European Industrial Deal”, which calls for the EU to support a strong industrial fabric to deliver the climate solutions Europe needs.

Tellingly, two of the 10 demands  – which include more investment in renewable and nuclear energy and an improved single market – specifically call for better regulation, and demand an “omnibus proposal” to eliminate regulatory incoherence, unnecessary complexity and over-reporting. They also urge a “new spirit of law-making” to avoid Green Deal policy targets being followed by prescriptive regulations for over-reporting that have no bearing on industrial reality.

Reports from the European Round Table for Industry and Business Europe published in March 2024 also warn of the risk of deindustrialisation stemming from an incomplete EU single market, an increasingly disproportionate regulatory burden, and underdeveloped and fragmented capital markets.

The European Commission had partly anticipated these concerns in its proposal for a Green Deal Industrial Plan that it promised will include a predictable and simplified reporting environment, building on a 2023 competitiveness communication that foresaw a (so far, elusive) 25 per cent reduced reporting burden on companies.

The commission subsequently launched a call for evidence for ideas on how to cut red tape, and has promised to publish an annual burden survey. Despite these good intentions, it seems safe an omnibus proposal to eliminate regulatory incoherence and simplify reporting is unlikely since most of the Green Deal primary legislation is already in place.

To date, complaints have focused mainly on increased legal uncertainty, bureaucracy and costs. Additionally, the anticipated unpredictable enforcement by inexperienced national competent authorities and the increased future risks of private ESG litigation on the back of enhanced reporting obligations could also deter investment and weaken Europe’s competitiveness further.

Cutting red tape will be a painstaking job, and one that requires political will. The task is urgent, however, so Europe’s leaders would do well to heed the concerns of business.

Fiona Carlin is head of EU competition and regulatory affairs at Baker McKenzie in Brussels

A service from the Financial Times