Overview
The global sustainable finance market size is projected to grow at a CAGR of 19.8% between 2025 and 2034.
This transformation toward sustainable banking demands clear frameworks and classification systems. Banks now face a key challenge: they need to combine ESG criteria with taxonomy frameworks smoothly to create environmentally responsible banking practices. The EU taxonomy rules establish a science-based framework for identifying sustainable economic activities.
This article examines how banks can align their operations with the objectives of the EU taxonomy while simultaneously developing resilient ESG frameworks. The discussion will encompass various aspects of ESG-taxonomy integration, including the management of data, methods for assessing risk, the development of sustainable products, and the governance structures necessary to ensure the successful implementation of these initiatives.
Banks have significantly transformed their sustainable practices through the adoption of ESG criteria and taxonomy frameworks.
A closer examination reveals how these principles enable banks to establish robust systems that not only meet regulatory requirements but also create enduring value for stakeholders.
ESG-Taxonomy Integration Framework
Since 2020, the EU Taxonomy has served as a fundamental classification system that assists companies and investors in identifying environmentally sustainable economic activities.
Key Components of ESG Integration
The framework presented outlines how ESG integration facilitates the consideration of both risks and opportunities in banking operations. The key components include:
- Environmental Assessment: Focuses on climate change mitigation and adaptation;
- Social Responsibility: Evaluates labor rights, health standards, and community effects;
- Governance Structure: Implements sustainability management and board oversight
- Data Management: Establishes strong collection and verification systems.
Taxonomy Alignment Requirements
The activities must meet four main conditions to line up with the taxonomy:
- Making substantial contribution to environmental objectives
- Doing no significant harm (Article 17 of Regulation EU (2020/852)) to other environmental objectives
- Complying with minimum social safeguards
- Meeting technical screening criteria.
The EU Taxonomy (applicable as of
1/1/20222) encompasses six environmental objectives, with detailed screening criteria established for climate change mitigation and adaptation. Starting last year, large listed companies began reporting on activities aligned with the taxonomy.
This year, these companies are required to report on an additional four environmental objectives: circular economy, pollution prevention, biodiversity protection, and water resources.
Regulatory Compliance Overview
The 2023 Sustainable Finance Package has expanded the EU Taxonomy and proposed new regulations on ESG rating providers. This framework merges with several regulatory requirements, including the Sustainable Finance Disclosure Regulation (SFDR) and MiFID II sustainability priorities.
Compliance involves a double materiality concept. Companies must show how their activities
meet objectives and ensure they cause no harm to others. This approach connects with the Principal Adverse Impacts (PAIs) under SFDR and affects data needs and operational requirements by a lot.
Building Data Management Infrastructure
The biggest problem banks face today is creating a resilient data management infrastructure to implement ESG and taxonomy frameworks.
ESG Data Collection Systems
ESG data encompasses various dimensions and requires metrics that range from energy consumption to workplace safety and diversity initiatives. This data should cover both operations and the value chain. The collection systems must be capable of handling:
- Internal operational data
- Upstream supplier information
- Downstream client portfolio metrics
- Unstructured data (PDFs, imagery, web scraping).
Data Quality Control Measures
Strong governance will ensure the availability of high-quality data, which becomes increasingly important as regulatory scrutiny intensifies. The quality control framework addresses a critical statistic: only 24% of banks currently meet all qualitative disclosure requirements for each ESG risk. Data integrity relies on standardized collection processes and associated controls, which help maintain consistency and accuracy while developing calculation procedures and documentation methods.
Integration with Existing Banking Systems
A centralized data platform integrates with finance and risk systems to establish a single source of truth. Research indicates that concentrating on five or six cross-cutting ESG applications can provide 70% of the data and analytics required for an additional 30-35 use cases.
The platform architecture has four main layers:
- Data Sourcing Layer: Ingests and processes metrics from internal and external sources;
- Life Cycle Management Layer: Organizes information around specific business topics;
- Metrics Layer: Captures and codifies KPIs centrally;
- Use Case Layer: Incorporates day-to-day functionality needs.
Implementing Risk Assessment Protocols
ESG risks now play a pivotal role in shaping the risk profiles and strategic approaches of over 80% of financial institutions.
ESG Risk Evaluation Methods
The evaluation methods are structured around three core approaches:
- Physical risk assessment
(extreme weather events, environmental degradation); - Transition risk evaluation (carbon pricing, regulatory changes);
- Social and governance risk analysis (labor practices, ethical management).
Research shows that 70% of institutions face material risk within their three to five-year business plans.
A well-structured framework is now utilized, seamlessly integrating ESG risks with credit assessment through clearly defined scoring mechanisms and metrics.
Climate Risk Analysis Framework
A dual-lens approach is employed to address both immediate and long-term climate impacts. Physical risks require prompt action due to the increasing frequency of extreme weather events and environmental degradation. Simultaneously, the transition to a low-carbon economy introduces financial challenges through transition risks. Notably, many leading organizations report exposure to both categories of risks. The framework is implemented through the following key steps:
- Identify dimensions for ESG assessment based on business context
- Define scoring mechanisms for evaluation
- Integrate ESG with credit assessment
- Implement monitoring systems
Risk Mitigation Strategies
An all-encompassing approach to risk mitigation is adopted, recognizing that ESG risks have the potential to disrupt operations across various divisions within the three lines of defense model. The strategy integrates ESG considerations into existing risk frameworks while also developing specialized methodologies to address these risks effectively.
New guidance stresses the need for regular and thorough ESG risk materiality checks based on solid data and multiple methods. Strong systems help gather ESG-related data efficiently.
We use sustainability information from counterparties and work to improve data quality.
Developing Sustainable Product Strategies
The growing demand for sustainable products underscores the need for an expanded green product portfolio aligned with EU taxonomy objectives.
Green Financial Products Design
A comprehensive suite of green financial products is being developed to meet taxonomy requirements. The product portfolio includes:
- Green bonds for environmental projects
- Sustainability-linked loans with ESG performance metrics
- Transition financing for green practices
- Green mortgages for energy-efficient properties
- Climate-screened index funds.
Research indicates that customers are willing to pay premium prices for sustainable products. Approximately 40% of consumers opt for green savings accounts, even when the annual percentage yield (APY) is 20% lower than that of traditional accounts. These findings demonstrate the effectiveness of the sustainable product strategy in the market.
Impact Assessment Metrics
A robust framework has been established to evaluate the success of sustainable products, assessing both financial impacts and broader outcomes for stakeholders. Research indicates that two-thirds of customers prefer engaging with their bank on sustainable initiatives rather than working directly with service providers. This underscores the importance of maintaining a comprehensive understanding of the overall impact of these initiatives. Banks have put substantial resources into developing sustainable offerings, which has helped raise billions in ESG investments. The impact is tracked through:
- Quantifiable environmental benefits
- Social impact indicators
- Governance improvement metrics
- Taxonomy alignment scores.
Market Opportunity Analysis
The sustainable banking products market shows great growth potential. It reached USD 5.4 trillion in 2023 and should grow at a CAGR of over 22% between 2024 and 2032. Renewable energy investments make up 30% of sustainability holdings but only 8% of ESG-aligned funds. Customer demand remains strong across segments. Two in three consumers want to put more than 40% of their savings or monthly credit card spending into green retail banking products. Middle-market customers demonstrate a strong interest in sustainable solutions, and the focus is on becoming their trusted advisors to support their transition to green practices.
Our Approach
FORFIRM’s approach for integrating ESG (Environmental, Social, and Governance) principles and Taxonomy compliance in banking operations involve the following structured steps:
Quantify Baseline Carbon Footprint:
establish the starting point for carbon emissions from the bank’s operations and portfolios.
Apply Scenario Analysis of Financial Impact of Climate-related Risks:
understand and prepare for potential financial risks posed by climate change.
Climate Data Intelligence and Carbon Management Projects:
use advanced analytics and management practices to make informed decisions about climate strategies.
Set targets:
define short-term and long-term ESG goals aligned with science-based targets and industry standards, through the following activities.
Reporting Based on Metrics and Scenarios:
provide transparent and structured reporting to stakeholders, regulators, and investors.
