The European Union’s Do No Significant Harm (DNSH) principle is supposed to ensure that corporate activities aimed at achieving one environmental objective do not inadvertently work against another. As straightforward as that sounds, many companies — especially banks — find it difficult to incorporate DNSH into their green transition strategies.
Our new report with the Association for Financial Markets in Europe (AFME), "A Review of the DNSH Assessment in the EU Taxonomy: Progress, Gaps and Pathways Forward", is based on a survey of 18 large European financial institutions and 19 interviews with bankers, investment managers, and corporate executives. It details the challenges financial institutions in particular face when applying the DNSH assessment and specifically explores how the DNSH assessment could be simplified for use with lending portfolios through various policy actions.
The main challenges facing banks when working with the DNSH
The DNSH assessment is part of the EU taxonomy, and financial institutions encounter significant challenges in applying the taxonomy and DNSH, and most have yet to use it strategically to guide their financing. Efforts to cut emissions or become more sustainable cannot be considered taxonomy-aligned without passing the DNSH assessment.
Surveyed banks perceive the EU taxonomy as complex, ambiguous, and data intensive. The absence of quantifiable minimum thresholds to meet EU taxonomy standards creates uncertainty, discouraging institutions from claiming alignment and preventing banks from ensuring a unified definition.
Banks also often lack the technical expertise needed for DNSH assessments, particularly in specialized lending, or the access to the data necessary to do them. One policy recommendation to encourage more use of DNSH and the taxonomy is to require borrowers to provide the necessary information to conduct the assessment, taking the burden off financial institutions.
Essential recommendations for policymakers to encourage DNSH implementation
A key policy objective of the Green Deal is to stimulate capital flows toward sustainable activities as defined by the EU taxonomy classification system, with financial institutions playing a critical role in directing these flows to support the sustainable transition.
To address the challenges banks face when trying to apply DNSH, the research suggests that policymakers need to simplify the regulation to allow for better collaboration between non-financial companies and financial institutions.
Simplifying and clarifying the DNSH approach will standardize sustainable finance definitions, thus increasing market transparency and stimulating capital flows toward fully taxonomy-aligned activities.
Prospective taxonomy users also need new guidelines
A clear organizational setup for the DNSH assessment is essential. Two-thirds of financial institutions currently integrate the DNSH assessment within their sustainability offices, often distributing responsibilities across various departments.
There is also a need for alignment in assessment criteria and development of shared resources, such as checklists, to ensure consistency across financial institutions. Auditing firms also can play a crucial role by establishing minimum standards and assurance levels for compliance with the EU taxonomy, responding to the growing demand for reliable methodologies.
To enhance their sustainability assessments, institutions are increasingly utilizing external capabilities, including certifications, artificial intelligence, and third-party providers, which help address data challenges, even though some consistency issues remain.
