Comment: Europe's greenwashing paradox – could SFDR undermine EmpCo enforcement?

Comment: Europe’s greenwashing paradox – could SFDR undermine EmpCo enforcement?

Tougher rules under EU's anti-greenwashing directive could be undermined if SFDR categories are weak, writes Frédéric Ducoulombier.

Guest Writer -

20 hours ago

Frédéric Ducoulombier, EDHEC

Since 27 September, tougher EU consumer-protection rules have been in force against greenwashing under the Empowering Consumers for the Green Transition Directive (EmpCo).

They restrict generic environmental claims, discipline claims about future environmental performance, and subject sustainability labels to tighter controls.

At the same time, Brussels is revising its Sustainable Finance Disclosure Regulation (SFDR) and creating fund categories that could give some weak sustainability claims greater authority – and make them harder to challenge.

EmpCo’s logic is straightforward: a green claim is not limited to an explicit promise. It may be conveyed by a label, product name, image, colour scheme or overall presentation – and must not mislead the average consumer.

Claims about future environmental performance require clear, objective, publicly available and verifiable commitments and targets, set out in a realistic implementation plan with measurable, time-bound targets and regular independent verification.

EmpCo also bars sustainability labels unless they are based on a certification scheme or established by a public authority.

The SFDR revision would create product categories rather than labels. But those statutory sustainability categories will function as labels in the market: public designations that private fund managers use to identify and market products.

Official categories create legitimate expectations among investors, advisers and fund selectors, and invite reliance on regulatory recognition as a substitute for scrutiny. That makes their design decisive.

European policymakers are now seeking to streamline disclosures and replace the de facto Article 8 and 9 labels with official Sustainable, Transition and ESG Basics categories backed by formal criteria: minimum investment thresholds, exclusions and specified qualifying investment routes. The proposal presents them as tools for mobilising and allocating capital towards the transition of the real economy.

“Claims about future environmental performance require clear, objective, publicly available and verifiable commitments and targets”

That makes the regulation’s interaction with EmpCo consequential. Under Article 3(4) of the Unfair Commercial Practices Directive (UCPD), which EmpCo amends, sector-specific EU rules prevail in the event of conflict, but only for the aspects they specifically regulate.

The European Commission’s SFDR explanatory memorandum and recital 12 expressly state that proper compliance with SFDR requirements should satisfy the corresponding UCPD consumer-protection requirements for sustainability claims within its scope.

Consumer authorities may still challenge product language that goes beyond what the rules authorise. The extent of protection will depend on how specifically the final SFDR defines a category’s meaning and permitted use.

SFDR’s greenwashing risk

If SFDR categories themselves are weak, EmpCo may be left policing the wording around official designations while their compliant use becomes harder to challenge.

That makes it all the more important to address greenwashing risk within SFDR at two levels: the credibility of the categories and the coherence of the products that use them. Neither requires reopening the architecture of the proposed regime.

The first requirement is credible categories. Formal criteria are indispensable. They provide legal certainty, comparability and observable conditions for supervision. Where those criteria remain under negotiation, they must be compatible with what category names reasonably lead investors to expect.

Consider the proposed Transition category. Under a political compromise, it could include investment in some companies developing new fossil-fuel projects if they meet certain conditions, including Taxonomy-aligned capital expenditure.

But “Transition” is likely to signal something different to a retail investor: a business moving away from fossil-fuel dependence, rather than one diversifying into clean energy while also expanding oil-and-gas supply.

“A framework intended to curb misleading sustainability claims may end up greenlighting greenwashing”

The second requirement is coherent products. Even well-designed criteria have limits. They are gatekeepers, not proof that a product coherently serves the purpose its category conveys or can plausibly contribute to the outcome it implies.

Products built around portfolio-emissions compression illustrate the point. A fund can lower weighted-average carbon metrics simply by reallocating away from carbon-intensive holdings, regardless of their issuers’ importance to the transition, their transition performance or actual decarbonisation.

That may improve the fund’s reported carbon footprint, and possibly reduce its exposure to carbon-price risk. But that alone does not show that the strategy finances the transformation of industrial sectors, rewards companies’ transition efforts, or supports decarbonisation progress.

This is not a thought experiment. Portfolio-level emissions reduction is a qualifying investment approach in the proposed SFDR revision, and underpins the EU’s official climate-benchmark standards, the use of which receives preferential treatment under the proposal.

The answer is not to prescribe one investment model. Funds may support the transition by financing specific projects or assets, investing in bonds or loans with proceeds earmarked for transition or enabling activities, allocating capital to companies making credible progress, or using stewardship and engagement to press for change. But flexibility must be