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          The Role of Finance and the EU Taxonomy in the Circular Economy – Part 2

          FEATURED ARTICLE

          In Part 1, we explained how finance can play a critical role in promoting sustainability and tackling environmental challenges. As part of its commitment to achieving a climate-neutral economy by 2050, the European Union has introduced a range of measures designed to encourage private sector involvement in meeting the Paris climate agreement. These include the EU Taxonomy for Sustainable Activities and the Sustainable Finance Disclosure Regulation, which aim to boost investment in green initiatives, increase transparency and accountability, and reduce instances of ‘greenwashing’ in the financial sector. We also examined the six environmental objectives of the EU Taxonomy for Sustainable Activities, including the “Transition to a Circular Economy” objective, as well as the Technical Screening Criteria for the other objectives and current draft recommendations.

          In this Part 2, we focus on the “Categorisation System for the Circular Economy” published by the European Commission in May 2020. This system provides a sector-agnostic approach to defining categories of activities that significantly contribute to the circular economy, and its influence can be seen in the draft Technical Screening Criteria for the “Transition to a Circular Economy” objective proposed in March 2022. We also delve into the EU’s Circular Economy Action Plan, as well as subsequent reports and recommendations.

           

          “Categorisation System for the Circular Economy” – May 2020

          In May 2020, the European Commission’s Circular Economy Financing Expert Group published the “Categorisation System for the Circular Economy” which was designed to be a sector-agnostic circular economy categorisation system for defining categories of activities substantially contributing to a circular economy. The Categorisation System for the Circular Economy was an important inspiration for the current draft TSC for “The Transition to a Circular Economy” objective proposed by the PSF in March 2022. It followed a previously published report in March 2019 by the Circular Economy Financing Expert Group entitled “Accelerating the transition to the Circular Economy”[1], providing recommendations on how to improve access to finance for circular economy projects. One of the challenges identified in the March 2019 report related to a lack of a common, foundational approach to defining circular economy activities, which the Categorisation System for the Circular Economy from May 2020 addressed in depth.

          The Categorisation System for the Circular Economy from May 2020 is organised into four high-level category stages. These category stages align with the Value Hill Business Model Tool[2] developed by Circle Economy as per the diagram illustration below.

          6 environmental objectives of the EU taxonomy

          Each of the four category stages can be subsequently broken down into 14 specific circular business models as laid out hereunder:

          Circular Design Models

          1.a Design and production of products and assets that enable circular economy strategies, through e.g. (i) increased resource efficiency, durability, functionality, modularity, upgradability, easy disassembly and repair; (ii) use of materials that are recyclable or compostable
          1.b Development and deployment of process technologies that enable circular economy strategies
          1.c Development and sustainable production of new materials (including bio-based materials) that are reusable, recyclable or compostable
          1.d Substitution or substantial reduction of substances of concern in materials, products and assets to enable circular economy strategies
          1.e Substitution of virgin materials with secondary raw materials and by-products

           

          Optimal Use Models

          2.a Reuse, repair, refurbishing, repurposing and remanufacturing of end-of-life or redundant products, movable assets and their components that would otherwise be discarded
          2.b Refurbishment and repurposing of end-of-design life or redundant immovable assets (buildings/infrastructure/facilities)
          2.c Product-as-a-service, reuse and sharing models based on, inter alia, leasing, pay-per-use, subscription or deposit return schemes, that enable circular economy strategies
          2.d Rehabilitation of degraded land to return to useful state and remediation of abandoned or underutilised brownfield sites in preparation for redevelopment

           

          Value Recovery Models

          3.a Separate collection and reverse logistics of wastes as well as redundant products, parts and materials enabling circular value retention and recovery strategies
          3.b Recovery of materials from waste in preparation for circular value retention and recovery strategies (excluding feedstock covered under
          3.c Recovery and valorisation of biomass waste and residues as food, feed, nutrients, fertilisers, bio-based materials or chemical feedstock
          3.d Reuse/recycling of wastewater

           

          Circular Support Models

          4.a Development/deployment of tools, applications and services enabling circular economy strategies

          The Categorisation System for the Circular Economy also establishes the “R Strategies and Principles Hierarchy”. This is a hierarchy that is designed to illustrate the preferred order of actions to a circular economy (see Box 2). For example, an R1 strategy is a more impactful than an R5 strategy, which in turn is more impactful than an R7 strategy and so on.

          9Rs Strategy of Circular Economy

          “Circular Economy Action Plan” – March 2020[3]

          The first circular economy action plan was adopted by the European Commission in 2015. The plan included measures to help stimulate Europe’s transition to a more circular economy, boost global competitiveness, foster sustainable economic growth and generate new jobs. The plan established concrete and ambitious actions, with measures covering whole lifecycles: from production and consumption to waste management, a revised legislative proposal on waste and the development of a market for secondary raw materials. On 4 March 2019, the European Commission adopted a comprehensive report on the implementation of the action plan.

          The European Commission adopted a new and more detailed action plan in March 2020 (the “Circular Economy Action Plan 2020”). This more detailed plan is a fundamental part of the European Green Deal. This plan includes 35 actions and establishes a pathway for the transition to a circular economy by reducing pressure on natural resources, creating sustainable growth and jobs, achieving the EU’s 2050 climate neutrality target and bringing to an end biodiversity loss. It identifies initiatives along the entire lifecycle of products: from promoting eco-design and circular methods to encouraging sustainable consumption, preventing waste and reducing resource usage.

           

          The Circular Economy Action Plan 2020 also identifies 7 “Key Product Value Chains” where the need to transition towards greater circularity is highest and where urgent, comprehensive and coordinated actions are needed.

          1. Electronics and ICT[4]: Electrical and electronic equipment continues to be one of the fastest growing waste streams in the EU and the world, with current annual growth rates of 2%. It is estimated that less than 40% of electronic waste is recycled in the EU.[5]

          2. Batteries and Vehicles: Sustainable batteries and vehicles underpin the mobility of the future. However, rapid progress is needed to enhance the sustainability of the emerging battery value chain for electro-mobility and boost the circular potential of all batteries.

          3. Packaging: The amount of materials used for packaging is growing continuously and in 2017 packaging waste in Europe reached a record – 173kg per inhabitant, the highest level ever.

          4. Plastics: Plastic accumulating in our oceans and on our beaches has become a global crisis. Plastic can be found in swirling convergences that make up about 40% of the world’s ocean surfaces. At current rates plastic is expected to outweigh all the fish in the sea by 2050.

          5. Textiles: Textiles are the fourth highest-pressure category for the use of primary raw materials and water, after food, housing and transport and fifth for greenhouse gas emissions. It is estimated that less than 1% of all textiles worldwide are recycled into new textiles.[6]

          6. Construction and Buildings: The built environment has a significant impact on many sectors of the economy, on local jobs and quality of life. It requires vast amounts of resources and accounts for about 50% of all extracted material. The construction sector is responsible for over 35% of the EU’s total waste generation.[7]

          7. Food, Water and Nutrients: The circular economy can significantly reduce the negative impacts of resource extraction and use on the environment and contribute to restoring biodiversity and natural capital. Biological resources are a key input to the economy and will play an even more important role in the future.

          The practical application of circularity is still in its infancy. Accordingly, we anticipate that the activities within the aforementioned value chains will evolve and expand as we transition to a more circular economy.

          Circular Economy

          “Development of the EU Sustainable Finance Taxonomy – A framework for defining substantial contribution for environmental objectives 3-6” – March 2022[8]

          The European Commission’s Joint Research Centre (JRC) report entitled “Development of the EU Sustainable Finance Taxonomy – A framework for defining substantial contribution for environmental objectives 3-6” (the “JRC Report”) is a key input in the development of the TSC for the four remaining environmental objectives defined in the EU Taxonomy, one of which is “The Transition to a Circular Economy” objective. The JRC Report proposes a methodological, step-by-step framework for drafting criteria for economic activities that substantially contribute to an environmental objective: from identification of the type of substantial contribution the economic activity can make, selection of the most suitable approach for drafting the TSC and setting an expected ambition level in order to consider a contribution substantial. The JRC Report then unpacks how this framework can be applied to each of the four environmental objectives.

          Moreover, the framework prescribed in the JRC Report has already shown itself to be successfully implementable in the work of the PSF, detailed in Section 4.5 below. Accordingly, the framework was implemented in its entirety as part of a collaboration between the PSF and the JRC.

           

          “Report with recommendations on technical screening criteria for the four remaining environmental objectives of the EU taxonomy” and corresponding “Annex” – March 2022

          At the time of writing, the most recent publications from the EU are the PSF’s “Report with recommendations on technical screening criteria for the four remaining environmental objectives of the EU taxonomy” (the “Report”)[9] and the corresponding “Annex to the report with recommendations on technical screening criteria for the four remaining environmental objectives of the EU taxonomy” (the “Annex”)[10] containing the draft TSC for the four remaining environmental objectives, including for “The Transition to a Circular Economy” objective (together, the “Draft EU Taxonomy”).

          As the foregoing documents have been developed specifically for the sustainable finance agenda and EU Taxonomy in the context of “The Transition to a Circular Economy” objective, we (SMS) have mapped the 7 Key Product Value Chains of the Circular Economy Action Plan 2020 described in Section 4.3 above to the TSC contained in the Draft EU Taxonomy.[11]

          The Draft EU Taxonomy identifies the following 11 “priority activities” that make a “substantial contribution” to “The Transition to a Circular Economy” objective:

          1. Manufacture of rubber and plastic products
          2. Manufacture of computer, electronic and optical products
          3. Manufacture of electrical equipment
          4. Manufacture of textiles
          5. Manufacture of wearing apparel
          6. Construction of buildings
          7. Manufacture of leather and related products
          8. Manufacture of food products
          9. Manufacture of wood and of products of wood and cork, except furniture; manufacture of articles of straw and plaiting materials
          10. Civil engineering
          11. Manufacture of chemicals and chemical products

           

          In addition, the PSF states that “the above-mentioned activities need to be complemented by activities that do not have significant impact but significantly contribute to directly improving the state of the environment (i.e. healing the environment)”. In this context, the PSF sets out the following 8 “additional activities directly improving the state of the environment”:

          12. Water collection, treatment and supply
          13. Sewerage
          14. Waste collection, treatment and disposal activities; materials recovery
          15. Remediation activities and other waste management services
          16. Repair of fabricated metal products, machinery and equipment
          17. Maintenance and repair of motor vehicles
          18. (Sale), maintenance and repair of motorcycles and related parts and accessories
          19. Repair of computers and personal and household goods

          Circular path

          There is a large overlap between the 19 economic activities above and the 7 Key Product Value Chains of the Circular Economy Action Plan 2020. Set out below is a mapping table highlighting the overlap and indicating any notable divergences.

          A large number of companies are assigned to both a Key Product Value Chain of the Circular Economy Action Plan 2020 and one of the 19 economic activities identified within the Draft EU Taxonomy.

          7 “Key Product Value Chains”

          from the Circular Economy Action Plan 2020

          11 “priority activities” and 8 “additional activities directly improving the state of the environment” from the Draft EU Taxonomy for “The Transition to a Circular Economy” objective
          1. Electronics and ICT2. Manufacture of computer, electronic and optical products

          3. Manufacture of electrical equipment

          19. Repair of computers and personal and household goods

          2. Batteries and Vehicles17. Maintenance and repair of motor vehicles

          18. (Sale), maintenance and repair of motorcycles and related parts and accessories

          N.B. the PSF acknowledges in the Draft EU Taxonomy that it has not yet properly considered Batteries and Vehicles due to potential conflicts with the “Climate Change Mitigation” objective. However, the PSF states that it intends to address this Key Product Value Chain in the future.

          3. PackagingNot covered
          4. Plastics1. Manufacture of rubber and plastic products
          5. Textiles4. Manufacture of textiles

          5. Manufacture of wearing apparel

          7. Manufacture of leather and related products

          6. Construction and Buildings6. Construction of buildings

          10. Civil engineering

          16. Repair of fabricated metal products, machinery and equipment

          7. Food, Water and Nutrients8. Manufacture of food products

          12. Water collection, treatment and supply

          13. Sewerage

           9. Manufacture of wood and of products of wood and cork, except furniture; manufacture of articles of straw and plaiting materials

          11. Manufacture of chemicals and chemical products

          N.B. The above economic activities are not related to the 7 Key Product Value Chains of the Circular Economy Action Plan 2020 but are captured in the Draft EU Taxonomy’s list of 11 priority activities making a substantial contribution to “The Transition to a Circular Economy” objective.

           14. Waste collection, treatment and disposal activities; materials recovery

          15. Remediation activities and other waste management services

          N.B. The above economic activities are neither related to the 7 Key Product Value Chains of the Circular Economy Action Plan 2020 nor captured in the Draft EU Taxonomy’s list of 11 priority activities making a substantial contribution to “The Transition to a Circular Economy” objective but are captured in the Draft EU Taxonomy’s 8 additional activities directly improving the state of the environment.

          This Featured Article has been produced by Sustainable Market Strategies. Rize ETF Ltd make no representations or warranties of any kind, express or implied, about the completeness, accuracy, reliability or suitability of the information contained in this article.

           

          Related ETF

          CYCLRize Circular Economy Enablers UCITS ETF

           

          References

          [1] European Commission, ”ACCELERATING THE TRANSITION TO THE CIRCULAR ECONOMY”, 2019. Available at: https://ec.europa.eu/info/sites/info/files/research_and_innovation/knowledge_publications_tools_and_data/documents/accelerating_circular_economy_032019.pdf 

          [2] Achterberg, E., Hinfelaar, J., Bocken, N. The value hill business model tool: identifying gaps and opportunities in a circular network, 2018. Available at:

          https://docplayer.net/86718304-The-value-hill-business-model-tool-identifying-gaps-and-opportunities-in-a-circular-network.html

          [3] European Commission, “New circular economy action plan”, 2020. Available at: https://ec.europa.eu/environment/pdf/circular-economy/new_circular_economy_action_plan.pdf

          [4] ICT stands for Information Communications Technology.

          [5] European Commission, “New circular economy action plan”, 2020. Available at: https://ec.europa.eu/environment/pdf/circular-economy/new_circular_economy_action_plan.pdf

          [6] Ellen McArthur Foundation’s “A New Textiles Economy”, 2017.

          [7] Eurostat data for 2016.

          [8] European Commission, “Development of the EU Sustainable Finance Taxonomy – A framework for defining substantial contribution for environmental objectives 3-6”, 2022. Available at: https://publications.jrc.ec.europa.eu/repository/handle/JRC126045

          [9] European Commission, “Platform on Sustainable Finance’s report with recommendations on technical screening criteria for the four remaining environmental objectives of the EU taxonomy”, March 2022. Available at: https://ec.europa.eu/info/files/220330-sustainable-finance-platform-finance-report-remaining-environmental-objectives-taxonomy_en

          [10] European Commission, “Annex to the Platform on Sustainable Finance’s report with recommendations on technical screening criteria for the four remaining environmental objectives of the EU taxonomy”, March 2022. Available at: https://ec.europa.eu/info/files/220330-sustainable-finance-platform-finance-report-remaining-environmental-objectives-taxonomy-annex_en

          [11] As outlined at Section 4 above, given the incompleteness of the TSC for “The Transition to a Circular Economy” objective, we (SMS) have, for the purpose of defining our Circular Economy Enablers Thematic Classification, proposed a number of additional economic activities for inclusion which address some of the sectors and economic activities such as batteries and vehicles and mining that are currently omitted from the draft TSC but which we expect will be included in the near future.

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