On 30 March 2023, HM Treasury published a Consultation Paper on the future regulatory regime for environmental, social and governance (ESG) ratings providers. The consultation sets out a proposed policy approach for bringing ESG ratings providers into the UK regulatory perimeter, as part of the government’s updated Green Finance Strategy.

In the Consultation Paper, HM Treasury proposes to extend the regulatory perimeter to include ESG ratings, which it expects to do by creating a new regulated activity under the Regulation Activities Order 2001 (RAO). The activity HM Treasury is proposing to regulate is ‘the direct provision of an assessment of environmental, social or governance factors to a user in the UK, where the assessment is used in relation to a specified investment in the RAO, unless an exemption applies’. Further activities may also be brought into regulation, including some cases of indirect provision of these assessments, and where these assessments are used in relation to certain things other than RAO specified investments.

If HM Treasury does introduce legislation to amend and expand the regulatory perimeter in this way, ESG ratings providers would need to become FCA authorised and meet specified threshold conditions. This could also involve legislation under the Designated Activities Regime (DAR) once the Financial Services and Markets Bill (FSM Bill) receives Royal Assent, or other legislation, for a sub-set of firms.  The FCA as the appropriate regulator for markets would then set firm-facing requirements in their rules.

The consultation seeks input to inform the first stage of the process, i.e. amending the RAO and any other legislative changes.

If HM Treasury extends the regulatory perimeter to include ESG ratings providers, then the FCA would be expected to conduct a cost-benefit analysis and consult on any new requirements for these providers, following its normal processes. HM Treasury expects that any requirements would be developed taking into account international developments, in particular the recommendations provided by IOSCO.

The FCA has indicated that, subject to consultation, it anticipates that its regulatory approach would take the main elements of IOSCO’s recommendations as a starting point for rules. The FCA would not seek to harmonise the varying methodologies and objectives of ESG ratings as a regulatory outcome.

The deadline for responses to HM Treasury’s consultation is 30 June 2023.