Can Improved Disclosure Regulations Transform China’s Financial Markets for Climate Action?

In the ever-evolving world of global capital markets, there’s a compelling push from both regulators and investors for companies to fortify their climate disclosures. The previous year witnessed a surge in mandates on climate reporting, ranging from pioneering directives from the European Union to groundbreaking legislation in California. Against this backdrop, China’s financial markets are actively adapting to this global trend, with a growing emphasis on aligning with robust climate disclosure practices.

Key Takeaways:
1. Global Shift Towards Enhanced Climate Disclosures: The financial landscape is witnessing a global push for companies to strengthen their climate disclosures, spurred by both regulatory pressures and investor expectations.
2. China’s Evolving Role: China, a key player in this shift, has mandated ESG reports for equity and debt issuers. While progress is evident, there’s room for improvement, especially in elevating the quality of ESG reporting.
3. Urgent Tasks Ahead: To meet investor demands effectively, the article highlights two critical tasks for Chinese regulators: improving the quality of ESG reporting and expanding regulatory efforts to include public corporate debt markets, aligning with global best practices for comprehensive sustainability reporting.

Adapting to Global Trends in Climate Disclosure

KPMG’s research provides a fascinating insight: in 2022, about 80 percent of the top 100 companies worldwide, based on revenue across 58 major economies, released environmental, social, and governance (ESG) or sustainability reports. This marks an impressive twofold increase since the late 2000s. Notably, Chinese capital markets are embracing this global trend. In Hong Kong, both equity and debt issuers have been mandated to issue ESG reports since 2020. Mainland stock exchange regulators are actively working to expand ESG reporting mandates, anticipating a significant boost in reporting rates in these equity markets. 

However, only around 30 percent of A-share companies in mainland China issued ESG reports in 2021, despite an increase from 25 percent in 2020.

On a global scale, expanded reporting endeavors aim to meet the growing investor demand for data enabling the incorporation of climate and sustainability risk into decision-making processes. The critical question is how regulators can ensure this surge in reporting genuinely caters to investor needs. For Chinese regulators, equity-market reporting mandates are a commendable start. Our research on Chinese corporate climate disclosures emphasizes two pivotal tasks to augment these efforts.

Enhancing ESG Reporting Quality

The first task involves elevating the quality of ESG reporting. Analysis of disclosure quality scores from the Transition Pathways Initiative, spanning 600 Chinese and non-Chinese firms in the world’s highest-emitting sectors, reveals that Chinese firms consistently lag behind their counterparts in both developed and emerging markets. Comparable assessments on topics like net-zero targets and carbon footprints echo these findings. Challenges notwithstanding, the introduction of a requirement in 2020 by Hong Kong regulators for issuers to align their climate reporting with global standards set by the Task Force on Climate-related Financial Disclosures (TCFD) shows a positive trajectory.

Efforts to match global best practices could be facilitated by collaboration with organizations like the International Sustainability Standards Board (ISSB), which established a Beijing office last June. The ISSB, inheriting the activities of the TCFD, released its first set of disclosure standards this summer.

Expanding Reporting Efforts to Debt Markets

The second task involves expanding regulatory efforts among equity markets to encompass public corporate debt markets. China’s colossal $7.4 trillion corporate bond market, the second-largest globally, dominated by central and local state-owned enterprises, demands attention. ESG data can inform investments in public corporate debt markets much like it does for public equity markets. Regardless of how companies raise capital, their operations face similar ESG risks and opportunities. Better ESG disclosure can empower investors to comprehend these considerations and manage portfolios accordingly.

Providing this information to debt investors requires reporting regulations extending beyond public equity markets to public corporate debt markets. The majority of Chinese state-owned entities (SOEs) are active on public debt markets, emphasizing the need for comprehensive reporting mandates. Closing these gaps would align China’s mainland with major capital markets like Hong Kong and the EU, where sustainability reporting requirements cover both equity and debt issuers.

Additional Benefits and Future Prospects

Expanding reporting mandates could enhance China’s cautious foray into opening up its bond markets to international capital, often more ESG-conscious. Stronger sustainability reporting can better manage risk exposure in the corporate debt market, appealing to international investors seeking a more ESG-aligned investment profile.

Crucially, increased reporting can fortify risk-management efforts among China’s mainland financial institutions dominating the market. As ESG awareness grows in this community, better reporting will enable them to make informed decisions and contribute to the ongoing global discourse on sustainable finance.