Transcript provided by Kensho.

Lindsey Hall: I'm Lindsey Hall, Head of thought leadership at S&P Global Sustainable1.   

Esther Whieldon: And I'm Esther Whieldon, a senior writer on the Sustainable1 Thought Leadership Team   

Lindsey Hall: Welcome to ESG Insider, a podcast hosted by S&P Global, where we explore environmental, social and governance issues that are shaping investor activity and company strategy.

We've talked a lot on this podcast about this kind of buzzy topic in the sustainability space: taxonomies. In simple terms, a sustainable or green taxonomy is a kind of dictionary of sustainable activities and it's designed to steer companies as they adapt their business strategies to climate change as well as help investment funds understand and measure the environmental performance of different sectors.

Esther Whieldon: The idea of sustainable taxonomies came to the fore when the EU announced its first sustainable finance action plan in 2018. A major part of the plan was the EU's green taxonomy and that's something we've covered in past episodes on this podcast. We've also delved into the development of taxonomies globally, because in recent years taxonomies have been springing up in places as far and wide as Colombia, South Africa and Malaysia. So it will include a link to some of our previous episodes on that in our show notes.

This week, we're digging into the sustainable taxonomy that Mexico recently announced. And for this returning to Jennifer Laidlaw. Jennifer is a senior writer on the S&P Global Sustainable1 thought leadership team, and she focuses primarily on regulation, she's a frequent contributor of this podcast. So Jennifer, what can you tell us?

Jennifer Laidlaw: Mexico announced its own sustainable taxonomy just over a month ago, so it's pretty new, but it's been several years in the making. Like many of the taxonomies around the world, it's designed to drive investment into economic activities that protect the environment, but there are some differences compared to other taxonomies. According to the Mexican government, the taxonomy is the first in the world to consider social objectives. Achieving gender quality is one of the major goals. To find a more, I spoke to Carlos Vargas, Professor of Finance at a EGADE Business School in Mexico. I started by asking him what the main differences were between Mexico taxonomy and other taxonomies such as the EUs.

Carlos Vargas: The Mexican taxonomy is different to other previous taxonomies, mainly because it was designed to incorporate not only environmental aspects, but also social aspects from the beginning. In many cases, taxonomies in other geographies and other jurisdictions they have evolved over time. And in the case of Mexico, it was decided that the social aspects should be included from the beginning.

Why is this important? Well, in the case of different taxonomies, it responds to realities in the jurisdiction of geography that they are designed for. And in the case of Mexico, the social aspect has been an important criteria for trying to advance gaps that exist in society, but also to try to promote a more equitable environment for everyone.

Having said that, the Mexican taxonomy has, of course, taken into consideration all that was learned from designing previous taxonomies that were implemented already the EU, for example, had a very, very relevant influential role into how the Mexican taxonomy was designed. And a lot of the structure and the highlights that are included in the taxonomy of course, you can look at what was learned there and perhaps also what was learned in other places like Colombia.

Jennifer Laidlaw: So what's the important for Mexico to include the social aspects?

Carlos Vargas: In the case of a country like Mexico, inequality and other gaps that exist in society in example, property, are very, very high in the priorities for different participants of the market, especially for regulators, but also for other participants.

In the case of Mexico as well, it's not that the environmental side, it's excluded from this. We have one of the more relevant and diverse environments in the world. We have a very high level of biodiversity in the country as it is the case for all the Latin American region. And we also take into consideration environmental aspects significantly.

However, the social side is very pressing in the case of a country like Mexico, provided conditions that have existed that perhaps have evolved over time to be less equal, but also that haven't allowed for other elements of development to thrive. And that is something that is also important to highlight here, and that is something that the taxonomy is trying to promote as well.

It is important to have different sites of what needed to be promoted in sustainability. But in the case of Mexico, it was important to give it a special mention. It's not that the environmental or biodiversity of parts of the taxonomy are not also highlighted, it is most that the social part also needed to be in the spotlight in the design.

Lindsey Hall: Jennifer, what Carlos is saying about the social taxonomy. It really brings home to me this idea of the just transition. And that term can mean in a variety of things, but generally speaking, it refers the importance of transitioning to a low-carbon economy in a way that is as fair and inclusive as possible to everyone concerned.

Jennifer Laidlaw: Yes, and he brought up a very interesting point that we touched on in our episode about global taxonomies: the idea that taxonomies have to respond to local priorities. As Carlos said, Mexico has to tackle climate change but also create a more equal society.

I also spoke to Enrique Lendo, who is Project Coordinator for Sustainable Finance at the UN Environment Programme in Mexico City. He was one of the some 200 experts that advise Mexico's government on the taxonomy. I asked him how important the social objectives of the taxonomy were in ensuring fair and just transition in Mexico. Here's Enrique.

Enrique Lendo: Yes, I think that's a key question and also the central part of the taxonomy. The Mexican taxonomy is unique if you compare it with the other taxonomies because it balances the social aspects and the social goals that Mexico has and challenges with environmental goals.

And let me give you a concrete example of this. Like in the climate change emissions, where we have committed to reduce our emissions by 50 -- at least 50% by 2030. So you have a handful of countries, mainly developed countries that have done that. And then you have very large developing countries such as India, such as China and then you have Brazil, Indonesia and Mexico is one of them. We only meet 1.4% of global emissions, but we're still an important emitting country.

But the issue here is that you cannot ask developing countries that have less historical responsibility compared with developed countries, like developed countries have close to 55% of historical emission reductions, so it's going to be hard for them to adopt targets as ambitious as the one from the beloved countries because they still need to address many issues like property, like access to services like... So what the Mexican taxonomy does is exactly that. It balances social challenges like property, like access to services like gender inequality with that commitment that Mexico has of bringing down emission reductions and adapting to climate change. And it does it by finding investment opportunities within those sectors. So every project, when you finance a project with the taxonomy, you not only look at the emission reduction part but at emmission reduction part within that ... goal within that access to services. And if you think about it, there are a lot of projects where you can bring all those goals together.

Jennifer Laidlaw: Enrique also explained what other countries in Latin America are developing taxonomies and the role they can play in mobilizing financing for tackling climate change. You'll hear him mention COP meetings. That stands for the Conference of the Parties to the United Nations Framework Convention on Climate change or the annual UN Climate Change Conference.

Enrique Lendo: We're going to start working with Costa Rica and Panama to build their taxonomies. Chile is already in its way to developing a taxonomy. As you know, Colombia published its own taxonomy last year, but we have, what, about 30 countries in the Latin America and Caribbean region.

Canada, if you take North America, just developed a taxonomy. Maybe at some point, the U.S. will be convinced to develop its own taxonomy.

But we need to look at this as an evolving process. We need to build capacities in both in the private sector, the government sector, the financial sector, we need to develop the metrics. We need to be very, very, very careful and solid with the metrics that we build because otherwise we're just going to like being in trouble at well, this green washing trend and some other challenges that this sustainability finance space has faced in the last few years.

We also need to strengthen the cooperation links to countries. So the European Union has been engaged in supporting many countries and building capacities of many countries, including Mexico on building their taxonomy. And that's important not only in environmental terms but also in financial terms because we're linked to international capital markets. So it's also in the benefit of the European Union. But we need to strengthen those, not only from government to government, but from private sector actors to private sector actors within the industry, the financial industry is, of course, an important one.

So more cooperation between banks in different regions, more cooperation between insurance companies in different regions, more cooperation on funds and you name it. But we needed to do it fast because of the financial gaps, the financial capital we have. I mean we only have 7 years before 2030, and we need to bring emissions down by 50%. So we need to mobilize a huge amount on capital and we need to do that very, very fast. And only through cooperation not only the traditional cooperation that we have at the COPS meetings, but also this cooperation through financial institutions, both private and public.

Esther Whieldon: So Jennifer, I recently spoke to Carlos Torres Villa, who is chairman of the big Spanish bank, BBVA, that owns Mexico's largest bank actually. In that podcast interview, Carlos told us how Mexico has this large potential for investment. But he said that projects often have too many risks for investors. He also mentioned the need for frameworks to reduce that risk. And it sounds like a taxonomy you're talking about could play a part in that. Did any of the experts you spoke to mention that specifically?

Jennifer Laidlaw: Yes, an actual fact, they did. One of the people I spoke to was Valeria Dagnino Contreras, who is Latin American Sustainability Manager for the Climate Bonds Initiative, that's a nonprofit that promotes sustainable investment. And she was also an adviser on the taxonomy.

So when I was talking to her, she actually mentioned that the taxonomy might play a major role in encouraging investors to invest in sustainable projects in Mexico.

Valeria Dagnino Contreras: So the taxonomy actually helps with this fear of investors of greenwashing or social washing. Because now when we have an alignment criteria, and we have a label or stamp that actually comes from an external reviewers saying, "Oh, this that or this instrument, it's actually aligned to the taxonomy. That makes it easier for investors. So the disclosure part and the transparency requirements are there. It means that it's being reported, it's being monitored and it's being kept track of.

From there, it actually helps investors have a standard or guidance into emerging economies because that's where the projects currently are. If we want to mitigate and especially adapt, which is very important for the Latin American region in general and especially for Mexico, understanding the biodiversity, social equality and all of these challenging aspects that we need to tackle in the region, having the guidance from the taxonomy helps Investors have this clarity of knowing that if they invest in projects that are aligned to this taxonomy, they won't have this risk of not knowing and not being -- not having the transparency that these products are actually helping solve the problems that need to be tackled in the region and in the country specifically.

Jennifer Laidlaw: The taxonomy could also become a reference for the region in terms of tackling social issues, especially in terms of gender quality, Valeria told me

Valeria Dagnino Contreras: We're seeing it as a reference for the whole region because there's a big challenge that we need to tackle in general in how we go about understanding the inclusion of women in the labor force, how we reduced the pay gap between gender and all these social measures that we need to take in all the sectors of the economy, it actually is very general for the whole region. In general, for all emerging economies in the region and globally.

So it can definitely be seen as a reference in Mexico and other countries can come about and taking as a guideline or as a methodology that can be incorporated into their operations, into their strategies. So we cannot only use the Mexican taxonomy as a guideline into labeling bonds in the country, right? So this can be included into different aspects, different instruments and can definitely be a methodology that we perceive as being a reference internationally. Because it's not the only country that's tackling these complex issues of gender inclusion into the labor force.

Jennifer Laidlaw: Valeria explained that measuring social issues is challenging, while the impact of climate change can be measured through greenhouse gas emissions, for example, she said assessing generic quality is rather more complex. To address that charge, the taxonomy includes a gender quality index. Here she is to explain how that works. You will also hear us talk about gender bonds. Now that's the kind of debt that raises money for projects promoting gender diversity.

Valeria Dagnino Contreras: A gender equality index was created with the technical and thematic working group. In order to have 3 pillars. These pillars are dignified label, well-being and social inclusion. Each of these have 3 axes. And then from there, we have criteria questions for each criteria per level.

The questions actually come from what are the organizational policies that involves gender quality? What are the actions to accomplish the goals? And what are the mechanisms for measuring and correcting the systemic deviation of gender equality.

From these questions, you create a score that actually creates score of maturity and lets you know what's the contribution of each company or each project and evaluates the productive organization. So with this score, then you have thresholds. And if you achieve a minimum of each threshold per pillar, then you can actually understand that this company or this project is aligned to the Gender Equality Index of the taxonomy. So it's quite an innovation and something we have not seen before.

So if we say, for example, the first pillar in the first axis, we have pay equality. And from there, we see what are the policies that the organization is currently going through in order to enforce the law or creating different levels. And then from there, what are the actions that are currently being taken place in order to reduce the pay gaps or what are the mechanisms inside each of the institutions in order to correct this. That's one of the axis for the first pillar.

But from there, we see what is the offer for different genders in order to have the same compensation or the same benefits internally inside one organization? What are their goods and services? What's the promotion of this? What are the financial components? Is there flexibility? Is there a gender perspective inside the creation of these policies or of these actions? Are there health components being specifically designed with a gender perspective. So definitely, there's different components related to health, to education, to reducing the paygap of the labor force inside of each activities and of each economic sectors.

Jennifer Laidlaw: Some people I have spoken to have said like there also needs to be like a change in mindset in Mexico towards gender equality. I was just wondering, do you have that feeling as well? And how do you think the taxonomy might help?

Valeria Dagnino Contreras: Yes, absolutely. So it's a challenge that is currently being tackled. It definitely impacts all sectors of the economy, the life, the perception of -- from security of how when we go outside as a woman, you don't feel as secure as you could be.

It's definitely something that needs to be integrated into the mindset of people. And when we're talking about the gender perspective, it also comes when we're talking about climate change. It's the changing of mindset. What can we do? How from our organization, we can do something different or something innovative? And now we already have the tools.

At the end of the day, the taxonomy, it's a tool. It's a methodology. It's a guidance on how we can do better. How an organization can have a stronger strategy integrating the perspectives of gender and the perspectives of sustainability in general into doing something better, of improving the life of our employees, the life of all our stakeholders, which not only includes the top levels of an organization, but it includes the society as a whole. So I do see the taxonomy as helping mobilize rapid action, not only the mobilization of capital but rapid action towards the right direction.

Jennifer Laidlaw: Do you think with the inclusion of gender equality in the taxonomy that we might see the growth of things like gender bonds?

Valeria Dagnino Contreras: When we have criteria or like a stronger criteria for designing a label, then it's easier to understand, "Oh, maybe I already have projects and assets in my organization that accomplish the minimum regards for the general equality index. So this makes it easier for issuers to actually label their bonds because they understand what they might already be doing that is already included in the taxonomy? Or if not, maybe they're not that far away from it, but they can improve their strategy in order to issue a gender or social bond or legal debt in the future -- in the near future.

Jennifer Laidlaw: The framework includes 124 economic activities across 6 different sectors. That's agriculture, energy, construction, manufacturing, transport and waste sectors. Let's turn back to Carlos Vargas, the professor from Mexico's EGADE Business School in Mexico to understand why those sectors were a priority for Mexico.

Carlos Vargas: In the case of Mexico, agriculture is definitely one of the highest priorities, especially for the regulators. Agriculture is very relevant for the sustainability internally for the country as a lot of the products that are consumed in the country are produced locally, but also, it is very relevant for those supply chains on North America mainly because Mexico is a very big supplier of different fresh products that are shipped to the U.S.

In many cases, even by land, the geographic location of the country allows for a lot of interconnection for different industries between Mexico and not the U.S. and Canada. But especially for agriculture, this has been an important side.

In the case of the taxonomy, what this tries to advance is precisely the common language that needs to exist into how we understand the different aspects of that sustainability of a particular sector and in the case of agriculture, well, how those goods are produced, how different practices of growing and reducing of different dates into producing those products have to be understood. And yes, it is very, very important, it's very, very relevant for the regulators, but it's also very complex to understand and to address, provided the particular characteristics that we have.

In the case of Mexico, of course, there's some part of it that it's industrial, and it's very much aligned to international standards. But also a lot of products are also produced by small holder farmers, which is also a challenge sometimes into implementation. -- and there is an important part of agriculture that is fragmented into that. And that also requires an important effort into how all of these permeate into the producers to understand not only that they should do this and they will have to do at some point by aligning to this taxonomy, and the resulting regulation that would come after, but also on how they could actually benefit from it and trying to show and let them understand how this is going to take place. It also requires an important effort, and that's just yet to come.

Jennifer Laidlaw: Yes, I just wondered as far as the other economic sectors that are included in the taxonomy, what you maybe think is the most important one?

Carlos Vargas: Well, I think definitely manufacturing. For the case of Mexico, the integration that we have for supply chains with North America is very significant. It's very relevant for the foreign trade of the country, as you can imagine. But it's also very relevant for the actual supply chains for a country like the United States.

In the case of Mexico, this is a very important opportunity in example for the production of electronics. Perhaps a lot of what we hear sometimes regarding electronic production is with small smart devices that are produced in Asia and situations like that.

In the case of Mexico, the big opportunity has arisen for the last couple of decades for higher-volume electronics. Think about flat screen TVs, refrigerators, products like that, that are produced in the country cars as well find a very interesting opportunity, again, for the geographic location of the country.

And we have seen how the manufacturing industries have not only tried in recent years because of how practical the opportunity of near shoring and being close to the actual market that will be consuming those products can be, but also has represented all the adjustments and the opportunities that it also can represent by aligning to the highest standards of quality, production, sustainability and making those products in many cases as well eco-friendly and according to international standards for other significant aspects like labor practices, et cetera. But it also has allowed for the country to develop other areas that support that manufacturing as it is, of course, a very complex supply chain, and it does require that part.

I think the biggest opportunity at the moment for Mexico will come particularly from manufacturing. But of course, a lot of the other sectors are very much interconnected to it, and they will also drive as a result of how much this manufacturing will be in that.

Jennifer Laidlaw: Enrique told me, the energy sector was also a major challenge for the country.

Enrique Lendo: Most of our emissions have to do with energy. And as you know, we're an oil country. We export a lot of oil to the U.S. and then the roil is refined there and they send it back to Mexico as gasoline. So we've been trying to address that through building refineries here, but the economy is very based on fossil fields, both for generating electricity and also in the transport sector. So that's the largest chunk. We're talking about like 75% of the emissions come from the energy sector.

The rest come from land exchange, deforestation and the waste the waste center and some industrial processes where we also have a lot of challenges. So in the energy sector is changing the chip from fossil bills and bringing more investment into renewables and clean energy, and that's a goal that we have, and we're supposed to have 35% -- at least 35% of energy coming from clean sources in 2024 and then decarbonized the economy between 2035 to 2040.

Lindsey Hall: Now, Jennifer, there's been a lot of regulation related to the taxonomy in the EU. And I did hear Carlos mention regulation for specific sectors. So can we expect the same in Mexico?

Jennifer Laidlaw: Yes, I did ask Carlos about that. Here he is again.

Carlos Vargas: In the case of specifically for financial instruments, yes, regulation will need to be adapted or redesigned in order to allow for the best of the taxonomy to be implemented practically. In the case of other particularities of the taxonomy, as I was mentioning, perhaps specific regulations for the different economic sectors that are addressed in the taxonomy will also need to be adapted.

I would expect an important effort coming forward from this point on because the taxonomy does open the opportunity and the door for new things to come and a lot of investments to be aligned to it. The taxonomy also tries to align to what best practices in different geographies in the world also to make it easier on the market for understanding it, but the actual implementation will definitely require significant efforts in regulation updating and perhaps new regulations.

Esther Whieldon: The EU taxonomy is designed to drive investment, and we had Valeria to talk about gender bonds. So does this mean Jen, that we'll see new types of investment vehicles?

Jennifer Laidlaw: Yes. So I ask Enrique what impact the taxonomy would have on the growth of the sustainable debt market in Mexico and whether it would result in a growth of green loans or green mortgages. Here's Enrique.

Enrique Lendo: Mexico is probably the country in Latin America or maybe not probably, for sure, the country in Latin America that has issued more sustainability and green bonds. So bonds is a vehicle that has been growing a lot in the last years.

In 2016, the Mexican Stock Exchange issued only 2% of its debt through sustainability-linked bonds. In 2022, it issued 49% of all the debt linked to sustainability bonds. The calculations are that next year is going to be over 50%. And by the end of the decade, probably 80% to 90% of the debt that they issue will be linked to sustainability bonds.

Loans have been lagging behind. I mean only until this year, some of the largest banks, especially the international banks that have operations in Mexico, such as BBVA app, which is the largest bank in Mexico, and you also have HSBC. The mortgages that you mentioned that's another issue that has been in another dimension of the sustainability is more linked to public resources like national development banks.

So the national housing institutions or housing financial institutions that we have, they've been issuing mortages by developing their own frameworks. And now with the taxonomy, we see a lot of potential for that not only pushing the mortgages in that specific market, which is the one associated with public resources, but also in the private sector.

So we probably are going to see more mortgages with the sustainability objectives by using the taxonomy, and this will present many, many opportunities for different vehicles. We're also curious about how private equity is going to work. There's also all the institutional investors, pension funds, investment funds and they been engaging also in the ESG. As a matter of fact, the pension funds, for instance, they started with this year with a regulation on disclosing ESG factors. So we see a lot of potential in the market for different vehicles in Mexico.

Lindsey Hall: Well, we'll continue watching to see just what new investments evolve from the taxonomy and whether it's going to open up new opportunities as Enrique predicted?

Jennifer Laidlaw: Yes, indeed. My thought was interesting to hear from him the role the taxonomy could play in bridging the financing gap for climate and increasing cooperation between different financial players. That's been a major topic of discussion at COP and other climate events.

Esther Whieldon: And given how this is still sort of an emerging trend, we would love to hear more about taxonomies as they're being developed around other parts of the world. So Jen, please let us know if you hear about other countries creating taxonomies and we'll have you back on again to talk about it.

Jennifer Laidlaw: You bet, I'll be back.

Lindsey Hall: Thanks so much for listening to this episode of ESG Insider and a special thanks to our producer, Kyle Cangialosi. Please be sure to subscribe to our podcast and sign up for our weekly newsletter, ESG Insider. See you next time.   

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