Why the Western Balkans should care about the European Green Deal

The European Union’s commitment to environmental sustainability, reflected in its Green Deal, is the forerunner in an overarching global trend towards a greener future. The Green Deal lays out a transformative agenda with the goal to turn Europe into the world’s first climate-neutral continent by 2050. While the direct impacts will primarily affect the 27 European countries, the ripple effects of the whole European Union pursuing environmental sustainability will, and are already influencing global economic dynamics, dictating terms of international trade and compelling companies to embed sustainability into their business models. However, why should the Western Balkans care about the European Green Deal? This article will provide an in-depth analysis of the impacts of the European Green Deal and the knock-on effects on the Western Balkans region which maintains deep economic ties with the EU, stressing the immediate need for strategic adaptation to safeguard their regional value chains.

What is the European Green Deal?

Introduced as the European Union’s sustainable growth strategy in December 2019, and approved in 2020, the Green Deal aims to ‘improve the well-being and health of citizens and future generations.’ The Green Deal proposes to do this by transforming the EU into a resource-efficient and competitive economy by removing the reliance of economic growth on resource use with a mission to have ‘no person and no place left behind.’ They have pledged €600 billion to reach 3 key performance indicators; to become the first climate neutral continent by 2050, to reduce greenhouse gas emissions by at least 55% compared to 1990 levels, and to plant 3 billion trees by 2030. This €600 billion injection by the EU to reach these goals is expected and has already triggered significant public and private investment in green initiatives across all sectors of the EU’s economy. These investments must ensure that neither the environmental nor the social objectives of the deal are harmed, as outlined by the Green Deal’s ‘Do No Harm’ clause.

The Western Balkans’ ties to the European Union

The Western Balkans region is intrinsically linked to the EU in terms of economic, social, and political ties. Ever since the launch of the Stabilisation and Association Process (SAAs) the EU has become the region’s leading trade partner. In 2021 70% of the region’s trade in goods and 61% of all foreign direct investment stems from the European Union. More specifically, in 2019, the EU accounted for 65% of Serbia’s total exports and 64% of Serbia’s total imports, whilst 72.2% of Albania’s exports in 2021 went to the EU. The Western Balkans is heavily economically dependent on the EU and not aligning with the EU’s Green deal could have significant economic impact. European companies will be subject to due diligence in their supply chains, whether they are upstream or downstream, and so all EU business partners will be affected. Significant adjustments to business practices and operational models in the Western Balkans are necessary to maintain vital access to the EU market, and companies must comply with stringent ESG regulation presented in the Green Deal.

The Regulatory Frameworks underpinning the Green Deal

The Green Deal is reinforced by five key regulatory frameworks, which are used to qualify sustainable practices by European companies and those in the Western Balkans:

Sustainable Finance Disclosure Regulation (SFDR): Enacted in March 2021, the SFDR mandates financial market participants and advisors to disclose how sustainability risks are integrated into their investment decisions and advice. By 2022, over 80% of European financial market participants had fully integrated SFDR regulations into their disclosures. This means that investment firms, bankers, and other financial market participants have to present their sustainable investment practices in an EU approved standardised format so that a cohesive universal understanding of their sustainable investments can be reached. As a result,

Corporate Sustainability Reporting Directive (CSRD): In January 2023 the EU’s CSRD came into effect. The CRSD requires companies to report on the impact of their corporate activities on the environment and society and requires these companies to audit their reports. The CSRD is an improvement on the old Non-Financial Reporting Directive (NFRD) to expand the number of companies that are required to comply to increase sustainability information for public markets. Extending its scope to all large, medium, and small companies. Currently, approximately 49000 companies are obligated to comply with CSRD which is a significant jump from the 11700 covered under the NFRD. This broad coverage irrespective of company size insinuates that Western Balkan companies trading with EU partners would be in an advantageous position to secure business relationships if they would self-report on Corporate Sustainability to further be seen as compliant non-EU business partners.

Taxonomy Regulation: Since 2020, the Taxonomy Regulation has established an EU-wide classification system for environmentally sustainable economic activities. In doing so, it has allowed all companies to share a common definition of activities that can be considered to be environmentally sustainable. This EU approved classification of environmental sustainability allows companies to be recognised as sustainable by a well-defined set of objectives and creates security for investors, which has been seen by 40% of EU bank lending lent towards green initiatives that are ‘taxonomy-aligned.’ These six classifying objectives are climate change mitigation, climate change adaption, the sustainable use and protection of water and marine resources, the transition to a circular economy, pollution prevention and control, and the protection and restoration of biodiversity and ecosystems. Western Balkan companies must strive to align with these ‘taxonomy-aligned’ six objectives if they wish to be seen as sustainable.

Corporate Sustainability Due Diligence (CSDD): The CSDD was proposed in February 2022 and requires EU and non-EU companies that operate within the EU to take responsibility for their social corporate impact, and most importantly the impact of their suppliers too. This would constitute a policy shift that would explicitly require companies to conduct due diligence within not only their own operation but any of the value chain operations they have established business operations with, throughout their supply chain. If enacted, the CSDD could affect a large proportion of EU companies, of which, over 80% of which already conduct some form of due diligence. Western Balkan companies forming part of EU companies’ supply chains would be forced to adhere to EU human rights standards to preserve business relationships.

Carbon Border Adjustment Mechanism (CBAM): CBAM will be implemented in October 2023 and reporting will start in January 2024. CBAM is essentially a complementary regulation to the Emission Trading System (ETS) which mandated that most energy consuming industries had to lower their carbon footprint by 40%. CBAM expands on ETS by preventing ‘carbon leakage,’ which refers to companies relocating their carbon emission activities to non-EU countries that have more lenient emission standards. It requires that importers to the EU would have to buy carbon certificates at a price that reflects the cost of producing the same goods in a manner compliant with EU carbon prices. At first CBAM will apply to the most energy intensive industries of cement, iron and steel, aluminium, fertilisers, electricity and hydrogen, but will slowly expand. Furthermore, this is only the beginning of stopping ‘carbon leakage,’ as the EU will learn from CBAM and refine the methodology for identifying embodied emissions of goods and services. Western Balkan companies will be incentivized to reduce their carbon footprint if they wish to remain competitive as non-EU business partners. Serbia, Bosnia-Herzegovina, Montenegro, and North Macedonia will be most significantly impacted by failure to comply with CBAM; more than 5% of Serbian and Bosnian exports, and more than 3% of Montenegrin and North Macedonian exports are CBAM products to the EU. Furthermore, North Macedonia, Bosnia-Herzegovina, and Serbia are major exporters of electricity, which is a very carbon-intense industry.

Strategies for Adaptation in the Western Balkans

For Western Balkan companies heavily dependent on trade with the EU, the EU’s Green Deal and its regulatory frameworks present a formidable challenge. These regulations necessitate a shift from carbon-intensive industries to cleaner, more sustainable business practices. The change to align with sustainable practices will require significant transformation in their operations and potentially their entire business models. However, this challenge should also be seen as an opportunity. It can be safely assumed that companies aligning with the EU’s sustainability standards can not only secure their market access but also gain a competitive advantage by getting ahead of the curve, and given the increasing consumer and investor demand for sustainable products and services will see their business opportunities and margins increase. In order to quantify the business risk that non-compliance could entail, Deloitte’s global analysis concluded that the world stands to lose $168 trillion by 2070 if it does not strive towards a more sustainable future, whereas if it does it will increase the global economy by $42 trillion. This global trend towards a greener, more sustainable future can be seen in the region. Recent years have seen a surge in green energy investments in the Western Balkans. In 2022, green energy projects in the Western Balkans attracted €17.5 billion in investments, a 30% increase from the previous year.

For Western Balkan suppliers who export to EU companies, a demonstrable compliance with these sustainability standards must be shown or they could risk losing their market access. However, this behemoth task will only be possible with concerted efforts from businesses, governments and stakeholders.

Western Balkan companies should thoroughly audit their operations and supply chains to identify if they adhere to the Green Deal’s regulatory requirements and if not, where improvements could be made so that they do. These could involve investing in energy-efficient operations technology, adopting cleaner energy sources, integrating sustainable supply chain practices, and implementing mechanisms to demonstrate and verify their compliance. A great start would be to implement a dedicated Chief Sustainability Officer in their companies, a person leading a separate business division that is geared towards sustainability is undoubtedly the correct first step.

A pivotal role will be played by Western Balkan governments in facilitating and ensuring a green transition. It is necessary that they develop the required infrastructure, implement supportive policies, provide education and training workshops for companies making the green transition. In helping their countries’ companies adhere to EU sustainability regulation they will secure with more certainty the growth of their economies.

Stakeholders such as public organisations, and academia can conduct research on the most efficient ways to adhere to EU regulation for businesses, promote sustainable consumption patterns and lobby for supportive government policies towards their companies.

The EU Green Deal, with its transformative agenda and robust regulatory frameworks, is significantly reshaping global economic dynamics. The Brussel’s effect, which is the extraterritorial effect of EU regulation, will have a global reach. While it presents a formidable challenge to Western Balkan companies, it also opens new opportunities for those ready to adapt. It is impossible to ignore EU regulation in favour of the rest of the world, as the EU are just frontrunners in the new sustainability age. ASEAN Taxonomy Version 2 for Southeast Asian Nations was released in March of 2023 whilst the SEC in America has also proposed widespread climate reporting to start in 2024.

This article is the second part of a two-part series, the first being about the Green Agenda. The Green Agenda is a set of initiatives developed by the European Union to align the Western Balkan countries with the EU’s own Green Deal. The Green Agenda is a similar roadmap to the Green Deal but for the countries of the Western Balkans, taking into account their unique socio-economic challenges, and was committed to by all Western Balkan countries at the Sofia Summit in November 2020. As the world’s clean energy sector continues to grow and sustainability measures are increasingly implemented, Western Balkan companies can secure their place in the regional and global economy by aligning with these evolving trends. Sustainability is no longer a choice but it is the future.

Author: Kai Brian Chen , Junior Associate of Sustineri Partners.