Members of HLEG share their thoughts on key topics under discussion.
This article is one in a series of thought leadership pieces written for Responsible Investor by members of the European Commission’s High Level Expert Group on Sustainable Finance. To see other HLEG coverage, see here, or to comment, visit our discussion page.
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One of HLEG’s early recommendations (number five) was to require the EU to develop and undertake a sustainability test of its policies and regulations. More concretely, it wants the European Commission to subject its EU legislative proposals for financial services to a sustainability impact assessment describing the environmental, social and governance (ESG) impacts. The goal of the impact assessment is to include sustainability at the beginning of the EU regulatory chain. Given the long-ignored link between the financial sector and climate, as well as other environmental and social impacts, well-researched impact analysis will better clarify how legislation and regulation is stimulating EU finance to be supportive of environmental and social sustainability – especially where this is prevented by current market dynamics and market failures.
What could be the tools for providing insight on how EU financial legislation affects social and environmental sustainability, let alone promoting it?
Well-researched impact analysis will better clarify how legislation and regulation is stimulating EU finance to be supportive of environmental and social sustainability
Note that the Commission has the sole mandate to initiate and review EU financial legislation (Directives or Regulations) and present it for further decision-making to the European Parliament and the European Council of Finance Ministers (ECOFIN). When presenting such legislation, it has the obligation to publish the related impact assessment report. These reports have long had a social and environmental impact subchapter. The problem is that the Commission stated in these sub-chapters – mostly in one or two sentences – that there were no such impacts of financial legislative proposals, even if the financial crisis had shown serious social and economic impacts which had prompted the new financial laws. Since 2015, the Commission’s Better Regulation methodology has been accompanied by a useful Better Regulation Toolbox.
Some tools are clear indicators for assessing social and environmental impacts of potential legislation, such as:
• Tool #28 -Fundamental rights & human rights
• Tool #29 -Employment, working conditions, income distribution, social protection & inclusion
• Tool #32 -Consumers
• Tool #33 -Territorial impacts
• Tool #34 -Developing countries
• Tool #35 – Resource efficiency
Nevertheless, after 2015, the impact assessments of the financial legislation have continued to ignore these tools, and have lacked of a serious methodology to understand these social and environmental impacts. So far, the different consultation procedures have not been able to improve the impact reports. The development of the methodology for social and environmental impact assessment of finance will need new research and an analytical framework that goes beyond the traditional evaluations. Such an approach was also needed when DG Trade initiated Sustainable Impact Assessments (SIAs) for future trade agreements, which were a change from traditional impact assessments that had a business, economic and legal perspective.
The SIAs explored how environmental impacts should distinguish between, amongst others, climate change, biodiversity, natural resources, water and pollution. This analysis could be applied to financial legislation: for instance, that which facilitates more lending or investment, like the recent EU law on securitization, and the new legislative proposal on personal pension funds (PEPPs). Such new legislation might result in more indirect investments in companies and projects operating in fossil fuels, mining and processing of natural resources, agriculture, and consumer goods, etc.; or in renewables, recycling and innovative sustainable products. The way the EU law includes ESG aspects will play a role in investment choices.
The social aspect includes impacts on employment and income among different groups, as well as labour rights and human rights, inclusion and discrimination. For instance, proposals for private pension funds may provide direct income for the asset class management sector, but pensioners’ future income will depend on the vagaries of interest rates and financial markets – even if the pension funds are well managed. Civil society organisations from around the world have illustrated with many case studies how financiers (banks, investors) contribute or facilitate companies, projects and activities that harm human rights (unhealthy work, land grabbing) and the environment (exacerbating climate change through fossil fuel industries or deforestation).
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