Since 2018, EU policymakers have gradually recognised the crucial role of the finance sector in supporting sustainable economic activities. The European Commission’s Sustainable Finance agenda is a set of measures that ensures environmental, social and governance (often referred to as ‘ESG’) considerations are taken into account when investment decisions are made by the financial sector.
However, the spotlight has largely been taken by environmental factors, leaving social considerations like fair wages and gender equality in the shadows. This stems from both a lack of clarity on the role of social factors in investment decision-making and the challenges in measuring and comparing social impacts. As a result, the current framework is weak, underdeveloped, and overly focused on basic needs, leaving the "S" in ESG finance gasping for air.
Growing urgency and public awareness
The Covid-19 pandemic and the cost-of-living crisis have shed even more light on the need to prioritise social issues alongside environmental and economic objectives. Whilst critical, green policies alone just won't cut it. Effective measures require tangible actions to ensure everyone benefits from Europe's shift to a more sustainable economy.
Social factors significantly impact the economy. Investing in social sustainability helps address inequality, poor working conditions, and inadequate social protection. It bolsters the impact of economic activities by promoting decent work - enhancing access to quality healthcare, education, and housing by increasing financial flows in these areas for inclusive growth. Finally, socially sustainable investments respond to the growing demand from the public sector, corporations, and society at large - providing further incentives for investors.
Despite growing awareness and quantity, a lack of clarity on defining social investments persists. Our Point of No Returns report found that most investors fail to comprehensively protect human rights, due to weak policies and inadequate approaches.
The need for bolder action
Whilst the European Commission initially set out to mainstream social factors in the Sustainable Finance agenda, progress has stalled.
The EU Social Taxonomy provides a beacon of hope - a 'proposed EU regulation that would aim to set out a list of socially sustainable activities'. However, despite extensive preparatory work done by the Platform on Sustainable Finance, the European Commission has decided to delay adopting this taxonomy with no specific date. In response to this, we joined 12 other organisations in June 2023 in signing an open letter to urge the European Commission to deliver on its promises. Meanwhile, member states like France and Germany have started to develop their own proposals to revive and steer the debate at European level.
Some provisions do show an increasing focus on social issues within the EU financial sector:
- Currently, the Sustainable Finance Disclosure Regulation (SFDR) and the Corporate Sustainability Reporting Directive (CSRD) respectively ask financial market participants and banks, insurers and companies to report on a range of social and human rights issues.
- SFDR also introduced new concepts like "principle adverse impacts" to indicate any negative impact on sustainability and social factors from economic or financial activities, such as precarious working conditions.
- Similarly, the Social Taxonomy sets Minimum Safeguards to make sure provisions addressing climate and environmental concerns don't worsen existing social problems. These safeguards also bring in compliance with the UN Guiding Principles on Business and Human Rights to identify which investments are sustainable.
- The Solvency II Delegated Regulation requires insurers to consider social risks alongside environmental ones in managing their business.
- Finally, the soon-to-be-adopted Corporate Sustainability Due Diligence Directive (CSDDD) will make financial entities verify social conditions in their own operations, with checks on their clients’ activities following in a few years, after an evaluation assessment.
Whilst these provide a good basis for considering the “S”, the time has come to bridge existing gaps and elevate social factors in investment decisions. The inclusion of social factors in sustainable finance is the linchpin for success, benefitting consumers, workers, and communities, ensuring a just economic transition.
Call to fortify the framework
To strengthen the framework for considering social factors in investment decision-making, the next European Commission should:
- Develop a Social Taxonomy as planned, aligning with the 2030 targets set at both the European and global levels (UN Sustainable Development Goals).
- Clarify how to interpret the Minimum Safeguards on social issues, already included in environmental taxonomy, to ensure they are effective.
- Encourage policymakers to ensure that different laws use the same language. This involves improving indicators and information about the negative impacts of the Sustainable Finance Disclosure Regulation, as we recommended in our recent consultation response. Also, align the SFDR's concepts as much as possible with those in the CSDDD.
Creating a robust framework for considering social factors in investment decision-making not only benefits various stakeholders but also strengthens the foundation for EU green financial and industrial policy - making it work for people and the planet. This, in turn, contributes to enhanced economic and social resilience. As we navigate the path towards sustainability, we must add "S" factors to the priority list, ensuring a balanced and inclusive approach for a better future.