Why EU member states fell short on holding the financial sector to account for its role in human rights and environmental abuses
Blog post by Richard Gardiner, EU Public Policy Lead, World Benchmarking Alliance
On the first of December, EU economic ministers met to discuss the position of the European Council on the proposed EU Corporate Sustainability Due Diligence directive (CSDDD). This law seeks to create a legal obligation for large companies across all sectors, including banks, asset managers, and insurers, to address their human rights and climate impacts throughout their value chains.
How did this come about? The origin of this law comes from the European Commission who recognised that voluntary pledges have not been sufficient for companies operating in the EU to align to the Paris Agreement and achieve the Sustainable Development Goals. Therefore, in order to achieve system-level change, they put forward a draft proposal to the European Council and Parliament for their consideration and ultimate agreement. Currently, the Council is frontrunning the Parliament in forming its views and during their December meeting, EU Member States agreed on some principles of how to amend this law.
What did the Council agree on? While the final agreement covers a range of issues throughout the law, one of the thorniest topics was whether or not the financial sector should be held to the same standard as other sectors. This debate among Member States led to a final agreement that while the text recognizes and defines a range of financial institutions, the decision on whether to apply this directive to finance will not be automatic, but rather rests with each Member State. This decision would be made when States transpose the EU law into their national statutes. Furthermore, even if this law is applied to finance the obligation to conduct meaningful due diligence is limited to banks and insurers. Very worryingly while some asset and fund managers would technically be in scope, they would only need to conduct “upstream” due diligence, e.g. ensure the paper they source for their photocopier is free from harm, BUT they will not need to conduct any “downstream” due diligence on the risks linked to the companies they directly finance.
How does the financial sector view this law? In short, opinions among banks and asset managers are split on whether this law should even apply to their business. Despite the public commitment of certain investors to support this law, it has been met with fierce opposition from some large asset managers, as well as multinational banks. These split views manifested themselves in the Council discussions where a majority of Member States led by the Netherlands and Denmark advocated for all of finance to be included, against a sizeable minority of France, Spain, and Italy who called for complete exclusion.
Do the arguments to exclude finance hold up? The financial sector, and in particular large asset managers, have claimed that they are already subject to stringent EU laws regarding how they integrate external risks into their portfolios. Coupled with this they state they have a fiduciary duty to put the needs of their clients first, ahead of any ESG considerations. Unfortunately, these arguments blur the role of finance in funding a sustainable economy and do not take into account the range of progressive views in the sector. It is important to note that while fund managers have a “fiduciary duty,” this duty does not simply translate as “ensuring returns to clients at all costs.” In fact, the PRI has outlined how fiduciary duty should be aligned to integrating and mitigating adverse human rights and environmental impacts. Regarding existing rules for the financial sector, these focus predominantly on greater reporting and disclosures but do not mandate behavioral change – and this is where CSDDD can be a real game changer for the sector.
What next for the financial sector in CSDDD? This debate now moves to the European Parliament process where the role of the financial sector is also a hot topic. What the World Benchmarking Alliance data shows is that the financial sector is falling behind not only on achieving net zero, but also on tackling its human rights impacts. To achieve system-level change, it would be paramount that the financial sector actively engages with EU policy makers to emphasize its support that investment and financing activity be included in the new law. This is vital to ensure a minimum set of standards for the industry, in line with established international standards, such as OECD Guidelines and the UN Guiding Principles on Business and Human Rights, which ensure fair competition by holding the financial sector to account in how it funds sustainable business.