Vanessa Calvache, Policy Advocate at ShareAction, calls for a more coordinated and ambitious approach to financial regulation of social factors.
The Chancellor’s recent Mansion House speech announced that future financial service regulation would reaffirm the UK’s position as the world leader in sustainable finance. However, there was no mention of social issues being considered in this plan or in the consultations that followed.
This was a significant omission. Covid-19 has shone a spotlight on the financial materiality of social sustainability factors and addressing social needs are key to a just transition. Investors, too, are increasingly looking to consider social issues as part of broader sustainability requirements. A recent survey showed that 67% of responsible investment professionals believe human rights will become as mainstream a consideration for investors as climate change.
We therefore make three recommendations for the UK to raise its game on its regulation of ‘S’ issues.
Cross-sector, joined-up approach
Financial institutions need consistent and reliable regulation from government and regulators that will help them fulfil their obligations regarding social issues. However, this remains elusive.
The Department for Work and Pensions (DWP) consultation on social issues acknowledges that “many pension scheme trustees’ policies in relation to social factors are high level and unilluminating”, raising concerns “that trustees are ill-equipped to deal with financially material social factors in their investments”. Regulators including the Financial Conduct Authority (FCA), Prudential Regulation Authority (PRA), and Bank of England are working together to improve diversity and inclusion in firms, focusing on strengthening the link between social performance and corporate governance. This is a positive step forward in a joined-up approach.
But the Government’s rejection of the recommendations from the Business, Energy & Industrial Strategy (BEIS) select committee to tackle forced labour in supply chains shows it is not yet prepared to ensure investors have the disclosures they need to ensure their investment choices align with sustainability goals. The Chancellor’s speech demonstrated that the Treasury is unaware of the scale of action required.
At the very least, it is imperative that the outcomes from BEIS’ audit consultation are consistent with regulators’ proposals on diversity, to ensure social factors in corporate governance are addressed in the same way.
Matching EU ambition
The UK must step up in providing a similar level of consistency and clarity to that which the EU is pursuing on social factors.
Both the bloc’s Sustainable Finance Disclosure Regulation (SFDR) and Corporate Sustainability Reporting Directive (CSRD) aim to give financial institutions clarity on how social risks and impacts should be accounted for and reported on. Forthcoming initiatives, such as the Social Taxonomy and Sustainable Corporate Governance will further embed a social focus in corporate and financial reporting.
Even in the US, where social factors have typically received less attention, workforce practices are taking a frontline focus. The US Securities and Exchange Commission’s (SEC) proposals to mandate companies’ disclosure of diversity, pay levels and staff contract types demonstrates a clear direction towards social accountability as a key determinant of corporate success.
A similar ambition for the regulation of ‘S’ issues in the UK could result in more harmonised global standards on sustainability disclosures for social factors. This regulatory alignment will be particularly important for large UK firms which export into the EU.
The UK Government has introduced elements of environmental double materiality in its upcoming Sustainability Disclosure regime. The green gilt framework likewise requires reporting on the social impacts of the projects it funds.
This is welcome, but it should be extended so that financial institutions consistently report on how their investments contribute to adverse social impacts. This would send a strong signal that the finance sector cannot continue to disregard the impacts its investments have on workers and communities and that it must account for negative externalities.
Doing so will require a reformulation of fiduciary duty requirements, in which beneficiaries’ ‘best interests’ are not solely defined by financial returns. Rather, those interests should explicitly include the right to live in a healthy, stable society, which means investors must consider how financial decisions could address and mitigate social issues.
A more sustainable finance sector will not happen in a vacuum. It will be led by people, depend on people and impact people. If the UK’s financial sector is to be a global leader on sustainable finance, it cannot afford to separate the social element from its efforts to transition to a net-zero society.