In recent years, increasing attention has been paid to the importance of sustainability. Sustainability is a broad concept, covering not only the climate or the use of raw materials, but also, for example, working conditions and diversity within an organisation. Collectively, the various aspects of sustainability are often referred to as ‘ESG factors’.
What does ESG mean?
ESG stands for Environmental, Social and Governance. Environmental includes, for instance, climate change, the use of fossil fuels, air pollution and deforestation. For Social, you can think of child labour, humanitarian crises and modern slavery. Governance includes board diversity, corruption, and responsible remuneration policies.
Why is ESG relevant to the financial sector?
There are two main reasons. First, the financial sector is expected to do its bit to make our society more sustainable. Pressure from politicians, investors and society has increased significantly in recent years. Moreover, this has translated into the development of a lot of new (draft) ESG laws and regulations.
Secondly, ESG factors can create significant risks for financial institutions and their clients. For instance, climate change could eventually threaten the value of investments in carbon-intensive sectors. In short: the question is not so much whether a financial institution should take account of people and society, but rather how it can and will shape this.
Taking ESG factors into account’ can affect various aspects of your operations. Consider, for instance, investment policy, the acceptance of (potential) clients, risk management or the provision of information to clients.
What’s in the EU Action Plan for Financing Sustainable Growth?
Following a report by the Expert Group on Sustainable Finance, the European Commission has drawn up an EU Action Plan for Financing Sustainable Growth. With the measures in the plan, the Commission aims to contribute to making the financial system more sustainable.
In its plan, the Commission proposes several measures:
- An EU regulation for a classification system/taxonomy for sustainable investments;
- An EU regulation for sustainability disclosures by financial firms;
- Amendments to the delegated regulations to the IDD, MiFID II, AIFMD and UCITS Directives to integrate ESG factors into these regulations;
The introduction of low-carbon benchmarks and positive carbon impact benchmarks.
These measures are relevant to almost every financial company, whether you are an adviser, investment firm, investment fund manager, pension fund or insurer. It does not matter whether you are currently engaged in sustainability or not: the rules apply to everyone, regardless of your (or your clients’) view of sustainability.
Moreover, the impact of the measures on companies is significant. To comply with the new rules, companies are likely to have to make adjustments to policies, processes and information documents, for example. For instance, the new standards may mean changes to investment policies, remuneration policies, due diligence procedures, companies’ websites and so on.
The exact content and implications of the plan are explained in detail in our compliance application Ruler. With Ruler, you have both insight into and an overview of the current (and future) changes around ESG. We have also published several news items on their content.
What laws and regulations are there about ESG for financial institutions?
Unfortunately, the regulatory landscape is anything but clear. Rules are designed at both supra-national, European and national levels. In addition, legal rules, regulators’ views and self-regulation often co-exist. Rules can also vary from one sector to another.
Nevertheless, we can currently state that the most important legal rules are the following:
- The Sustainability Disclosure Regulation (also known as the Sustainable Finance Disclosure Regulation, the SFDR); and
- The Taxonomy Regulation.
As indicated in the previous question, these rules are relevant to all types of financial firms. Thus, the rules are not sector-specific. In addition, the rules apply even if you are currently not concerned with sustainability at all.
Of course, Projective Group would be happy to help you understand the standards that apply specifically to your organisation.
Should I consider ESG when determining the suitability of a product for a client?
If your company is an investment firm or insurance distributor, the answer to this will soon be ” yes”. This is because the EU has proposed to amend the delegated acts to MiFID II and the IDD so that clients’ ESG wishes must be asked/informed and taken into account in the provision of services. For more specific information on this, please contact us, or see Ruler’s Radar.
ESG and the Paris Climate Accord
The Paris Climate Accord was signed by 174 countries – including the Netherlands – on 22 April 2016. The Accord then entered into force on 4 November 2016.
In the agreement, countries committed to the goal of limiting the increase in global temperature to 1.5 (target) or 2 (maximum) degrees Celsius compared to pre-industrial levels. To achieve this, greenhouse gas emissions will have to be sharply reduced. The use of fossil fuels will also have to end in the short term, as this is a major cause of excessive CO2 emissions.
This will not happen by itself. Therefore, the convention requires countries to draw up national climate plans (Nationally Determined Contributions). In the Netherlands, this is being worked on in the form of the Dutch National Climate Agreement.
What are the United Nations Sustainable Development Goals?
The United Nations established the Sustainable Development Goals (SDGs, or Sustainable Development Goals) in August 2015. These are 17 goals (and 169 sub-goals), which include poverty, health, education, sustainable energy and climate change. The aim is to achieve all these goals by 2030. It is up to the UN member states to decide how to implement them.
Want to know more?
Would you like to know more about ESG and the risks and opportunities ESG offers financial institutions? Then follow the ESG Awareness e-learning through our training institute The Ministry of Compliance.