The EU’s new sustainability rules spell trouble for many businesses

Two components of the EU’s Green Deal — the EU Taxonomy and the Sustainable Finance Disclosure Regulation — now require companies and financial entities to conduct human rights due diligence for any good or service to qualify as “sustainable”.

It is a label that will prove increasingly important to customers, lenders and governments. Under the rules, an economic activity must comply with “minimum safeguards” based on UN and OECD human rights principles. Companies will have to ensure that their products or services neither result in nor are linked to harmful effects on people. The sustainable finance regulation, meanwhile, requires financial entities to identify and address any harmful impacts from investment decisions and advice, not only on the environment but now also on people.

In this new regulatory context, no matter how “green” a product may appear, issues such as the use of child labour in supply chains or the dislocation of indigenous communities will render them “unsustainable”.

Business and finance are neither focused on the new requirements nor ready to integrate them. An exercise conducted last year by the UN revealed surprisingly poor results as only two out of the 35 case studies used the relevant UN and OECD human rights principles to assess alignment with the taxonomy rules.

Yet an inability to address the human rights components will be costly. Companies will face legal and financial risks, and possibly sanctions for non-compliance. They will also face reputational risks if they wrongly label activities or products “sustainable”. Already we have begun to see the effects of ESG concerns on IPOs, intensified focus by investors on human rights risk management, and growing scrutiny of the human rights performance of financial institutions.

Companies and financial institutions need to enhance their capacities on human rights. They need — at a minimum — to develop the skills to conduct due diligence in this area on an ongoing basis; create the governance structures to determine accountability and day-to-day responsibility; and systematically integrate human rights risks in decision-making.

The gilets jaunes movement in France, whose protests against a government fuel tax increase that was meant to curb the use of fossil fuels nearly brought the country to a standstill, has demonstrated the perils of ignoring the social dimension of environmental measures. The Covid-19 pandemic has only further heightened awareness.

The Green Deal reflects this realisation. Yet business and finance must play their part by integrating respect for human rights throughout operations. Failure on this front will mean that sorely needed changes for people on the ground will not occur, and that efforts to ensure a just and inclusive transition to a green economy will be undermined. With that, we all lose.