Despite earlier efforts, EU proposals for a social taxonomy appear moribund. But countries such as Georgia and Mexico have launched taxonomies that include social factors, while French and other investors are considering their next move
In July 2020, the EU formally adopted its green taxonomy, which defines “green” and “sustainable” economic activities that take place in the bloc, with the aim of channelling investment towards the climate transition.
Admittedly it faced challenges, such as opposition in July 2022 to the inclusion of gas and nuclear activities from the taxonomy. And while it succeeded, Austria has since launched a lawsuit against the European Commission for the decision. Still, the taxonomy has been in place for three years, and was recently augmented by new criteria covering biodiversity, pollution control and the protection of water resources.
In contrast, however, the EU’s attempts to create a social taxonomy appears to have run aground.
In 2021, the Platform on Sustainable Finance – an advisory body that developed the EU green taxonomy – published a report that considered how to identify activities that either substantially contributed or significantly harmed social objectives, emulating the philosophy behind the green taxonomy.
A final report in February 2022 proposed a social taxonomy based on international standards, such as the International Bill of Human Rights. Yet the European Commission has published no further details since then.
“The current proposal lacks detail on implementation and true impact,” according to Alexandra Mihailescu Cichon, chief commercial officer at ESG data company RepRisk. “The likelihood of social taxonomies arriving in the short term is low due to the EU’s postponement; however, it remains high on the agenda for investors.”
Other countries, meanwhile, have picked up the baton. Georgia’s sustainable finance taxonomy includes a social element which sets criteria for the infrastructure, health, financial services, food and education sectors. Mexico’s taxonomy includes both environmental and social objectives, while Kazakhstan is discussing its own social taxonomy.
Investors in France are also considering a social taxonomy, suggesting that it may take governments as well as the investment community to inject momentum into the concept. Not everyone believes it will happen soon, however.
“Despite trying for a few good thousand years, philosophers have not reached agreement on defining what is socially good,” says Fulcrum Asset Management head of sustainability Iancu Daramus. “Will policymakers be more successful in an electoral cycle or two?”
Busy with current regulations
Companies and investors are already digesting swathes of European sustainability regulations. “With the volume and pace of legislation we’ve seen, concerns exist as to the clarity of how new standards and obligations will be applied, interpreted and enforced,” says Shami Nissan, head of sustainability at infrastructure investor Actis. “Policymakers may therefore seek to pause work on social taxonomies while organisations get to grips with these new demands.”
Building a social taxonomy across borders also presents challenges. “It is difficult to develop technical screening criteria for a social taxonomy that would work across different jurisdictions and geographies,” Nissan says. “Social impacts, whether negative or positive, are highly localised – so even at nation-level, there is inherent complexity.”
The Platform on Sustainable Finance acknowledged in its final report that a social taxonomy would not be able to copy its green counterpart’s science-based approach. Daramus at Fulcrum, meanwhile, says there is a key difference between taxonomies and how investors allocate capital.
“The challenge with all taxonomies is that they tend to focus in prescriptive detail on activities, while investors invest in companies, with data providers often eager to plug the gap between the two with costly, and often unreliable estimations,” he says.
“Yet whereas ‘green’ taxonomies have at least some link to objectively definable and measurable outputs – carbon, water, waste – social taxonomies operate in irrevocably subjective territory,” he adds.
Luba Nikulina, chief strategy officer at asset manager IFM Investors, suggests “an overarching framework that is applicable globally” – similar to the Taskforce on Climate-Related Disclosures – should help investors and companies improve their understanding of social factors.
“The case for developing more granular approaches by [individual] nations across multiple jurisdictions is more legitimate for social factors than many other financially material metrics,” Nikulina adds.
Investor interest persists
A consensus over Europe’s social taxonomy is not expected before the next EU elections in 2024 – but investors are still interested in the concept.
“As a ‘quant’ manager, it is crucial for us to have comparable sets of information, in order to remove as much bias and judgment as possible,” says Ayaaz Allymun, co-head of sustainability at asset manager Tobam, which relies on mathematical models to select investments.
Meanwhile, French investor associations have set up a social taxonomy working group, which is “aiming to [release a proposal] next summer”, says Grégoire Cousté, executive chair of the Forum pour L’Investissement Responsable.
Cousté’s association has partnered with France Invest, which represents investors in private assets, and social impact group FAIR. “First [we want to] define some criteria, some indicators on social issues in general where there’s a lack of information,” Cousté says.
“Based on that, we thought that it could be interesting to work on the basis of what has been done at European level. Not to replicate, of course, what the [Platform on Sustainable Finance] has done in the past, but to take the best out of their experience.” The group has received interest from Germany, Spain and the Netherlands, he says.
Antje Schneeweiß, managing director at German church investor group Arbeitskreis Kirchlicher Investoren, tells Sustainable Views that, at AKI, “we are supporting a social taxonomy”.
“We will publish a statement in favour of a social taxonomy [in October] which is supported by major European organisations,” she adds. Schneeweiß was rapporteur of the Platform on Sustainable Finance’s Subgroup 4, whose work included assessing the relationship between the social and environmental taxonomies.
Academics are also developing an alternative European social taxonomy. A report published in May by French university Sciences-Po and consultancy Defis Impact (which operates under the umbrella of the University Sorbonne Paris Nord) found support among the investment community for a taxonomy.
German asset manager ESG Portfolio Management told the report’s authors that a social taxonomy “is a necessary and long overdue initiative”, while La Banque Postale Asset Management said that “without a social taxonomy there is a high risk of social washing”.
One analyst at a large investment firm, who spoke on condition of anonymity, tells Sustainable Views that they were disappointed to see the EU’s work on the social taxonomy come to an end. “It’s interesting to see European investors pick the work up but I think we’d like to see a more inclusive forum established. I’ve heard that French investors are only having debates with French investors, and only in French,” the analyst says.
“The social taxonomy is important for investors developing financial products in the social space. Without a clear and credible taxonomy in place we risk the social agenda being left, and environmentally sustainable activities potentially undermining social objectives.”
Sophie Flak, managing partner for ESG at asset manager Eurazeo, opposes the idea of a cumbersome social taxonomy carrying an excessive amount of key performance indicators. “We do not need 100 KPIs. We do need a few sets of KPIs with harmonised ways of calculating them,” she says.
“If we want to drive the ecological transition, we must embed social fairness. Otherwise, it’s going to be a disaster for our societies,” she adds.
At EU level, no decision has been taken on the social taxonomy yet, says a European Commission spokesperson, who adds that “the commission is pursuing policy initiatives aimed at promoting investments with a positive social impact within the broader legislative framework on sustainable finance”.