I Introduction
This article considers how private investment through the global financial markets can support sustainable development in a manner that comports with human rights. The United Nations’ Sustainable Development Goals (SDGs) represent the most ambitious and wide-ranging effort to fulfil human rights in international development.Footnote 1 Underlying the SDGs are rights to food, health, education, gender equality, clean water and sanitation, and decent work protected under international human rights law.Footnote 2 Despite the vagueness of their express commitments,Footnote 3 the formulation and implementation of the SDGs make clear their grounding in human rights.Footnote 4
Consistent with the United Nations Guiding Principles on Business and Human Rights (Guiding Principles),Footnote 5 the SDGs embrace the positive role of private business activity to achieve sustainable development.Footnote 6 Arguably most important among business actors is the financial sector. The financial resources required to meet the 17 SDGs and their 169 associated targets are enormous, amounting to approximately US$5 trillion to US$7 trillion in global investment annually.Footnote 7 This is particularly daunting for developing countries, which face an annual funding gap of US$2.5 trillion.Footnote 8 Without a great leap in private sector finance, the ‘SDG investment gap’ is insurmountable.Footnote 9 New financing strategies and instruments are crucial to bridge this gap.Footnote 10
In particular, institutional investors, such as pension funds, mutual funds and insurers – which collectively hold US$85 trillion in assets worldwide – are key actors.Footnote 11 Impact investing focuses on opportunities to generate positive social and environmental impacts in addition to financial returns through capital investments.Footnote 12 Institutional investors increasingly seek to invest in companies, organizations, funds and projects based on this objective, including those aligned with the SDGs.Footnote 13 However, impact investing is vulnerable to instances or suspicions of ‘whitewashing’ – i.e., profit- or brand-enhancing rhetoric despite neutral or even negative performance enabled by unenforced shirking of declared social commitments.Footnote 14
Amidst these challenges, this article focuses on social bonds, a new and emerging form of impact investing.Footnote 15 Social bonds are bonds whose proceeds are used to finance projects with a defined social impact.Footnote 16 Their social impact is established through mitigation of a negative social impact and/or achievement of a positive social outcome such as housing, employment generation, food security, health and education.Footnote 17 While the social bond market currently constitutes a very small portion of the global capital markets, totalling less than US$16 billion in total issuances,Footnote 18 it is poised to substantially expand as banks and corporations join government agencies and multilateral institutions as issuers of social bonds.Footnote 19
There is a growing literature on the intersection of banking and human rights in the context of the Guiding Principles and other human rights frameworks.Footnote 20 However, the impact of human rights in the financial sector extends far beyond the activities of global financial institutions. Building on these observations and arguments, this article extends and applies them to address the human rights challenges posed by the complex, heterogeneous and fragmented global capital markets.Footnote 21 The social bond market, in its current form, reveals the problem of equating the achievement of positive social outcomes with the protection of universal human rights.Footnote 22 Current regulatory standards and industry practices fail to adequately account for the human rights implications of social bond-financed projects. As a result, social bonds do not ensure respect for human rights as set forth in the Guiding Principles and the SDGs.
This article proceeds as follows. Part II describes the growing role of the private capital markets in financing sustainable development, taking note of the human rights implications of this phenomenon. Part III analyses the emergence and growth of the social bond market and shows how social bonds align with the SDGs. Part IV proposes a conceptual framework for evaluating human rights considerations in impact investing and applies this framework to the social bond market. Part V proposes reforms to current governance standards and practices in order to address their human rights shortcomings.
II From Sustainable Development to Sustainable Finance
A Sustainable Development, Human Rights and Finance
Famously articulated by the Brundtland Commission in 1987, the over-arching goal of sustainable development is ‘to ensure that [humanity] meets the needs of the present without compromising the ability of future generations to meet their own needs’.Footnote 23 Sustainable development embraces the inter-related goals of achieving durable and equitable economic growth, preserving the natural environment, and maximizing social welfare.Footnote 24 Business-oriented frameworks such as the ‘Triple Bottom Line’ apply sustainable development to the strategic decision-making and operational processes of firms.Footnote 25
Prior to the SDGs, the Millennium Development Goals (MDGs) constituted the most significant global initiative on sustainable development.Footnote 26 The MDGs included few definitive references to international human rights law, aside from exhortatory and non-binding language concerning human rights in the name of democracy and good governance.Footnote 27 Furthermore, the international human rights system did not engage with the MDGs.Footnote 28 This resulted in numerous conflicts and gaps between specific goals of the MDGs and international human rights law.Footnote 29 This disjuncture mirrors the struggle to incorporate human rights-based approaches into international economic development practice.Footnote 30
In contrast, various United Nations (UN) human rights organs, such as the Office of the United Nations High Commissioner for Human Rights (OHCHR), have engaged and contributed to the formulation and implementation of the SDGs.Footnote 31 All 17 goals are undergirded by specific human rights derived from UN and International Labour Organization (ILO) instruments.Footnote 32
Of particular note, the SDGs acknowledge the importance of identifying and leveraging private sources of financial capital to achieve the SDGs. Goal 17.3 provides for the mobilization of financial resources from multiple sources.Footnote 33 Furthermore, Goal 17.17 calls on countries to encourage and promote multi-stakeholder partnerships, without making explicit references to finance.Footnote 34 However, the SDGs do not expressly circumscribe or mandate the conduct of private parties in their capacity as sources of financial capital.Footnote 35 The growing role and impact of the private sector in relation to traditionally public functions has been an increasingly vexing challenge in human rights.Footnote 36 Under the Guiding Principles, a state continues to have an obligation to protect human rights even if the private actor is providing the public service.Footnote 37 When the public service is essential to the fulfilment of a human right, the International Covenant on Economic, Social and Cultural Rights (ICESCR) stipulates that private providers be subject to ‘public service obligations’ that are universal, continuous, affordable, and of a certain quality.Footnote 38
B Sustainable Finance and Impact Investing
The concept of sustainable finance seeks to align the goals of sustainable development and the incentives of actors in the global financial system.Footnote 39 A key component of sustainable finance is the rapidly growing awareness of pension funds, mutual funds, insurers and other institutional investors in sustainability and the SDGs.Footnote 40 Socially responsible investing has entered the mainstream,Footnote 41 and the language of sustainable development has become a tool to express social objectives and impact in the global financial markets.Footnote 42
As a general matter, the commitment of institutional investors to human rights hinges on their potential financial impact on a given investment.Footnote 43 They make investment decisions based on risk-return considerations, which include environmental, social and governance (ESG) issues.Footnote 44 On the risk side, ESG risk encompasses a range of poor environmental, social and governance practices by companies that pose firm-specific operational risks, heighten market risk, or constitute systemic risks to the global financial system.Footnote 45 Investors are increasingly aware of operational, reputational and legal risks associated with human rights and the positive correlation between a company’s social performance and its operational performance.Footnote 46 On the return side, socially responsible investing provides opportunities to improve financial returns (particularly over long time horizons) and meet growing client and employee demands for positive social impacts.Footnote 47
The most prevalent means by which investors seek to address environmental and social objectives, such as human rights, is by ‘screening out’ investments in companies that fail to meet pre-defined standards.Footnote 48 To achieve the SDGs, institutional investors will need to look beyond ESG screening.Footnote 49 Impact investing represents the future of sustainable finance.Footnote 50 In contrast to negative ESG screening, impact investing involves the active, intentional selection of investments in companies, organizations, projects or funds for the purpose of creating a positive social or environmental impact.Footnote 51 In the past few years, institutional investors and other large financial firms have increasingly entered this market.Footnote 52 Examples of impact investing include social impact bonds and quasi-equity debt investments in social enterprises.Footnote 53 However, the growth of impact investing as a means of achieving the SDGs is hindered by the paucity of scalable financial products.Footnote 54 As a growing number of investors seek opportunities to generate social impact, there are not enough investment opportunities that meet their risk-return expectations, thereby limiting access to the enormous pools of capital managed by institutional investors.Footnote 55 Accordingly, innovation is necessary to create new financial instruments and strategies that appeal to institutional investors while addressing the needs of sustainable development.Footnote 56
III Social Bonds as an Impact Investing and Sustainable Development Strategy
The social bond is an example of financial innovation in impact investing. The following discussion examines the legal, financial and operational characteristics of social bonds and their relationship to the principles of sustainable development.
A Socially Themed Bonds: Social Bonds and Sustainability Bonds
Bonds are debt securities with which an issuer borrows money from investors in exchange for periodic payments of interest and repayment in full of the loan.Footnote 57 A social bond is a type of bond that raises capital to finance projects with one or more social objectives.Footnote 58 Social bonds are an offshoot of the larger and better established market for green bonds, which are dedicated to financing low-carbon, climate-resilient ‘green’ projects.Footnote 59 Green bonds have risen to prominence as the risks of climate change and the investment needs of the Paris Agreement have garnered growing attention in the global capital markets.Footnote 60 Sustainability bonds, a hybrid of social and green bonds, support both social and green projects or projects that expressly address both social and environmental objectives.Footnote 61
Social bonds are defined by their use of proceeds. The defining characteristic of a social bond vis-à-vis a standard (or ‘plain vanilla’) bond is earmarking. Investors support a social project by purchasing a social bond whose proceeds are allocated (i.e., earmarked) to finance a social project set forth in the terms and conditions of the bond.Footnote 62 This provides assurance to investors that the issuer will not use the funds for some other non-social purpose.
Social bonds are notable for their flexibility, simplicity and adaptability. The Social Bond Principles (SBPs), the leading investor-based standard in the social bond market, defines social bonds as ‘any type of bond instrument where the proceeds will be exclusively applied to finance or re-finance in part or in full new and/or existing eligible Social Projects’.Footnote 63 Projects may be dedicated to improving, building and/or promoting utilities (e.g., electricity, gas, water), affordable housing, employment generation, food security, and socio-economic advancement and empowerment (e.g., health, education).Footnote 64 Affordable housing and support for small and medium size enterprises (SMEs) have been the most frequent recipients of social bond proceeds.Footnote 65 The social objective of a project must be for the benefit of a specific population, such as people living below the poverty line, excluded and/or marginalized populations, vulnerable groups, migrants and displaced persons, and under-educated and unemployed individuals.Footnote 66 Any social objective that meets these broad criteria and is set forth in the use of proceeds of the social bond contract is permissible. The issuer has the discretion to determine what constitutes a successful outcome.
The structure of social bonds is simple.Footnote 67 The fact that a social bond resembles a regular bond is an intrinsic part of its appeal to institutional investors.Footnote 68 Investors are repaid in the same way as a corporate, municipal, sovereign or other plain vanilla bond. On the flip side, the investment downside of a given social bond is capped.Footnote 69 As investors are only exposed to the credit risk of the issuer, they are not exposed to the risks of a given project beyond the money paid to purchase the social bond.Footnote 70 In the event that the issuer is unable to make interest payments or repay the principal on the bond, investors have direct recourse to the issuer.Footnote 71
An issuer of a social bond may be a financial institution (such as a private commercial bank, a state-owned bank, or a multilateral development bank), a company, a non-profit organization, or a governmental entity. The prototype of the social bond market was created by the International Finance Facility for Immunisation (IFFIm), a partnership of ten donor countries.Footnote 72 Starting in 2006, IFFIm has sought to leverage its donor pledges and its donor countries’ strong credit ratings by issuing bonds.Footnote 73 To date, social bond issuers have been predominantly public financial institutions with express development and/or social mandates.Footnote 74 Early entrants in the social bond market include the Inter-American Development Bank’s Education, Youth and Employment (EYE) Bond Program,Footnote 75 the International Finance Corporation (IFC)’s Social Bond Program (consisting of its Banking on Women Bond and Inclusive Business Bond sub-programs),Footnote 76 the Instituto de Crédito Oficial (ICO)’s Social Bond Program,Footnote 77 and Dutch Development Bank FMO’s Sustainability Bond Program.Footnote 78
In the past two years, private banks and companies have begun issuing social bonds, signalling a fundamental shift in this market. Among the most notable issuers are Starbucks,Footnote 79 DanoneFootnote 80 and various commercial banks such as Lloyds Bank, the largest retail bank in the United Kingdom.Footnote 81 Social bonds are potentially attractive to private banks and companies in part due to their branding value. As institutional investors show greater interest in social responsibility, social bonds enable companies to signal their commitment to sustainability.Footnote 82 In doing so, companies can attract new investors to their borrowing programmes and diversify their sources of capital.Footnote 83
B Social Bonds and Sustainable Development
Social bonds address the principles of sustainable development both explicitly and implicitly. In explicit terms, social bonds are marketed to investors as a means to specifically contribute to the fulfilment of the SDGs.Footnote 84 A pioneering social bond issued by the World Bank in 2017 uses the SDGs as the basis for determining both the financial and social return to investors.Footnote 85 This social bond links returns to the stock performance of a basket of companies in the Solactive Sustainable Development Goals World Index.Footnote 86 In turn, as part of its ‘SDGs Everyone’ initiative, the World Bank commits to use the proceeds to support the financing of projects aligned with the SDGs.Footnote 87
Implicit references to the SDGs abound in the social bond market. Numerous social bonds focus on providing opportunities for human capital development. A pioneering social bond issued by the ICO is used to provide affordable financing to small, medium and micro-enterprises.Footnote 88 Loans are targeted towards employment creation and retention in pre-specified economically under-performing regions of Spain.Footnote 89 This aligns with SDG 8, Decent Work and Economic Growth, and its emphasis on inclusive economic growth and full and productive employment.Footnote 90 Also consistent with SDG 8 is Starbucks’ sustainability bond, which provides direct support to farmers participating in the company’s sustainable sourcing programmes.Footnote 91 Another focus area is infrastructure investment, often integrated into sustainability bonds that finance both social and environmental projects.Footnote 92 Finally, social bonds are used to finance basic social services, with a focus on providing capital to serve marginalized populations. To cite one example, Lloyds Bank’s ESG Bond aims to enhance the bank’s SME lending by supporting loans to UK-based, small-scale renewable energy and healthcare providers in the most poverty-stricken parts of the UK.Footnote 93 This aligns with SDG 11, Sustainable Cities and Communities and its emphasis on urban residential servicesFootnote 94 and SDG 3, Good Health and Well-Being, and its goal of broadening access to healthcare.Footnote 95
IV Human Rights and Impact Investing: An Analysis of the Social Bond Market
Human rights considerations have been under-studied in relation to impact investing. To address this, the following discussion suggests three factors to evaluate impact investing instruments and strategies and applies them to the social bond market.
A A Framework for Evaluating Human Rights Accountability in Impact Investing
Growing investor interest in sustainability and the emergence of social bonds highlight the lack of specific authoritative guidance on how to address human rights in the context of impact investing. While the Guiding Principles do not provide guidance in any specific sectoral context,Footnote 96 institutional investors and other financial market participants have explored the application of human rights to other areas of finance. The Thun Group, an informal group of global financial institutions, has deliberated on the application of the Guiding Principles to banking policies and practices.Footnote 97 The Equator Principles, a voluntary initiative that addresses environmental and social risk in project finance, expressly recognizes the corporate responsibility to respect human rights under the Guiding Principles.Footnote 98 Most recently, the Organisation for Economic Cooperation and Development (OECD) issued guidance on the human rights obligations of institutional investors under the OECD Guidelines for Multinational Enterprises.Footnote 99 Along with the Guiding Principles, these standards and declarations serve as templates for potential approaches to addressing human rights in impact investing.
Impact investing differs from banking, project finance and other types of finance. It is predominantly governed by various forms of private legal ordering. At the international level, the UN-supported Principles for Responsible Investment (PRI) commits members to address ESG issues based on six principles.Footnote 100 The Global Impact Investing Network (GIIN), a global industry association, has addressed the role of the SDGs in impact investing.Footnote 101 This stands in contrast to banking, which is highly regulated by governments at the national and sub-national levels, and project finance, which heavily draws on the social and environmental standards of the International Finance Corporation and other multilateral and governmental development agencies.Footnote 102
Governments struggle to regulate many environmental and social impacts attributable to global commercial activity, including impacts that directly implicate human rights.Footnote 103 Private governance helps fill this governance gap.Footnote 104 The legal authority of private governance is not derived from governments. Rather, private governance regimes are composed of groups of firms that agree to regulate themselves.Footnote 105 Instead of centralized lawmaking and enforcement, private governance generally relies on decentralized processes based on negotiation and dialogue to create standards, which are enforced through investigation and disclosure.Footnote 106 Market-based mechanisms assess, measure, audit, label and otherwise facilitate communication of the social and environmental conduct of companies.Footnote 107
With these distinguishing characteristics in mind, there are three factors that impact investors should take into account to ensure that their investments align with human rights: investor assessment, external assurance, and impact-maximizing leverage. With the Guiding Principles as its conceptual foundation, this three-part framework accounts for the unique conditions of impact investing and capacity of institutional investors.
1 Investor Assessment
For impact investors, a first order consideration is to identify and assess how human rights issues are implicated by the projects and companies in which they invest. This requires that investors conduct human rights due diligence, a core component of the Guiding Principles.Footnote 108 The first step in human rights due diligence is identification and assessment of actual or potential human rights impacts.Footnote 109 Consistent with the concept of human rights due diligence, the OECD’s definition of responsible business conduct risk refers to adverse impacts on society and the environment, rather than risks to the firm.Footnote 110 Investors should conduct human rights due diligence prior to deciding whether or not to invest and whenever they have reason to believe that there has been a material change in the operations of funded projects or companies.Footnote 111 In order for investors to be able to assess human rights impacts, they must be able to analyse the outcomes of their investments.Footnote 112 In the investor–investee relationship, human rights impacts may arise from the specific project being funded as well as in the context of the general activities of the company executing the project. This warrants investor assessment at both the project level (i.e., the outcome of a specific financing) and the company level (i.e., the human rights performance of the company administering a given project).Footnote 113
Investor assessment should incorporate human rights in procedural terms as well. Public transparency and civil society participation are particularly important in privately governed markets in order to ensure democratic legitimacy.Footnote 114 Rights holders should be involved in the development and implementation of impact assessment as the decisions resulting therefrom affect them.Footnote 115 Reflecting this principle, the Equator Principles require project finance lenders to conduct consultation and participation processes with affected communities.Footnote 116 In impact investing, investor assessment should seek and incorporate input from stakeholders, particularly individuals affected by a financed project.Footnote 117 Companies that receive financing should be required to continuously engage with investors and stakeholders on their human rights policies, practices and impacts.Footnote 118 Investors should also disclose the policies and practices that guide their assessments of human rights impacts, as well as the results of their assessments.Footnote 119
2 External Assurance
Investor assessment in the global capital markets faces unique informational barriers due to the attenuated nature of institutional investors’ relationships with the companies and projects in their portfolios. Many institutional investors are unable to effectively assess human rights risk and measure and verify positive human rights outcomes.Footnote 120 The inconsistency, incompatibility and incompleteness of indicators impede rights-based accountability.Footnote 121 Furthermore, many human rights impacts are often only evident in the long term, which hampers the ability of investors to determine when and how to balance short-term financial considerations and long-term human rights factors.Footnote 122
These informational deficits can be addressed in part through mandatory disclosure of impacts. Over the past several decades, disclosure of social impacts has emerged as a key regulatory strategy.Footnote 123 Consistent with this paradigm, the Guiding Principles incorporate reporting as an element of the corporate responsibility to protect.Footnote 124 Under the Guiding Principles, human rights reporting must become institutionalized within the firm.Footnote 125 Impact investors should seek any available means to encourage, incentivize, or require the companies, organizations, projects or funds in which they invest to collect and report on their human rights impacts.Footnote 126
However, the quality and veracity of environmental and social disclosure is often doubted due to the control that companies exercise over this information.Footnote 127 To enhance the credibility of this information, companies increasingly hire outside parties to independently review and verify a company’s social and environmental performance.Footnote 128 External assurance includes certification and independent auditing.Footnote 129 These measures prevent whitewashing by subjecting companies to review of their policies and operations.Footnote 130 Institutional investors, in particular, increasingly demand that the firms in which they invest subject their environmental and social information to external assurance.Footnote 131
Accordingly, investor assessment should be coupled with external assurance. However, external assurance should not be a precondition to taking action to address adverse human rights impacts.Footnote 132 Consistent with the Guiding Principles, external assurance should be integrated, to the extent possible, in the investor’s ongoing tracking of human rights impacts.Footnote 133
3 Impact-Maximizing Leverage
Historically, institutional investors have been reluctant to actively engage with companies on human rights.Footnote 134 As financial intermediaries, institutional investors invest assets on behalf of their clients to whom they owe fiduciary duties of loyalty, obedience and care.Footnote 135 With few exceptions worldwide, the legal scope and content of these investor-based fiduciary duties with respect to human rights are weak and ambiguous.Footnote 136
Human rights due diligence, as applied to institutional investors, seeks to counter this passivity. Once an investor has identified actual or potential human rights impacts, it should take appropriate action to prevent and mitigate them.Footnote 137 This entails that the investor assesses its relationship to an adverse impact and determines its leverage over the entity concerned.Footnote 138 With the Guiding Principles as its foundation, the OECD’s guidance to institutional investors suggests a variety of ways that investors may exercise leverage over companies in their portfolios. If the investor owns equity stock in a corporation, it can exercise its governance rights to elect members of the board of directors.Footnote 139 Investors that hold debt or other types of non-equity assets can also exercise leverage through engagement.Footnote 140 However, if leverage is infeasible or ineffective, the investor may divest or screen out assets of the company.Footnote 141
In the context of impact investing, the use of leverage should take into account its defining objective of generating positive social impact. Impact investing is premised on the concept of additionality – i.e., the production of beneficial social and environmental outcomes beyond what would otherwise have occurred if the capital had been deployed in some other way.Footnote 142 In other words, the rationale for a given impact investment can be attributed to the fulfilment of human rights, such as those embedded in the SDGs.
The concept of additionality suggests two general considerations for impact investors. First, impact investors should avoid exit whenever possible in order to leverage their special relationships with companies and stakeholders. Impact investors should ensure that their capital investments fulfil human rights to the maximum possible extent (including social and economic rights).Footnote 143 Relationship-based leverage, as defined by Stepan Wood, may be particularly relevant to impact investors.Footnote 144 An investor’s responsibility to exercise leverage may be established by a specific relationship with a given funded company as well as by the investor’s general relationships in a given sector through its activities, products and services.Footnote 145 Second, impact investors should be vigilant of adverse impacts embedded in projects that provide additionality. For example, a social bond that finances the construction of affordable housing should be undertaken in a manner that respects indigenous rights and addresses gender equality to the extent possible.Footnote 146 This due consideration of positive human rights impacts does not relieve investors from their obligation to address adverse ones.Footnote 147
B Analysing the Social Bond Market
These three factors can be applied to the social bond market to identify and evaluate its standards and practices from a human rights perspective.
While government regulators in China and India have issued guidelines for green bonds and the European Commission announced in March 2018 its intent to create standards and labels for green financial products, none of these public regulatory frameworks expressly addresses social bonds.Footnote 148 Instead, the social bond market is largely governed by private governance standards, certification schemes and voluntary external assurance. The Social Bond Principles are the predominant global private standard.Footnote 149 The SBPs consist of four core components: (i) use of proceeds, (ii) process for project evaluation and selection, (iii) management of proceeds, and (iv) reporting.Footnote 150 These components define methods and processes for issuers to implement in their operations.Footnote 151 While the SBPs are intended to aid issuers, investors and underwriters,Footnote 152 issuers are primarily responsible for adhering to their guidelines.Footnote 153 The SBPs’ lack of prescriptiveness is a fundamental feature of the social bond market.Footnote 154 Leading public issuers, such as IFC, expressly align their social bond programmes to the SBPs.Footnote 155 For these reasons, an examination of the social bond market at this stage in its development should start with the SBPs. For this purpose, the SBPs can be assessed under the three-part framework outlined in Part IV (A) above. In accordance with this framework, the assessment that follows focuses on the conduct of investors, in contrast to the SBPs’ issuer-based focus.
1 Investor Assessment
Under the SBPs, issuers are encouraged to engage in due diligence on social risks associated with projects. Specifically, issuers must communicate to investors the specific social objectives, the process for the selection of projects, and eligibility criteria, including criteria for excluding projects that pose material social and environmental risks.Footnote 156 Due diligence on social risks under the SBPs superficially resembles human rights due diligence. However, by not expressly referencing human rights, the SBPs do not distinguish between social risk (faced by the investor) and human rights risk (faced by rights holders).Footnote 157 Moreover, the SBPs do not provide guidance on how an issuer or an investor should assess and respond to trade-offs between one kind of social risk vis-à-vis other social risks or between a certain level of social risk and financial returns from the project.Footnote 158
In addition, the SBPs encourage issuers to communicate the social impact of projects.Footnote 159 Under the SBPs, transparency is the primary means by which investors and other stakeholders hold issuers to account.Footnote 160 However, the SBPs’ lack of rules or guidance perpetuates the struggle of investors, regulators and other stakeholders to assess the social impact of social bonds, let alone consider human rights impacts.Footnote 161
The SBPs expressly state as their over-arching mission the goal of issuers, investors and other market participants to expand the green bond market through private standards.Footnote 162 Stakeholders are passive beneficiaries of the process standards established by the SBPs.Footnote 163 An Executive Committee is responsible for the process and content of the SBPs.Footnote 164 This committee consists solely of investors, issuers and underwriters.Footnote 165 The Social Bond Working Group, which serves in an advisory capacity, includes development banks and socially responsible investors among its members.Footnote 166
This reflects a structural issue evident in other types of impact investing: market participants generally have the discretion to determine whether to involve affected parties.Footnote 167 By way of example, social impact bonds, another form of impact investing, rely on governments to facilitate stakeholder participation.Footnote 168 Typically, a government agency is responsible for defining the desired policy outcome for the social project, which is executed by a non-governmental service provider.Footnote 169 It is incumbent on the government agency to engage with stakeholders in the process of defining the social issue and the desired outcome of the financing and to require service providers to engage with affected communities during the term of the project.Footnote 170
2 External Assurance
The SBPs do not provide prescriptive rules or authoritative guidance regarding the form or substance of measurement and reporting practices. Rather, the SBPs facilitate the dissemination of best practices through a repository of reporting templates and a database of voluntarily submitted reports for prior issuances.Footnote 171 Generally speaking, investors holding bonds have limited resources to monitor a firm’s performance.Footnote 172 Current practices in the social bond market present additional barriers to investor assessment. Most social bond issuers commit to use proceeds to finance categories of projects over the term of the social bond rather than specific projects.Footnote 173 To date, social bond issuers have been predominantly development banks and commercial banks.Footnote 174 Banks use proceeds from the sale of a social bond to extend loans to companies that address social needs or to local partner financial institutions that in turn make loans to companies.Footnote 175 Any given bank-issued social bond may finance thousands of individual loans and projects.Footnote 176
To aid investors, the SBPs recommend that issuers use external review in the form of second opinions, verification, certification and ratings.Footnote 177 Second opinions are the predominant form of external assurance in the social bond market. A second opinion is an independent review of the framework of rules, regulations and guidelines used by a social bond issuer.Footnote 178 A second opinion does not seek to measure social outcomes. Rather, it focuses on the process by which an issuer selects projects and investments to determine whether the selection criteria contribute to the social bond’s stated social objectives.Footnote 179 Second opinions are typically provided prior to the issuance of a social bond, and issuers may – but are not required to – obtain annual reviews during the term of the social bond.Footnote 180 While immensely beneficial to market participants in the social bond market, second opinions are limited in their capacity to inform investors and stakeholders of human rights outcomes due to their static and voluntary nature.
3 Impact-Maximizing Leverage
Investors in the social bond market are limited in their ability to influence the day-to-day actions of companies. Unlike shareholders and other equity owners, bond holders do not enjoy voting or other governance rights, thereby inhibiting their ability to exercise leverage.Footnote 181 Another potential source of leverage for bond holders is covenants in bond contracts that restrict the rights of issuers to take certain actions.Footnote 182 These covenants are not prevalent in the social bond market, and the SBPs do not address the possibility of including them.Footnote 183
The foregoing assessment shows how the SBPs fall short of ensuring that social bonds align with human rights in accordance with this article’s three-part framework. In light of these deficits, the following discussion explores how the existing governance system can be improved.
V Optimizing the Human Rights Impact of Social Bonds
The broad public mission of social bonds stands in juxtaposition to the private capital markets in which they are sold, marketed and traded. This dynamic highlights a fundamental question in business and human rights: whether binding legal obligations on corporations and other market actors are necessary to regulate new kinds of commercial activity.Footnote 184 The human rights shortcomings of the social bond market arguably suggest that government regulation should incorporate private governance regimes and transform voluntary standards into mandatory rules.Footnote 185 However, incorporation and centralization may stifle the growth of the social bond marketFootnote 186 and even hinder compliance.Footnote 187
Notwithstanding this debate, there is substantial policymaking space between reliance on industry-based self-regulation and the imposition of regulatory mandates under public law. In between these poles, businesses have a responsibility to help protect human rights and seek the realization of human rights within their own respective capabilities and irrespective of their legal obligations.Footnote 188 While issuers and investors qua corporations may not have an affirmative legal obligation to prioritize sustainable development, they can collaborate with regulators and other stakeholders to address structural human rights deficits in their own activities.Footnote 189 Social bonds, as a new and emerging approach to impact investing, rely on voluntary initiatives such as the SBPs and second opinions. Reforms to these existing governance regimes that selectively incorporate public intervention – without depending on new legal mandates – will help ensure that this financial innovation serves the human rights principles on which sustainable development is based.Footnote 190
First, to enhance investor assurance, the social bond market should expressly draw on human rights assessment frameworks. For example, the Sustainable Development Solutions Network (SDSN) serves as the foundation for integrated global, national, regional and thematic monitoring of progress towards the SDGs.Footnote 191 In order to align the SDGs with investor-oriented metrics in the social bond market, the SBPs could coordinate with initiatives under the SDSN in order to ensure that human rights impacts are incorporated into investor assurance.Footnote 192 As a preliminary step towards that end, the Executive Committee that governs the SBPs has set out to map specific SDGs to eligible categories for use of proceeds from the sale of social bonds.Footnote 193 To ensure that metrics are equitable and accountable, there should be broad and inclusive fora in which goals and trade-offs can be debated. Multilateral development banks and leading bilateral development agencies – which have substantial experience and well-established procedures for selecting, approving and monitoring projects – may be able to serve this convening role in conjunction with industry associations.Footnote 194
Second, to facilitate external assurance, the social bond market should incorporate certification and enhance the accessibility of second opinions to stakeholders. The Climate Bonds Initiative (CBI) is the leading global certification regime in the green bond market. In order for a green bond to be certified by CBI, it must meet pre-issuance and post-issuance requirements under CBI’s Climate Bonds Standard.Footnote 195 Once certified by CBI, an issuer may use a CBI certification logo for a specific green bond issuance.Footnote 196 The European Commission’s implementation of an EU Green Bond Label may eventually be adapted to social bonds.Footnote 197 While the SBPs recommend public disclosure of second opinions, issuers are permitted to keep them private.Footnote 198 Requiring the disclosure of second opinions will aid investors that acquire social bonds on the secondary market after issuance. Consistent with the proposed EU Green Bond Standard, social bond issuers should be required to obtain some kind of external assurance and make the results of such reviews public.Footnote 199
Third, to maximize the impact of investor leverage, governments can assist investors in deciding how and where to allocate their capital. For example, the social bond market can direct financing to social enterprises and other companies that generally lack funding opportunities equivalent to their conventional business counterparts.Footnote 200 Enterprise-level earmarking would aid the identification of social projects insofar as the entire portfolios or operations of social enterprises may be deemed eligible for social bond financing. The SBPs could coordinate with GIIN, leading impact investment firms and government agencies to facilitate the identification of qualifying social enterprises, the pooling of resources to assist social enterprises in marketing and selling social bonds, and the mitigation of financial risk through subsidized underwriting or a syndicate. Furthermore, government development agencies could provide co-financing and financial guarantees to spur social bond financing in accordance with the SDGs.Footnote 201 This market-making role is consistent with the SDGs’ vision of international public finance as means to catalyse private financing.Footnote 202 These collective measures will facilitate the exercise of leverage by reducing investors’ informational and operational costs and promoting investor–investee engagement.
VI Conclusion
This article highlights the integral role of the global financial markets in enabling the fulfilment of sustainable development and the realization of human rights embedded therein. Due to the size of their assets and their sheer number, institutional investors wield considerable influence over corporate conduct – and in certain cases, over states – in various contexts. By analysing the nascent yet rapidly growing social bond market, this article shows how impact investing can further sustainable development in a manner that maximizes the realization of human rights.
From a prescriptive perspective, this article underscores the urgent need for the human rights community to engage with financial market participants as new and innovative instruments and strategies emerge. The rise of impact investing presents a broad range of new opportunities to unleash financial capital in a manner that benefits human rights.Footnote 203 Human rights advocates cannot wait for government regulation ex ante nor rely on judicial remedies ex post to address human rights shortcomings. On the flip side, for impact investors, corporate issuers, private standard setters and other market intermediaries, due consideration of human rights helps them identify and avoid commercial risks that may arise from violations of human rights.Footnote 204 Furthermore, it enables them to think of their social objectives in a holistic manner that takes into account all of the consequences of a given impact investment, not just the ones expressly targeted by the financial instrument.
Going forward, this article’s framework for evaluating impact investing constitutes one of a series of first steps. Drawing on the principles for investor assessment, external assurance and impact-maximizing leverage outlined in this article, future research can examine the integration of human rights in firm- and industry-based impact investing metrics under the SDGs, the benefits and costs of public certification, and the most effective and least costly methods of government steering of impact investing capital.
Of immediate need and particular relevance to the social bond market is ongoing research on its inter-relationships with broader private governance and public regulatory regimes that already include – or in the future may implement – more robust human rights measurement and accountability mechanisms. As the social bond market expands to include new financial products, issuers and investors, the ability of the SBPs to facilitate linkages with the OECD Guidelines for Multinational Enterprises, to cite one example, will be critical. The willingness and ability of institutional investors to apply human rights standards from other frameworks – or to seek greater accountability through the SBPs and existing external assessment frameworks – will be essential to determine the optimal combination of discretionary guidelines, prescriptive standards and mandatory rules.
