Building a framework for the future – the EU CS3D Directive

Hi Eva. Thanks for talking with us. The CS3D is anticipated to have a broad industry impact. How will this impact be felt in the payments and finance world?

“The CS3D really complements the already existing corporate sustainability reporting directive (CSRD). It aims to enable companies to conduct business with respect for people's human rights and the environment by identifying CSR risks and preventing and reducing negative impacts. So this legislation requires, in addition to understanding your supply chain regarding CSR risks, that you also take action to prevent and mitigate them in your operations, customers or clients and relationships. This all forms part of the value chain.

For example, if you finance company X, based in Brazil, and that company is guilty of illegal logging or ignoring the rights of indigenous people living there, then you, as a bank, should take action to prevent and reduce those risks. Banks, of course, have kind of a different position in a value chain, mostly not directly linked to risks But of course, there's still a significant role to be played.

The CS3D is still under negotiation and not yet in effect. So, ultimately, it still needs to be clarified. The European Commission's proposal includes that the provisions from the CS3D also apply to the financial sector. The position of the Council is that it should be up to the Member States to decide whether to apply the law to the financial sector, so that could vary in member states whether the financial sector is in the scope of the directive. Currently, negotiations (triologue) are taking place between the three institutions of the European Union, so we at the NVB are following these closely.”

What is the background of the CS3D? Can you put it into context?

“Some EU member states, for example, France, already have national legislation in place. So this has been a discussion for a long time. And many companies and financial institutions are already working with established international guidelines. So, the overall objective of the CS3D proposal is build on these guidelines to foster sustainable and responsible corporate behaviour across global value chains, providing legal certainty and a level playing field for businesses. Ambitious European legislation is ultimately desired to avoid member states having differing legislation. This has the potential to create legal uncertainty, not only for banks but also for clients.

It applies to human rights, labour rights, and international environmental standards throughout companies' global value chains. Focusing on climate is good, but that shouldn't be our only focus. We should aim for a more holistic approach. So, this legislation is an excellent example of where things come together. But, of course, it will impact the policies, the processes, and the implementation and reporting of banks and companies.”

So, what would this mean for value chain analysis?

“It's still unclear whether CS3D will oversee the entire value chain or only the supply chain. We welcome that only key business relationships of financial institutions will be covered by due diligence obligations.

Dutch banks are already committed to the UNGPs and OECD guidelines, on which the CS3D is based, so they continue to do analyses based on those standards. Still, the scope of activities on which they do their due diligence might become broader. So, legal certainty and practicality should be ensured. It's important to remember that a value chain can be very large for a bank. This can be achieved by clearly defining which financial services and products fall within the scope, with corresponding due diligence obligations. Lending, guarantees and underwriting obligations should be the activities of financial institutions that fall within the scope of the CS3D.

Banks provide many different financial services daily; thus, expanding the value chain to include payments and other financial services would not be workable and would not serve the purpose of the CS3D. Banks can only influence and leverage customers with whom they have an intensive relationship. Therefore, the scope of activities in the value chain must reflect this reality.”

What is the NVB's interest in CS3D?

“The NVB supports the introduction of a binding 'due diligence obligation', which makes companies more aware of the (potential) adverse human rights and environmental impacts of their activities and to act on them. Essentially, we support the idea of knowing and understanding your responsibilities and obligations, and having the means to act on them. Regulation at the EU level is desirable as companies generally rely on global value chains.

We also underline the importance of corporate social responsibility and, against that background, the proposal by the European Commission for the CS3D. The Dutch financial industry has established practices for due diligence on business relationships and risk management processes per current regulations and soft law. In 2016, the Dutch banking sector – in cooperation with the Dutch government, trade unions and civil society – committed to respecting human rights in accordance with the United Nations Guiding Principles on Business and Human Rights (UNGPs) and the OECD Guidelines for Multinational Enterprises (OECD Guidelines) though the Dutch Banking Sector Agreement on International Responsible Business Conduct.”

What advantages and disadvantages can you currently identify?
“I think a huge advantage lies in the expectation that this will further accelerate the sustainable transition. We should acknowledge that a successful, sustainable transition is also fair for consumers and businesses. European uniform rules are important because companies are part of global value and trade chains. Thus, the impact can be greater with a unified, international approach. Not only does this have a greater impact, but it secures fair competition and values between companies on a level European playing field.

However, there are a number of lessons to be learnt from complying with anti-money laundering legislation. Financial institutions should be able to prioritise products, services and clients that cause significant negative impact and that financial institutions can apply the most leverage. Unnecessary complexity should be avoided where possible.

While entity-level due diligence policies are updated periodically, identifying adverse impacts to low and medium-risk clients only needs to occur when a risk occurs. There is limited added value in screening all clients continuously if no risk occurs. However, for high-risk customers, this should be periodic. Flexibility and autonomy should be built in, allowing banks to optimise their approach - we don't want to be in a situation where the directive is strong on paper, but not in practice.”

What are the expectations for the coming period. Are there any other directives in the pipeline?

“There's actually a lot of legislation coming up in the financial sector. You have the European taxonomy, the CSRD, and the SFRB. So what's important also for us is that the measures that are coming mostly come from the European sustainable action plan and the Green Deal from the European Union. So, it should be aligned as much as possible. Also, regarding the use of definitions, terminologies, scope and concepts. Ultimately, the goal is to create an impact. So let's make sure that it doesn't all just come down to the legal departments of companies and the financial sector but also that you mostly focus on impact.

We hope the momentum will be maintained in the trialogue so there will be a political agreement soon. Having ambitious European legislation would impact more than various national laws in member states. We want the standard to continue to increase, instead of dropping, so this shouldn't just become a tick box for compliance.”