Aligning Financial and Monetary Policies with the Concept of Double Materiality

This policy brief from six Banque de France (BdF) authors focuses on the rapidly developing concept of double materiality – the idea that a company’s impact on the environment is material to decisions made by the users of the entity’s financial statements, in the same way that environment-related financial impacts on the company are already considered material.

Jointly published by the SOAS Centre of Sustainable Finance and LSE Grantham Research Institute on Climate Change and the Environment, the paper is the latest in the Inspire Sustainable Central Banking Toolbox series of policy briefs. The authors include BdF deputy governor Sylvie Goulard and BdF financial stability deputy director Jean Boissinot, who is also head of the Network for Greening the Financial System’s secretariat.

Following an explanatory introduction, the paper examines the traditional concept of materiality and defines double materiality as the joint assessment of both environmental risks to non-financial corporations and financial institutions, and the contribution of these entities to such risks.

The paper then identifies three rationales that support the use of double materiality, suggesting distinct policy implications and challenges for each.

The first is an idiosyncratic risk perspective which considers that an entity’s environmental impacts are relevant because they provide information on the institution’s own risks, acting as a proxy for financial materiality assessment. The authors say that potential policy proposals flowing from this perspective include systematic disclosure of environmental impacts, as well as microprudential regulation such as ”one-for-one” capital requirements for new fossil fuel projects.

The second rationale for the use of double materiality involves systemic risk. Environmental externalities are causing systemic financial risks, and requiring financial institutions to disclose their contributions to these externalities would incentivise them to reduce those activities and thus alleviate the risk. The capital requirements mentioned above also address this systemic risk, the authors argue, and monetary policy also has a role.

Finally, a transformative perspective seeks to move beyond a risk-based approach to reshape financial and corporate practices and values to make them more inclusive of different stakeholders’ interests and more compatible with the actions needed for an ecological transition.

Financial regulators could seek to proactively support financial practices deemed to be more compatible with the ecological transition, the authors suggest. However, the question of coordination between fiscal, monetary and prudential policies is paramount to a successful ecological transition, they say, and the concept of double materiality cannot be assessed in isolation from such questions.

The brief concludes with a warning about the potential for interpretations of double materiality to be fragmented, emphasising that “it is important to ensure that the existing diverging views do not prevent the development of consistent and interoperable approaches across jurisdictions”.