The Constitutive Role of Law in Sustainable Finance

The Constitutive Role of Law in Sustainable Finance

ABSTRACT

The sustainability transition requires a fundamental change in the way economies function to align socioeconomic systems with planetary boundaries. From a legal perspective, such a shift should entail a transformation of the prevailing legal coding of economic relations to enable consistent integration of social and environmental considerations. Within the emerging sustainable finance trend, shoots of change are visible: new financial instruments, such as green or sustainability-linked bonds and loans, appear to be reorienting the market relationships around sustainability impact issues. A sociolegal and legal institutionalist analysis of this trend reveals how such instruments shape and are shaped by different facilitative, regulatory and constitutive facets of law. Using EU green bond issuances as a case study, the article highlights how law expands and limits the transformative potential of such novel financial instruments. The analysis is revealing of the co-constitutive dynamics of law and sustainable finance. In this context, the article makes three contributions. Firstly, it offers a comparative case study of law's co-constitutive dynamics in the case of financial innovation designed for environmental and social impact. Secondly, it identifies the co-constitutive dynamics of law and sustainable finance relating to differentiation and expansion. Thirdly, it finds variance in the law's co-constitutive role at the micro-level of financial interactions, and in meso-structures that emerge in the context of sustainable finance specifically. To the extent that sustainable debt instruments are increasingly linked to a company's overall performance and corporate governance, the article's findings have implications for the integration of social concerns in financial instruments.

One. INTRODUCTION. LEGAL CODING FOR SUSTAINABILITY: A DANGEROUS MIRAGE?

In twenty thirteen, the Swedish property developer Vasakronan was the first corporation to issue a bond with a pre-defined sustainable purpose, namely to finance the improvement of the energy performance of buildings in its portfolio. In twenty nineteen, the Italian energy company ENEL raised capital through general-purpose issuance linked to a commitment to decarbonise its activities over the lifecycle of the bond, agreeing to a step-up on the repayment costs in the alternative. These two types of financial instruments, offered as loans or bonds, are known respectively as 'use of proceeds' instruments to finance pre-defined social or environmental projects and 'sustainability-linked' instruments involving commitments to improve performance over specific time horizons. Both have seen increased interest from corporations, banks and investors, with sustainable corporate bonds comprising just under ten percent of global bond issuance in twenty twenty-three, and sustainable commercial loans covering six percent of overall lending at peak volume in twenty twenty-two.

The sustainable finance trend instigated a rich debate as to the real economic impacts that sustainable finance may have. Does the moniker ESG (environmental, social and governance) even make sense? If all firms are faced with the looming threat of transition and physical risks, should not all investors take into account these factors across the board, rather than developing a suite of 'special' green financial products? And regarding industrial relations issues in particular-aren't such instruments just fancy packaging for simply following the relevant environmental and labour laws? While such questions are undoubtedly well founded, the focus on the immediate outcomes of deploying such instruments arguably overlooks the transformative potential that they may have with respect to the legal coding of capitalism. As I argue in this article, analysing sustainable finance instruments such as green bonds from a legal institutionalist and sociolegal perspective reveals avenues for reimagining the extractive coding of key legal modules, including company and contract law, in a way that differentiates such financial instruments from 'traditional' finance. Expanding the analysis beyond the formal terms of debt instruments to consider how the legal environment more broadly shapes the coming together of actors (negotiation) and enforcement (also via monitoring, marketing and macro-financial regime) further captures the potential for capitalism's meso-structure transformations.

Sustainable finance is already recognised as a legal and regulatory phenomenon. In many jurisdictions, it is associated mostly with public regulation (taxonomies and disclosure rules) and strategic litigation that expands the scope of corporate governance rules to mandatory social and environmental considerations. Legal scholars have also already explored how the legal structuring of green bonds differs from a governance perspective by enabling investors to regulate company behaviour and how it is shaped (and constrained) by the prevailing corporate governance regimes. Such explorations reveal the role of law to have been ambiguous at best: existing law limits the process of integrating sustainability concerns in financial relationships, and in fact undermines any sustainability commitments through widespread disclaimers and waivers that accompany sustainable finance instruments.

However, how sustainable finance, such as green bonds, affects the legal structuring of individual financing relationships-as I argue in this article- is revealing of the transformative potential of the co-constitutive role of law in socioeconomic systems. If we broaden the legal analysis beyond the formal terms of the debt instrument, and consider the legal environment that shapes its content and the mutual expectations of actors before, during and after the negotiations, that is, in the various forms of enforcement, a fuller picture emerges, one that suggests opportunities for the law to transform finance so as to serve shared prosperity, notwithstanding the constraints of the market-based socioeconomic models.

To this end, the article analyses the 'green terms' in green bond prospectuses issued by thirty-five corporations in four EU Member States between twenty nineteen and twenty twenty-four. As is further explained below, such green terms appear not only in the context of specific 'green' or 'sustainability' commitments of the issuing firm, but also in the context of waivers or risk disclosures-indeed suggesting that legal coding of capital may shield such transactions against integrating sustainability goals. However, this finding is not universal-differences among jurisdictions offer avenues for enforceability. Furthermore, supplementing the legal analysis with insights from interviews with lawyers and bankers involved in the structuring of the transactions can identify changes in the broader institutional environment that influence the mutual expectations and relationships between the actors, notwithstanding the apparent constraints of the law. Overall, I show how sustainable debt's legal environment may entail changes in the terms of interaction between market actors that are regulatory (in the sense of shaping behaviour), facilitative (in the sense of how the actors are brought together) and foundational (in the sense of embedding new dimensions of environmental and social sustainability concerns into the firm-finance relationships). To the extent that sustainable debt instruments are increasingly linked to a company's overall performance and corporate governance, such financing trends have a bearing on broader industrial relations, even where they appear to be concerned only with environmental matters. For example, assessments of environmental impact that the company needs to put in place often involve new forms of engagement with company's stakeholders, including own workers and local communities.

This article proceeds as follows. Section Two outlines the emergence and main features of sustainable debt instruments, focusing on the European Union, where the trend has been particularly pronounced. Section Three develops the methodological approach to investigating the co-constitutive dynamics between law and sustainable finance, one that looks beyond the formal terms of financial instruments and expands the analytical scope to capture the legal environments of the preceding negotiations and the modes of market and public enforcement once the debt is issued. Section Four analyzes the empirical findings in relation to how the different aspects of the legal environment interact with green debt across its lifecycle. Before concluding, Section Five discusses the identified dynamics of differentiation and expansion in micro-level interactions and the meso-level structures as key insights into the potential co-constitution of law and sustainable finance. I show how law plays a co-constitutive role in sustainable finance by both enabling and constraining its transformative potential, as legal frameworks, negotiation practices, and macro-financial regimes shape how sustainability objectives are integrated into financial instruments like green bonds.