For some time now, the European Union has been working to integrate sustainability-related directives into its regulatory framework, with the aim of establishing clearer rules for “sustainable finance” across Europe, thereby supporting investment and strengthening investor confidence in sustainable financial products.
Financial market participants can, in fact, play an active role in improving the allocation of capital towards investments that generate a positive impact on society over the medium and long term.
“Sustainable finance” refers to finance that takes ESG factors—Environmental, Social and Governance—into account in investment decision-making, directing capital towards more sustainable, long-term activities and projects.
However, there is another form of finance that goes a step further: impact finance, or impact investing. This encompasses a broad range of investments and financing based on the premise that private capital, sometimes combined with public funding, can intentionally contribute to generating positive and measurable social impacts while also delivering financial returns.
According to the latest report by Tiresia, the Research Centre of the School of Management at Politecnico di Milano, impact finance in Italy amounted to €9.3 billion at the end of 2022, one-third more (+33%) than the previous year, when it stood at approximately €7 billion and accounted for 8.5% of the European total (Finance for Impact: 2023 Italian Outlook – The Journey to Radicality).
Although it is not always easy to draw a clear dividing line between them, sustainable finance and impact finance differ in several significant respects. Sustainability focuses on assessing the environmental, social and governance (ESG) aspects of organisations receiving financing or investment. Impact, by contrast, examines the tangible effects and changes that an organisation generates for society and the environment through its activities and business model.
The two approaches should not be regarded as separate. An impact strategy incorporates sustainability as a necessary—but not sufficient—condition for generating positive change. Sustainability must therefore be understood from a transformative perspective, as a driver of innovation capable of fostering meaningful positive impact.
Sustainable Finance focuses on managing ESG risks and integrating these factors into investment decisions in order to promote long-term sustainability. A “sustainable investment” (as defined by the Sustainable Finance Disclosure Regulation) is an investment in an economic activity that contributes to an environmental or social objective, provided that it does not significantly harm any other environmental or social objective and that the investee company follows good governance practices. This means that the organisation operates ethically, responsibly and with a long-term perspective, balancing the interests of all stakeholders involved.
Impact Finance seeks to generate positive and measurable social or environmental value through investment, alongside a financial return. A key distinguishing feature is the intentional allocation of capital towards targeted initiatives.
The main challenge, however, lies in additionality: an investor seeking to generate social impact is willing to take on additional risk which, through innovation, can be managed in such a way as to achieve both the same level of financial return and additional impact.
Impact investing relies on the ability to demonstrate a tangible link between an investment and the positive impact it generates for society and the environment. This is achieved through specific measurement tools, such as the Theory of Change, which makes it possible to identify the causal links between an investment and the changes generated for beneficiaries and society as a whole. The ability to clearly trace this connection is essential to demonstrate that an investment has produced a real and measurable impact.
Further reading
Finance for Impact: 2023 Italian Outlook – The Journey to Radicality is available here:
https://www.tiresia.polimi.it/finance-for-impact-2023-italian-outlook/