It is fashionable to talk about ESG investing. Will it change your money and your life? The Environment, Society and Governance (ESG) initiative evolved from the United Nations Sustainable Development Goals (SDGs), which are to be implemented by 2030. The ESG approach is a fundamental shift away from the corporate maxim of “shareholder value” that has dominated the free-market mindset for making a profit without explicitly considering the company’s responsibility towards society or the planet. ESG grabbed global headlines when the Glasgow Finance Alliance for Net Zero (GFANZ), led by UN Special Envoy for Climate Action and Finance Mark Carney, brought together 450 members representing $130 trillion in assets under management to unite for “net-zero financial sectors alliances from around the world into one strategic alliance for the entire industry”.
In Carney’s words, “GFANZ accelerates best practice tools and methodologies that are critical to ensuring climate is at the heart of every financial decision.” As a vision, ESG seems flawless, except one has to ask – whose vision? As an aspiration, will ESG deliver Net Zero? As for the sweat, who’s going to go out of their way to release it? My immediate reaction when GFANZ was announced was – how did 450 institutions, mostly in developed markets, with assets equal to 1.3 times world GDP, have so much power? If they really care about Net Zero and ESG, how come it took so long to switch from short-term greed to long-term value? If GFANZ won’t lend or invest in companies that don’t meet ESG standards, isn’t that a stick rather than a carrot? $130 trillion sounds like a lot of money, but how come their governments couldn’t even agree on $100 billion in real aid to emerging and developing economies (EMDE) to help achieve Net Zero? After all, a lot of that $130 trillion is also EMDE money being recycled in New York, London, Frankfurt and Tokyo.
Furthermore, I cringe whenever anyone talks about best standards and practices, because the best standards for the financial sector may not be the same for borrowers or companies from the real sector. Note that those who practiced the best standards got into the 2008 global financial crisis more than the low-standard EMDEs who suffered spillovers. The remedy for complex and advanced economies and financial systems is not the same for EMDEs that have less sophisticated systems. Cancer medicine does not cure malaria. After forty years of working in financial sector regulation to promote the best standards devised by the West, my experience is that the rest of the world would prefer “the best”, meaning that the best should never be the enemy of the good. Whenever multilateral banks and agencies insist on “best standards and practices”, their credit conditions have become so complex and stringent that many EMDEs could neither meet them nor access funds in time for their actual needs.
In fact, ESG is a trilemma where you have to make a compromise between three factors. Harvard professor Dani Rodrik presented the trilemma of democracy, sovereignty and globalization in which “nation-state system, democratic politics and full economic integration are mutually incompatible”. Think of globalization as the ecological side because we all live on one planet and are connected to each other through financial, supply, media and cultural networks. The way we consume and act affects not only other people but also the planet. The social side is about inclusiveness and social injustices, which is a matter of democracy, which is ideally the greatest good for the greatest number. But governance is really a matter of sovereignty. And management is critical, because without good management (or discipline) at the level of an individual, family, company, city or state, there will be no order, little social justice and bad consequences for the planet.
In short, ESG matters, but if we can’t get our domestic and global governance acts together, we will live with the consequences of bad outcomes for people, profits and the planet. ESG basically happened when companies realized that the pursuit of profit had dire consequences for people and the planet in terms of inequality and environmental damage. Thus, social responsibility and trusted governance that cares for people and the planet have shifted from a cost to a profit opportunity. Of course, consumers and employees know all about “greenwashing,” getting public relations guys to whitewash corporate misdeeds and bad behavior. This is the part about ESG that worries me, when asset managers push ESG products like they’re mama’s cakes that will outperform non-ESG companies. The facts show that currently oil and gas companies and arms manufacturers are reaping super-profits, and no one can say for sure that they are fully ESG compliant.
Cynically speaking, ESG standards for companies so far are about disclosure, but not compliance in the spirit and letter of ESG aspirations. As inventor Thomas Edison said, “invention is 1% inspiration and 99% perspiration.” Truly delivering Net Zero and avoiding social injustice and biodiversity destruction is mostly sweat and hard work, which means real people and companies have to deliver, while financial wizards can only claim to be doing their fair share of ESG oversight. In other words, I will trust GFANZ when all their members discover for the first time how they themselves meet Net Zero carbon standards and treat their customers and employees fairly, rather than demanding that their borrowers or investee companies deliver Net Zero through ESG. Doctors, heal yourself first. For EMDEs, the real ESG hard work is ensuring they have the management capacity to deliver real social inclusiveness and natural habitat regeneration. ESG is not just a private sector project, but a partnership between companies, governments and communities that recognizes the enormous barriers to change at every level. ESG requires a real change in mindset, but the sweat will only start when top leaders show they sweat and walk the same as everyone else, instead of just talking the talk.