Redefining capitalism for a greener world

The finance industry's essential role in building a sustainable economy.

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There was a time when the finance industry would instinctively recoil from environmentalism. It would also bristle at the idea of investing for a broader social purpose. Sustainable capitalism was, for the majority of investors, asset managers and bankers, a contradiction in terms.

Today, however, it is impossible to ignore the green finance agenda, says Paul Fisher, a former policymaker at the Bank of England.

Not only have the deficiencies of the world’s ‘take, make and dispose’ approach to economic development become self-evident, he explains, but public demands for a more sustainable economy are intensifying, and in some unlikely parts of the world.

“China is actually one of the most vocal about the climate and the green economy,” Fisher says. “The reason is that pollution – especially air pollution - got so bad that the government became really worried about the risk of civil unrest. And if, as an investor or banker you’re helping finance polluting activities in China today, you had better beware of the possible consequences.”

In other words, global finance can no longer afford to be part of the problem.

Environmental issues: a global concern

Indeed, from every conceivable vantage point, the argument for a greener, cleaner version of capitalism is strengthening. Poor air quality, for instance, isn’t just a Chinese phenomenon. The World Health Organisation estimates that nine in 10 of us now breathe in dangerously polluted air every day. It also finds that air contaminants such as particulate matter cause 7 million premature deaths a year – three times more people than are killed by malaria, AIDS and tuberculosis combined.

Industrialisation has caused countless other environmental problems. A looming water shortage is perhaps the most troubling, Fisher says. Global warming and demand for clean water among cities, manufacturing and agricultural sectors are responsible for a rapid depletion of freshwater resources; one in four people are now living in areas suffering severe water scarcity.

“Water is perhaps the most troubling of all the physical risks,” he explains. “We can see how we could fix the food scarcity problem and the (renewable) energy problem, but fixing the water problem looks to be more difficult."

Complicating matters further is the fact that environmental degradation often exacerbates social inequality. Together, they form a toxic mix that has given rise to populist political movements and fuelled violent social unrest from Delhi to Paris.

Support from the public sector

The world’s governments are scrambling for an effective response; too often the remedies they propose end up being counterproductive. This is where the financial industry can help, Fisher says.

As stewards of global capital, investors in particular have the power to withhold or withdraw finance from businesses and governments that fail to take their environmental and social responsibilities seriously. 

Spectrum of sustainable investing

Requiring every company to account for its ecological footprint in the same way that it accounts for, say, the depreciation of its plants and machinery would be one way to deploy such leverage. In November last year, the International Accounting Standards Board, which sets standards for companies in more than 140 countries, recommended firms include climate-related impacts in their financial statements. Were shareholders and other beneficiaries to demand that too, the ramifications would be huge, Fisher says.

“If financial firms are exposed to climate change either through physical, transition or legal risk, they need to manage that and, if it’s their own risk, hold capital against it and disclose to their investors. If they manage other people's money, they need to alert the ultimate asset owners to the risks. If financial firms are not even looking at the issues in their business risk model, then you know they’ve got a problem,” he explains.

Environmental disclosure is already implicitly required in most accounting rules and, in Europe at least, it is likely to become mandatory, Fisher says.

Isolating the ‘environmental premium’ of doing business would reveal the true cost of capital, he says, and ultimately direct investment away from companies and countries that ignore their ecological footprint.

The case is not just a moral one. It makes financial sense too. There is a growing body of evidence that shows investing according to sustainability principles can deliver decent investment returns over the long run. 

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Innovation in green technologies 

But investors have a far broader role to play. Not only can they hold polluters to account, they can also spur innovation.

Channelling capital to companies and entrepreneurs developing technologies that tackle climate change and pollution is crucial in the building of a green economy. “Society has hitherto treated climate change as an ethical, social, moral or even a political issue. And it is all of those.” Fisher explains. “But it is a mainstream financial issue too. Investment management companies, insurers, and pension funds – any institution that owns assets – is in a position to influence the transition to sustainable economy. And that is aligned with their own long-term financial interests.”

Some investment efforts have already borne fruit. Aided by a sustained flow of private capital, innovation in clean energy has flourished, precipitating a steep fall in the cost of solar power, wind energy and battery storage. One study shows that for every dollar invested in air pollution technology since the 1970s, an estimated USD30 has been returned to the economy. With more generous investment, it’s anyone’s guess what human ingenuity can deliver.

The International Energy Agency estimates that for every USD1 spent to support renewable energy, another USD6 are spent on fossil fuel subsidy. Reallocating just 10 per cent of that to renewable projects, according to another study, would help pay for a transition to clean energy. “Ultimately,” Fisher says. “a sustainable economy is crucial in the fight to limit climate change, and it is the job of the financial sector to direct resources to fund it.”

Ultimately, a sustainable economy is crucial in the fight to limit climate change, and it is the job of the financial sector to direct resources to fund it.