In my last article, I suggested 2021 could be a year that significantly influences ESG agendas and initiatives.
With COVID-19 continuing to dominate the media and dramatically change people’s lives across the globe, the ESG conversation is happening but it is on limited bandwidth. That being said, the past few months make it clear that countries including the UK, continue to believe ESG initiatives are one way for the business and wider community to emerge stronger and greener from COVID-19. Examples include:
- Confirmation in the recent UK budget that the creation of a new infrastructure bank will seek to drive £40 billion of green investment and further clarity on the UK issuing a sovereign green bond later in the year. (1)
- The COP26 ‘Race to Zero’ initiative reporting that over 2,800 companies have now signed up to committing to carbon neutrality by the 2040s and all such companies will report their progress on an annual basis. (2)
- The ‘Institutional Investors Group on Climate Change’ launch of the ‘Net Zero Investment Framework’ for investors in relation to net zero emissions (the “NZIF”). (3)
As financial incentive is a common factor in all of these ESG initiatives, business owners, as well as institutional and private investors of business, should all be giving active consideration to what is driving them and what this means for future decision-making.
The ‘Red Queen’s garden’
It is not often that I can draw an analogy from a Victorian novel. However, it seems appropriate to rely upon critical political economy thought (4) that does exactly that to explain what is happening.
In 'Through the Looking-Glass '(5), Alice has a conversation during the Red Queen's race in which the Red Queen explains to Alice in her garden that: "…it takes all the running you can do, to keep in the same place. If you want to get somewhere else, you must run at least twice as fast as that! "(6). It is said (7) that with its search for markets and profits, capitalism requires us to run to stand still i.e. it is the Red Queen's garden, and if we do not constantly change and innovate its mode of production, our industry and commerce, capitalism will outpace itself. Therefore, capitalism must strive to adapt and evolve to be an enabler of new opportunities that lead to further wealth accumulation. Failure to do this reduces output and productivity, resulting in leverage and the well-known risks that that can entail.
By viewing some ESG initiatives through the Red Queen’s garden of capitalism, we come to better understand them as models of financial accumulation: the clear intention is for them to be both tools for wealth creation and mechanisms to apply discursive power to change behaviour.
Capitalising ESG
ESG initiatives and their abilities to demonstrate financial gain is a rocky and slow road of progress. Although stock exchanges including the Dow Jones and the FTSE have had indices tracking companies said to apply good ESG practices for years, these have had slow burn impacts on dictating how investors invest. Companies themselves have had to undertake extensive research to understand and realise the financial benefits of ESG; some studies drawing links to the reputational impact of ESG on the consumer.
More recently, however, there has been an increased focus and analysis of environmental governance and impacts (the ‘E’ of ESG) in order to guide investment opportunity and this is where the UK government, the Bank of England and the City of London in recent years (and they appear intent to continue) expended considerable energy.
This green or ‘impact investing’ (to coin a phrase) has been around for years but the increasing urgency given to climate change has advanced it up the agenda, certainly for institutional investors as seen by the launch of the NZIF, and for the EU in its taxonomy framework (8). It is also obvious, as explained in my earlier article, that the UK government wishes it to guide innovation of the City of London post-Brexit and for it to become a world leader of green investment. With London’s financial centre being the largest specialty insurance and reinsurance market , it is particularly live to climate change effects: an increasing frequency of major weather events results in more claims on insurance to cover damage caused by those events, and on the flip side, the race to carbon neutrality could present transition risks for insurers as assets that they invest in to cover these future claims lose significant value and become ‘stranded assets’ (e.g. oil and gas infrastructure or energy inefficient property portfolios).
The above conundrum of the insurance industry is not unique and all business must be sensitive to the impacts of climate change and global policy shifts around it. That is why a number of ESG initiatives try to focus minds. The NZIF and the TCFD reporting (referred to in my earlier article and backed by the UK government) are expressly driven to give us the ability to determine which companies are ready for a future (realised or not) that is carbon neutral. They are premised on an understanding that divestment in long-used asset classes is a certainty, and we should be given the ability to react to this now, through transparent financial disclosures by companies on what they are doing to future proof themselves. It should then follow that investors are better equipped to determine the green innovators and safe haven assets of the future, and accordingly apply divestment pressure on those slow to act.
This leads ESG initiatives to not only be mechanisms that tap into our social conscience, they also seek to actively innovate the Red Queen’s garden by creating green shoots on which a new mode of production can bloom.
What does this mean?
As the tide turns to accelerate green investment, this will almost certainly increase complexities around investment strategies. In this respect, the above examples of the NZIF and TCFD are both premised on detailed metrics that could lead to asset impairment calculations impacting the value of a business. The result is that investment representations are likely to face more scrutiny, with investment driven ESG initiatives and frameworks having the capacity to significantly impact on investment decision-making and financial regulation. In future articles, I and colleagues will consider a number of the repercussions of such eventualities.
