The Big Sustainability Wave

Why should we be optimistic that those in positions of power will move history in the direction of environmental and social stewardship and good governance?

To answer the question we should first look at who has the power. I would list power centers roughly in this order:
Finance
Business
The People
Government
(Of course in certain cases one might want to include the Military, or the Mafia, or Religious Institutions, but for the sake of simplicity let's stick with these four.)

The climate discussions in Rio in 2012 made it clear that it was business, more than government, that had the will, the power and the money to lead change. Perhaps this has to do with the fact that Business is widely seen as the major culprit in this area; perhaps it has to do with a new generation of enlightened business leaders.

The UN Global Compact has a useful list of "eight principal society-based and market-based  drivers":

1. Civil Society Expectations
2. Natural Resource Scarcity
3. Government Policies
4. Enlightened Business Leaders
5. Requirements from Business Partners
6. Customer Preferences and Expectations
7. Employee Demands/Motivations
8. Investor Requests

This last one is critical. I put Finance in the number one position in my power hierarchy, and it is hard to imagine much of a shift in Business if Finance (which over the centuries has moved from a role of support to Business to a role of ownership of Business) dictates a race to quarterly profits above all else. Finance, as we have seen, is too big to fail.

But even Finance is shifting. The UN - supported Principles for Responsible Investment (PRI) initiative now has 1260 signatories representing 45 trillion dollars of assets under management, including Goldman Sachs Asset Management, JP Morgan Asset Management and Morgan Stanley Investment Management.

In financial circles today you hear phrases like "triple bottom line" (financial, social and environmental results, not just financial) or "the three Ps" (which stands for people, planet and profit). CalPERS, which manages retirement portfolios for 1.6 million California public sector pensioners, says in its "Investment Beliefs" statement "long-term value creation requires effective management of three forms of capital: financial, physical and human". It goes on to say they may engage investee companies on their governance and sustainability, looking specifically at governance, risk management, human capital and environmental practices.

Is there cause for optimism? Certainly, a wave has begun that threatens contagion, perhaps very slowly, perhaps not, throughout the investor community and down through business and throughout global supply chains.

Now is the time to ensure that wave is an aligned wave based on common principles, not a fragmented collection of initiatives at odds with each other and lacking momentum.

The Sharing Economy

We think of the auto industry as fiercely competitive. There is overcapacity in the developed world; customers are encouraged to buy new cars ever more frequently; governments feel obliged to step in with incentives.
Fearful of Chinese industriousness and lack of scruples, we thought everything would be copied - and become worthless. We put up barriers, and protected industrial property with regulations and trademarks and lawsuits.
We thought competition would drive prices down, and the cost of labor with them, and production would all delocalize.

Instead, we are seeing a different dynamic: the rise of brand loyalty. Brands are courting customers, investing in product quality by attracting the best engineers, and managing their reputation. A corporation must be trustworthy; it needs to have values we share. It needs to care about the community - or at least not be an evil human rights violator.
In this context, companies need to invest in R&D and they are seeing value in sharing.
Carmakers have been sharing production platforms for years. They assemble similar cars on shared platforms and then compete for customers by catering to them and caring for them.

This week, Daimler and Nissan announced a joint venture to build Mercedes and Infiniti compact cars in Mexico. But an announcement that stood out even more was Tesla's: CEO Elon Musk said the company was scrapping its patent protection and sharing its technology. Tesla says electric carmakers need to collaborate on finding solutions to get battery powered vehicles into the mainstream with readily available charging stations.
"Technology leadership is not defined by patents, which history has repeatedly shown to be small protection indeed against a determined competitor, but rather by the ability of a company to attract and motivate the world’s most talented engineers," wrote Musk in Tesla's blog. "We believe that applying the open source philosophy to our patents will strengthen rather than diminish Tesla’s position in this regard."
So Tesla, BMW and Nissan are in talks to collaborate on electric car charging standards.

It was the Internet itself that really made sharing so common-sense and so large-scale. Today the open source concept is breaking down more and more barriers and ushering in a new kind of capitalism, a sharing economy.

Sustainability Reporting as Changemaker

I recently attended a two-day training course in GRI G4 Reporting. GRI stands for "Global Reporting Initiative" and G4 is GRI's newest generation framework for companies to use when writing up their annual sustainability report. Sounds dull, right? A niche line-item accounting standard for number crunchers.

But in fact G4 is a revolution.

G4 is really a process of principles-based reporting. A company must ask itself what is most material to its business, including risk factors, and report transparently on those things. C-level executives and the Board get involved in forward-thinking strategic analysis. Longer-term issues like water management or climate change are finally given their place alongside quarterly profits.

Companies' sustainability reports do not all follow GRI. Many follow randomly selected criteria and are not comparable to those of other peer companies. But a company wanting to use best practices would do GRI reporting, and there is a powerful lure to doing things the best way.

Meanwhile, the brand new Sustainability Accounting Standards Board (SASB) is working on reporting standards for US-listed companies. These will be more specific, so a company could do a GRI report and then report specifically on issues that have been identified as material for its particular sector. Investors will be able to compare information reported by the company with that of other companies in the same industry.

And once the number of comparable, reporting companies reaches critical mass, every US-listed company will feel the need to move to G4 and SASB industry-specific reporting, whether required or not (with a chair and vice chair of the caliber of Michael Bloomberg and Mary Schapiro, SASB standards are likely to adopted as obligatory reporting standards). 

In April the European Parliament moved in the direction of making such reporting obligatory within the EU, approving a directive for large companies to disclose, using methodology they choose, "information on policies, risks and results as regards environmental matters, social and employee-related aspects, respect for human rights, anti-corruption and bribery issues, and diversity on boards of directors."

The real point is what happens within a company when the discussion on what to report takes place. Strategic questions are raised. If a company doesn't report on, say, a high profile human rights issue affecting that industry, it will have to explain why not. So the CEO is going to quickly weigh the pros and cons of adopting new policies, not just reporting on existing practices. There are plenty of incentives in place now for companies to proactively do less harm, and even to proactively do more good.

And this is where the change occurs. Not on an NGO's wish list. Not on a consultant's pie chart. In the internal discussion where business strategy can no longer be removed from environmental, social and governance issues and impacts, risks, responsibilities and opportunities. In today's globalized world, companies are not only the ones with the power to affect change for the greater good. We are moving towards a time when they will not survive if they do not.

In Defense of Sustainability Indexes

Sustainability Indexes are often criticized for catering to superficial moves by large companies to paper over bad behavior. Companies in industries that pollute or companies that have suffered reputational crises are often the ones who pump the most money into “sham” sustainability or CSR strategies to make themselves look good, say critics.

But this is a gross generalization, followed by the dangerous conclusion that they should be ignored or banned .

There are any number of reasons for a company to focus on sustainability. Sometimes a crisis can indeed spark introspection and change, or consumer complaints can play in, or an opportunistic desire to jump on a popular bandwagon. In Europe, sustainability investors (sometimes known as SRIs – socially responsible investors, or ESGs – environmental, social, and governance investors) have grown to become a significant force urging companies to pay attention to sustainability. Whatever the reasons, no one should argue that refocusing corporate attention in a more sustainable direction is a negative trend.

It is important to keep in mind the definition of “sustainability”. Something sustainable is something supposed to last over time. The idea is to refocus attention from quarterly profits to strategies more concerned with the well-being of people, the planet, and profits (yes, profits!) over a longer period of time. Why profits? Because profits are important for companies to be able to pay salaries, among other things, to share the wealth with all their stakeholders (including local communities), and to invest.  

Sustainability Indexes are an instrument that is helping raise the bar, showcasing best practices so that others will be induced to follow suit. Because of their own reputational concerns, indexes like the Dow Jones Sustainability Index are very careful not to just take the word of a company, but follow very stiff criteria, monitor and audit in person (the DJ Sustainability Index, for example, starts with a 75 page questionnaire).

Sustainability is not just about “green”. The environment is one aspect, but other aspects are all about checks and balances: the indexes would never want to showcase a company that is in the wind energy business, for example, but turns out to be another Enron. Sustainability investors and indexes urge companies to spread good practices to their supply chains and, for example, refuse to purchase materials from suppliers who haven’t signed on to ethics and human rights policies and practices. Good labor practices are also encouraged, as well as corporate citizenship.

On the environmental side, we live in an age where all of us depend in some way on fossil fuels, and it would not be realistic to demand that we drop all use of them overnight in favor of renewable energy. The biggest energy companies are wealthy enough and strategic enough to be some of the biggest investors in alternatives, as well as in ways to make their own businesses cleaner. They should be encouraged in this direction, at the same time as lawmakers should be encouraged to speed up the transition through legislation.

Meanwhile, the UN Global Compact and others who have launched sustainability indexes are doing the world a great service: they are drawing the attention of investors to the fact that long-term sustainable management of corporations may be more profitable in the long run than a short-term focus that ignores the well-being of people and the planet. We are reaching a moment in history where the interests of profit-driven investors may be starting to align with a model of management that is cleaner, kinder, and includes more checks and balances. The UN Global Compact is working with the signatories of PRI (Principles for Responsible Investment) to further this alignment.

This sort of evolution needs to be encouraged, not shot down.

Work on what is desirable, not what is feasible

I am at a conference on the North American Free Trade Agreement, hearing about lessons one can learn from the EU (don't have a common currency, do have structural funds). It is clear that economics is not a zero sum game and free trade areas really do hugely benefit everyone involved. 

But it isn't signing an agreement or a charter or even a constitution that makes this happen, as much as a wise approach to regulation. US regulatory agencies are powerful, and they can be islands - not necessarily connected to the big picture. Someone is telling the story of how regulatory differences are hurting trade in North American jellybeans -- and how many more industries would flourish if regulations were unified, clear, and protective of consumers without being too rigid and holding back economic growth?
"You need large ideas to overcome the small obstacles," says Bob Pastor, Director of the Center for North American Studies at American University. He adds a piece of advice for government agencies: "Work on what is desirable, not what is feasible".
Those words strike me as a mantra for life. How often do we focus on the short term, on getting through the day, the month or the quarter? 
Every so often we should stop what we are doing, close our eyes, and ask ourself what the big picture looks like, what is the direction, what is the dream. Then our large ideas will become clear enough to overcome whatever small obstacles are keeping us focused only on the feasible. Worth thinking about.

Meritocratic Capitalism

Since the recent financial crisis, the search for a better economic model has accelerated. Some have questioned the way our society measures success: should quarterly GDP growth remain our guiding metric, or should we focus on something else to measure, say, happiness? Does it make sense to continue to honor the god of the free market when greed is its driving force, and that greed has destroyed the lives of so many? Should highly educated people be running on a hamster wheel after short-term profits, oblivious to longer-term changes all around them that they ought to be planning for? Does it still make sense for our new generations to take out loans they'll never be able to pay back in order to afford a college education that won't place them in a job and won't teach them the skills they'd need if they got one?

America has slipped way down in global social mobility rankings; the "have nots" are no longer able to access the echelons of the "haves". Put more bluntly: the American Dream is dead.

The electoral debate is about how Keynesian we want to be, how much or little we want government to stimulate economic growth and which approach will work best (top down, or starting with the middle class). 

But perhaps the debate should be much more radical: how do we bring back a system that allows excellence to emerge, out of every pocket of society and every income bracket, and rewards hard work and merit?

The man who coined the word "meritocracy" in the 1950s, British Labour Party strategist Michael Young, said society needed two things: equal opportunity for all through quality, free education, and a system that would recognize and reward merit through social mobility. This would not only be a just society; it would be an economically competitive society because the most productive of its members would rise to leadership positions and lead well. The best and the brightest would rally businesses, create jobs, train youth, launch new ideas, plant seeds.

But Young warned that a day would come when those Darwinian geniuses at the top who had risen through the ranks to lead, would begin to enjoy their power and want to consolidate it, wall themselves into the citadel they had reached, change the legislation to keep the "haves" in and the "have nots" out. Only the offspring of the elite would have access to superior education and superior jobs. These would compete among themselves for more power and money, leaving the rest farther and farther behind. 

Eventually, the rest would revolt. They would hit the streets, throw tomatoes, perhaps bombs. The revolt would be the downfall of all, proof that greed as driving force does not, in the long term, create a functionally efficient society.

What does? Long-term thinking does. Sustainable thinking does. Good governance with checks and balances. A system with leaders who act as guarantors of equal opportunity for all (education, the public library system that Andrew Carnegie founded, the Internet, Big Bird teaching children of all social classes to read). A system with leaders elected to further the COMMON good, not just the good of their constituencies. 

An economic system where investors adopt long-term thinking and demand the same from corporate leaders. 

The UN Global Compact, and many other public and private organizations, are spearheading projects to bring such thinking mainstream. It is catching on. 

Short-term greed won't go away. But perhaps it will become less effective as a driving force. Will we learn this before, or after, the revolt Michael Young predicted?

Regulating the Global Financial Industry

The Commodity Futures Trading Commission, the not very transparent 5-person committee of Republicans and Democrats charged with regulating the US derivatives industry, is reportedly split over the question of regulating overseas trading by US-based financial institutions.

The New York Times reports concern by commissioners that too much regulation in the US could encourage financial institutions to operate elsewhere.

The report raises several issues. The first is the question of "regulatory arbitrage". It seems insane that in a world of global finance there is still only local regulation. Obviously banks and other financial institutions will want to go where the regulation is most lenient; governments do not want their countries to lose business to other financial centers, especially when all are fighting to reduce public debt and deficits (and competing with each other for anything that can bring economic growth).

The second issue is a governance issue. The Commission operates very much behind closed doors, and there appears to be a lack of clarity on what the ultimate goal is. I believe that a regulatory body should focus only on safeguarding consumers from risk (and clearly this is the mandate, based on Lehman, J.P. Morgan etc.), not on competitiveness of the industry versus London or Hong Kong.

Another issue has to do with the scope of the regulations. How can only certain kinds of institutions be included and not others? What about hedge funds? How can you even regulate these things in a world where any average Joe can go online and invest in some formula unrelated to anything concrete (a future on a hypothetical event with a hedging factor based on something else packaged and resliced, with an algorithm based on a graph hitting a ceiling or a floor) located not really anywhere (somewhere in the 'cloud')?

Perhaps the G20 or other transnational forum should begin a serious discussion of all this, so fundamental to the future of our children.