Company accounts are in the red (loss) or black (profit). Increasingly, though, they may be going green — to track the impact of the firm’s activities on the environment. The back story is that a bunch of global investors issued a warning this week to the big four accounting firms that dominate global corporate audit work: Get your act together on the issue, or face investor activism to stop you from doing auditing work at the companies they invest in.
Meanwhile, economists like Cambridge University’s Partha Dasgupta have gained traction on integrating national accounts (which track GDP) with the damage that economic activity causes to Earth’s natural capital — the sustainability question. Dr Dasgupta did a “review” in February for the UK Treasury, on bio-diversity. He said that nearly 40 per cent of Earth’s natural capital (forests, rivers, etc) had been destroyed by human activity between 1992 and 2014, and you would need 1.6 Earths to sustain the current level and pattern of economic consumption. Closer home, a former Reserve Bank of India governor, Urjit Patel, has argued for integrating green issues into central bank actions.
On their part, big global investors are increasingly lining up to say they will abstain from investing in the shares of companies that don’t meet ESG (Environment, Society and Governance) norms. This past week, institutional investors with $130 trillion at their disposal (reportedly 40 per cent of the world’s capital) pledged on the sidelines of the environment summit in Glasgow to put limiting climate change, and weaning off fossil fuels, at the centre of their work.
One has to be careful about taking such commitments seriously. Green accounting and ESG investing initiatives have been around for some time, but made little headway — partly because there are no uniform standards for such accounting in companies, and because mainstream economists have largely ignored the issue. But both may be about to change.
So these efforts must be viewed against the failure so far of governments to achieve meaningful progress towards the goal of limiting the increase in global temperature, caused by carbon emissions, to 2 degrees Celsius. William Nordhaus, who won the economics Nobel three years ago, has worked out the striking conclusion that despite all the global conferences on the environment over the last 30 years, the rate of decline in carbon emissions per unit of GDP has remained more or less unchanged at 1.8 per cent per annum. One might as well have not held those conferences.
That governments will continue to fail is clear from some other numbers. For instance, the average price of carbon (a carbon tax) was estimated by the World Bank at $2 per tonne in 2019. Dr Nordhaus estimates that even a $50 price (which he says would double the price of coal-fired electricity) would not do the trick — and of course such a uniform tax makes no provision for climate justice. Montek Singh Ahluwalia and Utkarsh Patel, in a comprehensive paper for the Centre for Social and Economic Progress, cite a differential pricing approach from the International Monetary Fund: A $25 carbon tax for India that would be a third of the tax for the wealthiest countries. Even this would mean a 27-43 per cent increase in the cost of coal-fired electricity. Since electricity is already subsidised in India, forget about betting on such price increases.
Against this daunting backdrop, the question is: Can investor activism, supported by new financial and economic accounting practices, deliver better results than governments have? Especially since the experience, and awareness, of the damage potential of climate change has grown sharply in recent years, particularly among the wealthy. If you fear that your home might burn down in a wildfire, you might be more willing to put your money into an ESG fund than in an alternative. And if your thermal power project finds it difficult to attract the capital required, you might just drop the idea. For all one knows, therefore, the moves by investors and accounting innovations by economists and auditors could make a critical difference on the margin. Call it Plan B. There is no Plan C.