Category: Featured Article

Lessons from history – learning from a prior period of climate change

As we face the potential of meaningful climate change, it can be helpful to see what happened the last time there was a significant change in the climate. Fortunately a German historian, Philipp Blom, has done quite some work for us in his book, Nature’s Mutiny. This book provides insight into how substantial changes in the climate lead to significant social, political and economic shifts. These shifts created both winners and losers with my current country of residence, The Netherlands, generally profiting from the increase in trade as goods, especially grain, moved from areas of production to areas of need. Given that future climate change is likely to significantly impact food production, looking at history can provide useful frameworks for the future.

The key factor driving societal changes was a decrease in average temperatures of around 2℃ in the North. This “Little Ice Age” between 1500 and 1700 was a significant change in climate with especially important consequences for food. Although the book notes it remains unclear what was the specific cause of this climate shift, it provides useful insight into the impact of the shift on society. From my perspective the book occasionally overstates its premise with all societal changes occurring in this time period being related to the climate change. Although I believe there is strong correlation between many economic consequences and the climate shift, attributing all of the cultural changes including the emergence of the scientific method to this shift seems to me to be overstating the case.

As we face the likelihood that the climate will be moving in a 2℃ plus direction, it is important for banks to consider the impact of likely economic changes on their portfolios. These impacts are likely to be not only economic for their clients but also social and political. Furthermore, I believe that values-based banking decisions should lead banks to use their risk allocation decisions to support efforts to mitigate potential climate impacts from resulting from a carbon driven economy.

In addition to his analysis of the impact of climate change, Blom provides a very cogent criticism of our current fixation in economics and politics on relying on markets to resolve all problems. He notes: “(t)his now-outdated neoliberal concept of how a human economy works does not begin with an understanding of human nature or social structures or goals. It elides complex motivations and constraints into a posited rational self-interest. Flying in the face of all evidence, it assumes that transactions in the marketplace happen on a free and equal footing, that both sides have the same amount of choice and information. No social reality throughout history supports that claim. It is inherently counterfactual, constructing what is in effect a theology of the market.” This historical driven criticism is a useful perspective from a naive economic model that relies on numerous assumptions that are not realistic in the world in which we exist.

As important as the overall book is in providing useful thinking about the impact to climate change on society and all of its aspects, I believe that this detailed criticism of a naive “belief” in markets is an even greater contribution of this book to the discussion on the role of markets and banks on society. A book well worth reading for new considerations on many fronts.

I plan to provide a longer article every 4 to 6 weeks exploring a relevant topic in more detail.

This week ground-breaking research analyzing the financial performance of the 100 largest banks in the world was released showing  banks that outperform on material sustainability issues also outperformed financially. This research was one of the last projects I worked on at the Global Alliance for Banking on Values. The research was conducted by KKS Advisors with support from the European Investment Bank and Deloitte in addition to the Global Alliance. The summary chart from the report was featured in the Financial Times Moral Money article of 11 December 2019. The full report can be downloaded from the Global Alliance from this link.

This research builds on the long time research of the Global Alliance that compared the financial profiles of the largest banks in the world – the banks too big too fail – with the members of the Global Alliance. This research grew out of the initial actions following the 2010 meeting of the Global Alliance in Dhaka, Bangladesh hosted by BRAC Bank. At that meeting we decided to look at two issues: 1) developing sources of capital for values-based banks and 2) developing metrics to measure not only financial but also social and environmental results in banking.

To make the business case for investing capital in values-based banks, the Global Alliance decided to look at the financial profiles of values-based banks with the Global Systemically Important Banks as defined by the Financial Stability Board (e.g. the banks too big to fail). This research was published in early 2012 with data through yearend 2010. It has subsequently been updated on an annual basis.

The results of the comparisons showed substantial differences between the two sets of banks. Values-based banks had a very significantly greater exposure to the real economy, a great reliance on client deposits for funding, stronger capital positions, and stronger and more stable financial returns when compared with the largest banks in the world. In other words those banks that claim to be shareholder driven were actually delivering poorer results than banks focused on delivering social and environmental results for the communities in which they operate.

However, the research of the Global Alliance was criticized for comparing apples and oranges (e.g. small niche banks and large global banks) and not analyzing the financial returns from an investor perspective. The challenge was to address these two issues with another research approach. In research published in 2016, it was shown that firms with good ratings on material sustainability issues significantly outperform firms with poor ratings. This research developed by George Serafeim of Harvard Business School among others did not focus on banks.

The recently released research used publicly available data for the 100 largest international banks by market capitalisation as of September 2018 to determine if a focus on material sustainability issues as defined by the Sustainability Accounting Standards Board led to better financial performance relative to returns to investors. The results showing that this was the case are summarized in this chart.

I would encourage you to read both the GABV research as well as the new report. I believe both show that a focus on values-based banking is compelling not only due to its ability to deliver social and environmental results but also financial results for investors. Values-based banks by focusing on delivering value to society, deliver value to their investors.

There are many more research issues raised by the new report. And the exploration of the drivers of success are not fully clear. I hope to further explore those issues in the future.