It is time to conceive a sustainable financial system

David WOOD

Director, Initiative for Responsible Investment at the Hauser Center for Civil Society at the Harvard Kennedy School

In recent years, policymakers have continued to call for the mobilization of private capital to public purpose. As the recent examples of COP 21 in Paris on climate change, and the Financing for Development Conference in Addis Adaba on the Sustainable Development Goals suggest, the expected role of investors in addressing the world’s biggest challenges is, at least in the minds of advocates, immense.
At the same time, we have seen the growth of investment practices – falling variously under the headings such as responsible, social, sustainable, or impact investing – that are meant to take important environmental and social challenges into account. Integrating Environmental, Social, and Governance (ESG) information into financial decision-making – a practice nominally subscribed to by ever increasing numbers of the world’s investors — has been put forward as a way to improve long-term investment performance by better aligning investment outcomes with the interests of society. And there is also an increasing number of investors who seek to intentionally use the tools of finance to create outsized social and environmental benefits.
Implicit in both the call from policymakers to mobilize finance to public purpose, and the growth of investors explicitly address ESG issues and social impact, is a critique of business as usual. Finance, they imply, will not answer social challenges on its own. So what can be done to accelerate the change that they seek?
One way to tackle this challenge is to work on how things become investable – how the systems that produce investment opportunities can better prioritize the social and environmental goals towards which investment is meant to turn.
Over the past several years, we at the Initiative for Responsible Investment have worked, with our colleagues at the Kresge Foundation, NRDC, and others, on a set of projects that have focused on the question of organizing demand for investment with a public purpose, often with a focus on the built environment. The projects try to address both strategies to help coordinate disparate stakeholders and resources in ways that allow investment to take shape differently; and on mechanisms to ensure that the social and environmental goals of the investment are met.
Here are four brief lessons from that work:

  1. Strategic priority setting is a question of governance. The priorities around which investment is organized need the political and civic legitimacy to allocate scarce resources towards their highest use, and to constrain finance to the community’s goals. Effective governance can help give confidence to investors that projects will be seen through to the end, and also mitigate against the threats of rent-seeking and green-washing.
  2. There is a need for standards that define what constitutes public purpose investing. Significant progress has been made in helping define green bonds, or targeted investment in low- to moderate income areas; and there are labor and human rights standards that can help shape how investments are made – but there is still significant work in making these standards the accepted framework for projects, the coordination mechanism that integrates resources from public, private, and civil society sectors.
  3. Specialist investment functions – taken on by institutions like community finance institutions or green banks, development finance institutions or foundations –can play vital roles in paving the way for motivated investors. There is often extra work to be done in rethinking how finance can better serve public purpose, in crowding in investors, that requires a different way of thinking about the goals and tools that investors have. We might think of this work as research and development for socially motivated finance, and policymaker and investors should support it.
  4. Finally, work on organizing demand for particular kinds of social investment takes on meaning within the broader discussions of how to rethink the role of private investors in the world’s challenges – the sort of thing covered in UNEP FI’s recent Inquiry into the Design of a Sustainable Financial System. I suspect that the research and development that goes into organizing demand can help identify the sorts of tangible activities that can lay the groundwork for the broad-based systemic policy and cultural changes that may be needed to take on challenges like delivering on the SDGs.