The advent of Sustainable Finance is truly a ground-breaking enabler in the social and development sector. Not only the new source of innovative finance provides incremental capital for development projects and social entrepreneurs but quantifies social change through measurable impact evaluation.
To understand sustainable finance, it’s imperative to understand the evolving sustainable development sector and the role played by the chief universal actor within the social ecosystem, the United Nations. UN is the principal driver of sustainable development through its work through specialized agencies, key international organizations and multilateral development banks. United Nations promotes human rights, peace & security, sustainable development & humanitarian assistance through its specialized agencies. In 2015, UN formed a framework of very ambitious, bold and targeted agenda in the form of seventeen sustainable development goals to address pressing problems by 2030. These goals became a guiding beacon and benchmark for international development. Along with SDGs, Addis Ababa Action Agenda and the Paris Agreement on Climate Action became the 2030 Development Agenda.
Fig: The middle Road
“The diagram outlines different styles of investing based on financial and social good/impact. ESG segment includes investors who give preference or solely look only into financial returns; socially responsible investing gives a choice to both social and economic gains. Impact Investing ranges for investors looking for an above-average market return, a majority among all investors based on GIIN recent investor analysis, to those ranging from medium to sub-par return. Blended finance which includes catalytic first loss guarantee ranges from grants from foundations, multilateral agencies etc. (loss capital to below-market return) to market return for impact returns structures tranches based on risk investment profile.”
Sustainable Finance roots go a long back when ethical finance (negative screening of sectors and stocks, e.g. tobacco) started more than a century back. This style is still the most dominant in ESG. This started the humble beginnings of ESG today, which has $31T as assets under management.1 As ESG became more active and integrated within the investment decision making, more productive strategies emerged including norm-based, best in class, impact investing etc. PRI catalysed ESG’s beginning as an investible asset class, especially among pension funds when selected asset manager with $2T assets including CALPERS signed and joined the board. The Who Cares Wins conference in 2005 backed by UN Global Compact arm along with 20 financial institutions from 9 countries with multiple actors laid down the genesis of ESG within the parlance of sustainable finance.2
Today, ESG is fast gaining a measurable momentum as an asset class as it gets integrated within investment decisions backed by a surge a decisive thrust by UN and selected governments, rise in transparency for best corporate social responsibility practices, activism among civic societies, stricter e-privacy laws, increased global linkages in supply chain and proliferation of inclusive technology. Bank of America expects more than $20T to over the next year into ESG funds and 2250 asset managers with $80T have already signed UN PRI. 3 Compare it with global equity markets which are around $100T, with US share around $39T, the size is colossal. 4
Addis Ababa Action Agenda on Financing for Development led and organised innovation in finance for development sector. The role of some of the most significant multilateral banks esp. the World Bank (IFC), IMF and European Investment Bank, kick-started private sector financial products for achieving sustainable development goals. The launch of the first green bond fund in 2007 foretold the beginning of the present avatar of Sustainable Bonds.
Impact Investing, along with blended finance, helps in structuring deals for projects attracting private capital based on risk-adjusted capital. Although Sustainable Bonds, Impact Investing and Blended Finance still account for less than $2T of capital accounting for less than 2% of the global debt capital markets. Paris COP21 agreement brought in a buy-in for climate change and finance from many countries leading the way with a quantifiable target of limiting global warming. In the private sector, Social Impact Bond, a collaborative pay for success model evolved in public-private partnerships especially through development impact bonds. This complemented in a limited manner the evolving sustainable finance setting up public private partnership as a key enabler within the SDG framework. Adoption of sustainable finance with alacrity by selected developing countries turned out to a shot in the arm nudging other countries to follow suit.
Further, impact and sustainable investing which directly address social impact along with economic parameters brought in private capital for social sector. According to IMF, these investments did not turn out to patient capital although there are contradictory data on this effect. Marginalized Returns by Stanford Social Innovation review shares a startling and contrarian perspective on financial returns and closely emulates the philosophy of this platform.
Sustainable Finance fosters an ancillary industry in impact evaluation. Armed with evidence-based impact, the pie of Sustainable Finance increased to more serious investors who spurned investing into the development sector due to lack of accountability, transparency, corruption especially in developing economies. Slowly but steadily new regulatory, accounting standards, forums and committees emerged including Equator principles, UN PRI, Global steering committee, GIIN, IRIS, GSIA, G20 sustainable finance group, sustainable global network, TEG, standards governing sustainable bonds to name a few.
Notwithstanding different ideologies which constantly create hurdles for a consensus forward outlook, the world is on the cusp of the biggest and sustained innovation in social finance. The next decade will prove to be the most critical era in humanity for tackling poverty, empowerment, equality, healthcare, live hood among other important issues facing humanity.
Detailed publication on Sustainable Finance coming up.
- Global Sustainable Investment Alliance
- Who Cares Wins
- SIFMA 2019 OutlookUNpri.org ; UN articles, UN PRI