What barriers should be overcome to make the financial system more ethical?

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Can the financial sector harness innovation to drive impact investing?

If you want to know what moves the needle to grow or shrink economies and industries, follow the money. Governments may write the rules for the financial sector, but it’s investment that drives innovation and growth, tipping the scale in favour of some industries and companies over others.

As the world continues to veer towards a climate catastrophe, it’s never been more important to harness the financial sector’s potential to help drive a transition towards a low-carbon economy. 

In an open letter to policymakers and the financial sector earlier this year, the Governor of the Bank of England, Mark Carney, made a case for ‘greening’ the financial system to avoid a ‘Minsky’ moment – a term used to refer to a sudden collapse in all asset prices. 

The Network for Greening the Financial System (NGFS) was set up in 2017 as a coalition of 34 central banks and supervisors. It attempts to translate a concern for climate risk into concrete action and deliverable goals to encourage the transition to a low-carbon economy.

Carney wrote that the prime responsibility for climate policy will continue to sit with governments, but that the private sector will determine the success of the adjustment. 

“As financial policymakers and prudential supervisors, we cannot ignore the obvious risks before our eyes,” he stated. 

But the financial sector struggles with systemic issues, which, if left unaddressed, could block the urgently needed momentum towards impact investing.

After the 2008 crisis sparked increased scrutiny of the financial sector, many insiders conceded a need to develop a different system and new ruleset.

Free market capitalism has led to the consolidation of wealth into fewer and fewer banks: these banks and financial institutions can divide the market like a cartel; lobbying governments to influence regulatory decisions. Banks can also play off one government against another, threatening to pack up and leave if they dislike new regulation. 

Government agencies often rely on banks to self-declare and submit reports produced by their internal management. But with banks’ investments being so complex and widespread, this internal reporting system can often fail to provide the full investment picture.

Governments’ power to regulate financial institutions is further limited by the global aspect of finance. Regulation and politics operate on a national level, while the reach of the financial sector can span the globe, swaying industries on multiple levels.

Add to this a hire and fire culture which pressurises employees to turnover a profit regardless of sustainability considerations. With the mismatch between the limited reach of governments’ regulation and the globally operating banks you basically have the ingredients for immorality in the investment space. 

The irony is that prioritising short-term profit over socially responsible investing can only lead to eventual widespread destruction of the world’s most valuable resources and so threaten the foundation of economic and financial assets. 

So how can the financial sector create a culture and system that prioritises ethical, sustainable investment?

There’s no doubt that it will take a global army of people, governments, and financial institutions looking for ways to promote impact investing and calling out unethical practices. But new technologies could also play a role as they open the investment space 

FinTech is undergoing a period of rapid innovation as blockchain and crypto currency threaten major disruption. 

As social media giants like Facebook enter the sector with their own crypto currencies, the playing field is beginning to shift. Assets tokenised on blockchain and Initial Coin Offerings have opened up investment opportunities to a much broader base of investors.

Facebook has announced plans to launch an Exchange Traded Fund (EFT) which will be based on Libra, a digital asset backed by a basket of currencies.

Jonny Fry, Chairman at Gemini Capital, said that with Facebook’s ability, cash, and global distribution and brand, “even the biggest asset manager in the world needs to pay attention.”

In the asset management sector, blockchain technology has enabled the tokenisation of funds, which Deloitte summarised as: the creation of a new financial system – one that is more democratic, more efficient, and more vast than anything we have seen.

“WePower is an example of how tokenisation can democratise the investment space,” Fry explained, “the company is looking to tap into the fast-growing Australian solar and wind power market. It carried out an Initial Coin Offering (ICO) in February 2018, and raised $40 million from over 22,000 investors.”

A 2018 Global Impact Investing Network study reported that over 90% of impact investors reported investments that met or surpassed their projections: socially responsible investments have proven that profit doesn’t have to take a hit when people and planet are prioritised. 

Currently, it’s the younger generations leading the trend towards impact investing, according to Investopedia, and as millennials gradually gain more influence in the investment market, this trend is expected to grow.

Tokenised assets and ICO launches may be a drop in the bucket of the global investment sector, but they’ve helped crack the door open to a more democratic modus operandi. 

It’s now up to regulators, investors, bankers, and global citizens to continue to push for investments that create a greener, safer future. 

With 12 years left to make a major transition towards a low-carbon future, the dice have been cast. The world hangs in the balances. The dark clouds may be daunting, but history has shown that humanity is capable of phenomenal innovation and fast-paced change.