by Guy Dauncey
First published in The Mint – Fresh Thinking in Economics, June 2019
How can we turn around the world’s financial institutions so that their creation of money serves to construct a new ecological civilization, rather than destroy our current civilization through the financing of ecological and climate catastrophe? It’s a massive problem that needs multiple solutions.
Before we turn our attention to some possible solutions, we need some context. Global GDP in 2018 was $87.5 trillion. Global debt, created by the world’s financial institutions, was $247 trillion, growing by $14 trillion a year. Between 2005 and 2016 the debt increased by 73%, split between governments ($63 trillion), non-financial corporations ($68 trillion) and private households ($44 trillion).
Global finance is not a singular entity. There are some 230,000 financial institutions in the world, including 25,000 fully licensed banks, 80,000 mutual investment funds, 89,000 credit unions, 20,000 to 30,000 shadow banks, and many savings cooperatives, building societies, public banks and other institutions. These entities operate in six different realms, with different values and purposes:
- High Street Finance. Money created by regulated private banks, mostly for property. Purpose: Financial gain and shareholder value maximization.
- Socially Purposeful Finance. Money created by credit unions, community banks and public banks. Purpose: Social, ecological and financial gain. Socially responsible investment has made vast leaps since the 1980s; by 2017 $12 trillion was being screened in the US for ethical or socially responsible concerns. By 2019 $8.73 trillion had been divested from fossil fuels by 1,000 institutional investors which had realized the urgency of the climate crisis and the vulnerability of their investments, pushed by the global divestment movement. A 2017 study of 10,000 mutual funds found that most sustainable equity funds had equal or higher median returns and equal or lower volatility than traditional funds. Another study found a positive relationship between sustainability and the financial performance of stock prices for 80% of 41 studies reviewed.
- Speculative Finance. Money created by regulated private banks. Purpose: Speculative financial gain and shareholder value Institutional investors have $70 trillion under management, including Blackrock ($6 trillion), Vanguard ($5.3 trillion) and UBS ($3.2 trillion).
- Shadow Finance. Money created by unregulated shadow banks and financial entities, including securitization vehicles, asset-backed commercial paper conduits, money market funds, markets for repurchase agreements, investment banks and mortgage companies. Also known as non-bank financial intermediation. Purpose: Speculative financial gain and shareholder value maximization. Shadow banks carry around 13% of the total financial system according to the Financial Stability Board. In 2018 they were worth some $45 trillion.
- Central Bank Finance. Money created by Central Banks for the purposes embraced by each central bank.
- Offshore Finance. Money created by unregulated offshore banks. Purpose: unregulated and untaxed speculative gain. In 2017 they harbored at least $7.6 trillion, half from families with more than $50 million net wealth.
These are vast numbers. At an optimistic best, somewhere between 1% and 8% of global finance may be consciously committed to socially and ecologically responsible values and practices. The rest is still chasing selfish financial returns. Some of these investments are harmless, while others are contributing (wittingly or not) to ecological collapse, climate disaster, inequality, personal debt, unaffordable housing and resentful populism. How then can we embark on a transition to ecologically sustainable finance? Here are five suggestions.
1. The Restoration of Purpose
Governments could embark on a legislated ten year transition for all financial institutions, by the end of which they would have been encouraged to do the following:
- Adopt a new corporate charter which includes a commitment to social and ecological purpose
- Report annually on progress to purpose using Integrated Reporting and a wellbeing balance sheet that tracks financial, manufactured, intellectual, social, human and natural capital.
- Pledge not to lobby for any toxic, fossil fuel or tax-avoiding industry.
- Engage in profit-sharing and offer equity ownership to all employees who have worked for more than a year.
- Have 50% or more women on its board of directors, and allow workers to elect company directors.
- Pay taxes fairly and not engage in transfer pricing, offshore banking or any use of tax havens.
- For larger institutions, appoint a public board of trustees accountable to the common good.
By the end of the transition every compliant financial institution would receive access to three important public benefits: deposit insurance, sustainable finance preferential interest rates, and in extremis a public bail-out, subject to partial or total public ownership. Non-compliant institutions would be on their own, carrying all the risks that this implies.
2. The Restoration of Credit Guidance
Banks create money whenever they issue debt, but their usual guiding purpose is shareholder value maximization, regardless of the harm caused or enabled. Governments could work with their central banks to issue credit guidance limiting money-creation for harmful sectors of the economy and directing it towards the common good, as defined through the democratic process. In the post-war period the central banks of Japan, Taiwan, South Korea and China all used credit guidance to direct credit towards productive industries for export and away from consumer purchases, to build their economies. Banks could be mandated by their central banks to require an Ecological and Climate Risk Assessment Scorecard for every loan above a certain size. Governments could legislate tax advantages for long-term investments, and publish an annual Red List to squeeze out finance for ecologically destructive activities.
3. The Expansion of Public and Community Banks
Governments could pass legislation encouraging and enabling the steady formation of credit unions, community banks, community development financial institutions and regional public banks, empowering them to create money for the common good, premised on social and ecological purpose. The 2013 ILO book Resilience in a Downturn: The Power of Financial Cooperatives found that such institutions out-performed traditional investor-owned banks during the global financial crisis on almost every rating.
This may be the place to throw in some food for thought: that while interest has a positive finance-inducing function for loans that leverage innovation to increase productivity and growth, it has a negative debt, financial crisis and ecological crisis inducing function for many other loans, and may have no place in an economy that seeks to be economically and ecologically stable without economic growth. The cooperative member-owned JAK Bank in Sweden seeks to achieve a fair, sustainable economy by enabling people to borrow without interest based on stored savings. In 2016 they had 36,000 members, $277 million in assets, and a 92% bank sustainability rating. Their goal is a sustainable economy based on a sustainable return on real capital, using natural resources within the limits set by the ecology without dumping long-term costs on future generations.
4. The Use of Central Bank Created Money for Ecological Purposes
Central banks create money. They don’t like to admit it, since they fear the public would not understand, so instead they use phrases such as increasing the credit supply, injecting additional liquidity, monetizing the deficit, open market operations, buying securities, expansionary monetary policy, expanding the balance sheet, and quantitative easing (QE). Central bankers like to emphasize the importance of independence, but they are totally wedded to the health of the overall economy and often receive guidance from their governments. When central banks created money to bail out the banks in 2008 they did so by purchasing toxic and effectively worthless stocks and bonds off the banks, giving the banks a massive injection of liquidity (cash) which the banks leveraged to pour credit into the housing market, creating rapid inflation and the affordable housing crisis.
Had governments been on their social and ecological toes they could have created Affordable Housing Bonds and Climate Bonds, given them to appropriate agencies, and used QE to buy the bonds off the agencies. Even Adair Turner, past Chair of Britain’s Financial Services Authority, Senior Fellow at the Institute for New Economic Thinking and Chairman of the International Financial Stability Board’s major policy committee has argued that governments should use central bank money creation to meet their fiscal needs.
The World Future Council’s chief economist Matthias Kroll has suggested that the world’s central banks could tackle the climate crisis together by creating $300 billion a year in the form of climate bonds and use them to leverage private investments of $2 trillion a year for the transition to renewable energy and other climate solutions. Might this not cause inflation? If global annual economic growth is 4% and inflation is 2%, the world needs a 6% increase in the money supply each year, totaling $4.8 trillion, sixteen times larger than the proposed $300 billion in climate bonds. In Europe this approach is known as ‘QE for People’, and there is a whole social movement trying to make it happen, supported by 115 economists, twenty organizations, thousands of people, and indirectly by the European Parliament, which passed a motion in 2016 acknowledging that conventional QE was failing.
Central banks have mandates. The Bank of Canada has a single mandate: to keep prices stable in a strong financial system. The US Federal Reserve has a dual mandate: to promote maximum employment and stable prices. In the past, central banks have created money to finance national emergencies such as war. In today’s crisis-laden world they need a third mandate: to tackle national and global emergencies, including the climate and ecological crises. QE for the climate could help finance the various Green New Deals that are being called for around the world.
Central banks (with the exception of the US Fed) are cautiously moving in this direction. They have set up the Network for Greening the Financial System, encouraging a precautionary approach to climate impacts and stranded assets and developing the role they could play in scaling up green finance. In her April 2019 speech to the Bank of England, Sarah Breeden, Executive Director of International Banks Supervision, spoke to the estimated $90 trillion that will be needed to finance the climate transition by 2030, and the opportunity for the financial sector to develop new products make green finance mainstream:
“Climate change poses significant risks to the economy and to the financial system, and while these risks may seem abstract and far away, they are in fact very real, fast approaching, and in need of action today (…) We can already hear distant thunder, but we must not wait for the storm to hit. We need to work together internationally and domestically, private sector and public sector, to achieve a smooth and orderly transition. The window for that orderly transition is finite and closing. And our work to seize that opportunity could not be more important. Indeed it is not an overstatement to say that the future of our planet depends on it. All hands on deck.”
5. A Global Agreement to Close All Tax Havens
Finally, governments could negotiate treaties to close down the offshore world and end all tax evasion. It is not overly complicated. It needs a heavy dose of domestic legislation to require foreign financial institutions to disclose their clients’ financial information and impose a 30% tax on payments to foreign financial institutions that don’t comply, and to criminalize the actions of bankers, accountants and lawyers who set up the shell companies and deal with the tax havens, backed by the threat of jail and the loss of license to operate.
It also needs corporate country-by-country income reporting that is taxed accordingly by each government, and a transparent enforced International Financial Register to record the Beneficial Ownership of all assets above a certain threshold of income and wealth.
It’s not that complicated. As Sarah Breeden says, all hands on deck.
Guy Dauncey is an ecotopian futurist who works to develop a positive vision of a sustainable future, and to translate that vision into action. He lives on Vancouver Island, in Canada. He is an Honorary Member of the Planning Institute of BC, and a Fellow of the Royal Society for the Arts. He is currently writing his next book, The Economics of Kindness: The Birth of a New Cooperative Economy. His website is www.thepracticalutopian.ca