We’re in the process of renegotiating the social contract. The old model was: Pay your taxes; obey the law; and the government takes care of the rest. That model no longer works. To use an analogy: New music is playing; we’re on stage; and we don’t yet know who leads. Is it government? Business? Civil society? How do these players interact in a different way? 

In a global economy, governments have lost their ability to control their economic future and are proving increasingly incapable of ensuring social welfare. Global businesses, on the other hand, have prospered, and they have a profound effect on the societies in which they operate. As a result, trust in government has dropped dramatically, and people are looking to global firms to take more of a leadership role in helping to address social challenges. Businesses must now develop more robust corporate governance and leadership frameworks.

They can start by asking the right questions. The first would be whether they have an ESG strategy that identifies which social issues have the potential to materially affect the business. These issues need to be factored into their long-term corporate strategy. Businesses will also need to learn how to weigh and track their financial performance against ESG issues and report their progress to their internal and external stakeholders, among other considerations. 

No. Government also has to do its job. But as business becomes a political actor, part of the challenge will be supporting governments as they try to advance sensible initiatives around climate change and other sustainability issues. Businesses are starting to understand that they can’t do their nice sustainability work on the one hand, and on the other hand lobby against those very same measures. Investors are paying a lot more attention to the political role that large firms play, looking at whether their lobbying is consistent with their stated sustainability goals. 

Politicians, particularly in this increasingly populist environment, are mainly concerned with their local constituents and reelection. This limits their ability to focus on the long term. Institutional investors, on the other hand, are looking 30 years out. That’s why we see large institutional investors start to play the role that governments used to play, ensuring that companies operate for the long-term benefit of both their shareholders and stakeholders in ways that are sustainable, environmentally responsible and good for their employees.

On the ESG front, I’m most encouraged by the move to focus on impact, not just policies and procedures, and the growing realization of the need to address the credit market, which is larger than the equity market and the primary source of funding for carbon-intensive industries. 

In addition to the fact that they are the primary source of financing for carbon-intensive industries, credit markets are also the next opportunity for ESG-focused investment managers with many new green bond issues that are oversubscribed as soon as they hit the market.  

One lesson of COP26 (the November 2021 UN global climate summit in Glasgow) was that you absolutely have to focus on transition strategies. Absent a transition strategy, you’ll have problems if you move too fast without considering the social consequences. We saw that with the yellow vest protests in France—the populist backlash against rising gas prices following a green tax on carbon-based fuel. So, you’re going to see investors spending much more time focusing on companies’ transition strategies, not just their goals.  

There is no one magic bullet. For example, if you’re an airline, you’re not going to get there through more energy efficiency. You’ll have to invest in sequestration to offset your emissions. If you’re a food company, you have enormous potential to change your business model so the business creates less carbon and more value. You have to assess your particular firm’s impacts and what, if anything, can be mitigated through business model transformation or, if not, offset through the purchase of carbon credits.