Episode 43 - Ethical Money
Ethical consumption is about bringing your values more clearly into how you spend your money. But what about the money that you’re not spending? The money that you have deposited in a savings account is actually being used all over the world to finance all kinds of economic activity. So, where you put your money – and what happens to it while it’s there – matters.
Mo’ Money Mo’ Problems: Ethical Problems in Banking and Finance
Banks and other financial institutions take money and invest it, with the hope of getting a rate of return so that they can pay interest to customers, provide dividends to shareholders, and generally make a profit. That is a role that is really important, because people and organizations need to be able to access capital in order to invest in stuff that improves productivity, which in turn should benefit everyone.
So, banks and other financial institutions provide an important service that allows capitalism to work. And I don’t mean that as a moral statement of any kind, it’s just functional: in a society where you get resources through transactional exchange, having access to finance is essential and banks facilitate transactions. But because finance carries out this essential function for effectively everything, financial institutions are potentially culpable for a range of ethical problems.
Because financial institutions manage other peoples’ money, they have a fiduciary duty to be responsible with how they use it. That generally means that financial institutions prioritize seeking a return on investment that is either as high as it can be or lower, but more stable. And whether you’re investing retirement savings or you just rely on your bank not to go under, that is important (and not inherently a bad thing).
However, some people argue that financial institutions could achieve a better balance so that ethical practices are brought into decision-making in a more central way. Financial institutions are also a step removed from most ethical harms, so they can be more difficult targets for consumer campaigns.
It would be impossible to develop a comprehensive list of all of the ethical concerns with financial institutions, just because finance touches everything. But it is useful to talk about some of the issues that are the most common targets for consumer pressure. I’ll talk about some environmental, social, and governance problems associated with the financial sector.
After that we’ll talk about what ethical finance is, some of the most common forms that it takes, and debates about ethical finance. Then we will end the episode with some tips about how you can try to bring ethics into your financial decisions.
Environment
Banks invest in industries that are linked to environmental damage. Climate change is often the focus for activism targeting banking and the environment, but issues like conservation and pollution can feature as well. Banks have provided $2.7 trillion in financing to the fossil fuels industry since the 2015 Paris Agreement
The Rainforest Action Network produces a Fossil Fuel Finance Report, which includes a graphic where you can find information about the top fossil fuel-supporting banks.
o JP Morgan Chase: $268.59 billion in fossil fuel financing 2016-2019
o Wells Fargo: $197.91 billion
o Citi: $187.67 billion
o Bank of America: $156.92 billion
The fossil fuel divestment movement aims to address climate change by convincing financial institutions and institutional investors to divest from companies that extract fossil fuels. If you are interested in campaigning for fossil free divestment, this website has resources.
There are a number of banks and ethical funds that have committed to divesting from fossil fuels. Some ethical finance aims to promote environmentally friendly projects. One example is carbon offsets, which we discussed in a previous episode.
Social
Social issues are those connected to the wellbeing of people. Banks have been targeted for financing companies that harm society. This includes things like investment in tobacco companies and private prisons.
Banking and Conflict
The Is Your Bank Loaded campaign grades banks based on their investment in firearms manufacturers. Notably, TD Bank received an F score from this organization.
The organization asks for banks to take a number of steps, including divesting from firearms companies until the US government adopts adequate regulations. Top companies invested $748 billion USD in the nuclear weapons industry. The Don’t Bank on the Bomb campaign reports on the financial institutions that seek to profit from companies that produce key components of nuclear weapons and nuclear weapon delivery systems. You can check out their list of who invests and who divests.
Governance
Governance issues are connected to how financial institutions themselves operate.
Tax Avoidance and Evasion
We talked about tax avoidance and evasion in our episode on tax justice. Tax avoidance and evasion is a massive public policy concern: it is unfair, increases inequality, and makes it more difficult for governments to provide good public service. Banks are some of the biggest tax avoiders and they help their clients avoid tax. Oxfam has reported on the use of tax havens by major European banks.
Banking and Gender
Banking is an industry with a big gender gap. In the UK companies have to report on their gender pay gap. According to those reports, finance firms pay the average man 25% more than the average woman, compared with a 17% pay gap across all sectors.
What is Ethical Banking/Ethical Finance?
In 2018 there was a total of $12 trillion in US-based assets managed using sustainable, responsible and impact (SRI) investing. This was up from $8.1 trillion in 2016 and from under $1 trillion in 1995. That means that today, about 26% of professionally managed financial assets are managed using some kind of sustainable, responsible, and impact investment.
So, that means that some kind of ethical rule was used in the management of about a quarter of financial products in the US in 2018. And this is a category that is growing every year.
Social finance refers to “the allocation of capital primarily for social and environmental returns, as well as in some cases, a financial return”.[1] It is an umbrella term denoting a variety of approaches in which finance is used to advance environmental, social, or governance (ESG) objectives. It “seeks to align investments with the personal values of investors and to harness the resources and power of the financial sector to improve corporate social and environmental behavior”.[2]
But ethical finance is a big category. There are lots of different kinds of issues we might want to consider in terms of ethical content. Ethical finance usually thinks about ethics in terms of three categories: environmental, social, and governance. When you hear the acronym ESG, that’s what that means.
o Environment: does it advance conservation, sustainability, or decarbonize?
o Social: does it improve the rights, dignity, and living conditions of people? Does it make society better?
o Governance: are responsible governance practices being used? How transparent, equitable, democratic, and accountable is it?
There are three broad approaches to ethical finance:[3]
o Positive: actively investing in good things – pollution management, renewable energy, water efficiency (carbon offsets)
o Exclusion (divestment): approaches ethical finance from a negative perspective – so rather than actively funding good projects, this would be eliminating certain investments seen as harmful (e.g., tobacco, gambling, pornography, fossil fuels, arms, private prisons)
o Holistic: where the company managing your finance looks holistically at the ethics of companies in which they are investing your money (e.g., on human rights, taxation, inclusivity, sustainability) and may express voice once invested in that company
Divestment remains the most common kind of ethical finance strategy.[4]
Another way to frame ethical finance is in terms of approaches.[5]
o Ethical finance: thinking about a personal moral compass;
o Responsible investing: focused on financial value, but with certain ESG constraints;
o Impact: thinking about the outcomes that investments are generating and implications for investor preferences
Historically, SRI has been used to confront environmental concerns, board and hiring diversity, international issues like Apartheid in South Africa and the Vietnam War, human rights, animal rights, labor rights, abortion, tobacco, and, more recently, gun violence.[6] As of 2005 Canada had approximately $55 billion USD in assets under management of SRI portfolios.[7]
Institutional investors play a big role in sustainable, responsible, and impact investment. That includes public funds, corporations, educational institutions, foundations, faith-based investors, healthcare funds, labour union pension funds, nonprofits, and family offices.
Does Ethical Finance Work? The Mission versus Returns Debate
There is some debate concerning the extent to which SRI is, and ought to be, motivated by moral concerns – in contrast to evolving understandings of risk. For instance, the carbon bubble or “unburnable carbon” hypothesis suggests that it makes good financial sense to divest from fossil fuels, irrespective of one’s moral views about environmental stewardship.[8] So, it can sometimes be difficult to identify whether ethical motives actually underlie ethical finance.
Why does that matter? Well, in one sense it doesn’t: climate change doesn’t care whether you divest from fossil fuels because you feel morally compelled to or because you’re worried about stranded assets. But in a broader sense: if all ethical investment is really financially driven, that places severe limitations on how effective ethical investment can be as a tool of social change. Because if it ultimately is about making money, then you should target other companies so that the banks see a different financial calculus when assessing investors. But if you can convince consumers and institutional investors to genuinely accept a trade-off between their rate of return in exchange for ethical values, then that is a huge possible source of change.
How Can People (Who Don’t Have Scrooge McDuck Money) Approach Ethical Finance?
How can you, as a person that uses money, incorporate ethical practices into your financial decisions? This is a topic that deserves its own episode, but I will try to sketch out some of the basics here.
Choosing Your Bank
The first thing you can do is to find out how ethical your bank is, when it comes to ethical issues that matter to you. And you can also check out how your bank compares to others. You can do that on an issue-by-issue basis by checking out the campaigns mentioned above. Ethical Consumer has done a rating on banks. It is from a British perspective, but there are international banks on there. See where your bank stacks up compared to others in their overall rating. If your bank compares badly, it might be time to look at another financial institution.
Try asking your bank directly about their ethical practices, especially if there is one issue in particular that matters to you. Has the bank divested from fossil fuels? Does it apply any ethical criteria on its investments? Are there specific financial products you can access that do utilize ESG criteria. If you do switch banks for ethical reasons, be sure to tell them! Ethical Consumer has a template letter that you can use.
Many of the large, commercial banks rate similarly on ethical issues. So, you may want to go with a different sort of bank: a credit union.
Credit unions are financial co-operatives owned and run by their members. Credit unions are not-for-profits, so any money that is earned is invested back into the organization, distributed to members, or donated. “Credit unions provide a community-focused approach to day-to-day banking, with an emphasis on meeting customers’ needs rather than turning a profit.”
Although being a cooperative does not necessarily mean that ethical investment practices are being used, credit unions are more likely than corporate banks to incorporate ethical criteria in their decision-making. Canada has approximately 700 credit unions and people’s banks [caisses populaires]. In Canada, you can look for credit unions here.
To join a credit union, you have to buy a share in the credit union. In some cases there may be other requirements – for instance, you may need to be a resident of the province the credit union is in. Credit unions offer narrower credit product selection and their online tools are usually worse, but they typically have higher interest rates on their savings accounts, lower account fees, and better customer service. Credit unions operate democratically, so each member has one vote regardless of the size of investments or deposits. A credit union’s board of director is volunteer-run and elected by members. Commercial banks elect their board of directors through shareholders.
The Global Alliance for Banking on Values (GABV) is a network of banks that are working towards a banking sector that is more transparent and supports economic, social, and environmental sustainability. You can find GABV member banks in your country by going on the GABV website. Three Canadian financial institutions are GABV members: Kindred Credit Union, Vancity, and la Caisse d’économie solidaire Desjardins [the Desjardins solidarity economy fund] (a partnership between private philanthropic foundations and the Desjardins solidarity economy fund).
And, of course, you can always tell your bank that you want to see them doing more on ethical finance.
Choosing a Financial Advisor
If you have (or plan to have) a financial advisor, you can find a firm that will incorporate ethical factors.
Start by searching for “financial planner” (or “financial advisor”) and “socially responsible”, “green”, “SRI”, “ESG” or “sustainable investing”. Usually firms that do ethical investing will have this on their website. If ethical criteria are not prominent on the website, it can be a sign that ethics are not central to what the firm does.
But the reverse is not necessarily true: companies may engage in “ethics washing” by marketing themselves as socially responsible without truly incorporating ethics into their investment practices. You can consult the greenwashing guide for more information about funds using greenwash and how to spot greenwash. Or try Ethical Consumer’s guide to ethical investment funds. They also have guides on mortgages and a few other financial products.
By listening to this episode (or reading this research note) you’ve already armed yourself with some of the basics in ethical finance. But it can be worthwhile to read about it a little more – pick the elements that are most interesting to you and make sure you understand the basics. You can also try asking your current financial advisor about ESG or socially responsible index funds. Here is a list of 23 top socially conscious index funds according to Forbes.
Do Your Own Ethical Investing
You can, of course, personally invest in ethical companies by buying shares in ethical companies. But I would not advise this for a large sum of money, unless you are an expert and/or willing to put in a lot of time and effort to learn about investing.
Use Your Voice
Even if you don’t have very much money, like me, you are probably a member of at least one organization that has significant financial assets. Maybe it’s your pension fund, your local schoolboard, your university, or a faith-group you belong to. Get involved with campaigns to make your organizations more ethical investors. Universities and faith groups especially have been very active in the fossil fuel free movement.
Notes
[1] Nicholls, Alex. (2015). Social Finance: Capitalizing Social Impact. In A. Nicholls, R. Paton, and J. Emerson (eds.) Social Finance. New York: Oxford University Press.
[2] Richardson, Benjamin and Peihani, Maziar. (2015). Universal Investors and Socially Responsible Finance: A Critique of a Premature Theory. Banking and Finance Law Review 30(3): 405-455 at p.406.
[3] Money Box Podcast. (1 May 2019). Ethical Investing. BBC Radio 4.
[4] Trinks, Pieter Jan and Scholtens, Ben. (2017). The Opportunity Cost of Negative Screening in Socially Responsible Investing. Journal of Business Ethics 140: 193-208.
[5] Fintech Insider Podcast. (2 October 2020). Insights: ESG and Sustainable Investing – the Ethical Future of Finance. Fintech Insider Podcast.
[6] See, e.g.: Hoffman, A.J. (1996). A Strategic Response to Investor Activism. Sloan Management Review 37(2), 51-64; Tkac, Paula. (2006). One Proxy at a Time: Pursuing Social Change through Shareholder Proposals. Economic Review-Federal Reserve Bank of Atlanta 91(3), 1-20; Vitols, “European Pension Funds and Socially Responsible Investment”; Renneboog, Luc, Ter Horst, Jenke, Zhang, Chendi. (2008). Socially Responsible Investments: Institutional Aspects, Performance, and Investor Behavior. Journal of Banking and Finance 32: 1723-1742.
[7] Renneboog, Ter Horst, and Zhang, “Socially Responsible Investments”.
[8] Lorinc, John. (19 January 2016). The Tragedy of the Horizon. Corporate Knights, http://www.corporateknights.com/channels/leadership/the-tragedy-of-the-horizon-14531832/.