ESG was a key talking point among political and business circles in 2021. It will only become more topical this year, as both legislators and the general public turn their attention towards the increasingly pressing problems facing our planet and society.
Yet if 2021 was the year when ESG standards were established as a key criterion for an institution’s success, the year’s events largely failed to bear those standards out. At the COP 26 climate summit in Glasgow, the UN seemed unable to agree on the underlying causes of climate change, never mind how to tackle them. Meanwhile, global wealth inequality reached the same level as in the early 20th century when Western imperialism was at its peak, according to the World Inequality Report 2022.
As problems tied to the environment and inequality come to the fore, here are some key trends likely to dominate the discussion around ESG in 2022.
More private sector engagement
Governments would be hard pressed to tackle the toughest global problems without the support of business. Until recently, though, the private sector seemed to be little appetite for meaningful engagement with ESG principles. Last year saw a shift in attitudes, as more businesses and financiers began to publish serious targets and plans for emissions reductions. The CEO of BlackRock, the world’s largest asset manager, endorsed sustainable investing, calling on investors and business leaders to join this “tectonic shift” in the way the world does business. Meanwhile, CitiBank announced the offering of a $1 billion bond to support social initiatives in emerging market communities.
The result was a reallocation of capital which is unlikely to abate in 2022. Already in September 2021, the assets under management by sustainable funds globally swelled to $3.9 trillion (almost four times more than in early 2020). This mobilisation of funds largely comes down to market pressure. Where sustainable investments may formerly have been viewed as unprofitable, data from S&P Global showed that more than half of ESG funds outperformed the S&P 500 in 2021. That momentum is set to grow in 2022 fund managers pile into securities with a sustainability premium.
The proliferation of sustainable indexes will further bolster inflows into ESG stocks by offering investors ready-made constellations of recommended stocks consistent with ESG principles. This is particularly important for retail investors, who may not have access to the same range of analytical instruments as their institutional counterparts.
In 2022, expect burgeoning demand and shifting investor sentiment to boost ESG funds still further. An additional shift may take place on the debt side of capital markets, extending the mandate for sustainable business. Cleantech innovations, meanwhile, may disrupt even traditional markets as a positive environmental impact goes from being an added bonus to a must-have for investors.
Greater focus on social inequality
The “E” in ESG, which stands for Environment, has traditionally been the centre of attention. 2022 may be the year when “S” – the Soial factor – finally gets a word in edgeways, as conversations about the societal implications of the energy transition gain momentum. Debates around the just transition are where “E” and “S” collide, and could provide the perfect opportunity for governments to address wider problems of social inequality.
The Just Transition Declaration, signed by more than 30 countries at COP 26, pledges to support communities through the shift to a more sustainable economy. In practice, this often translates into more funding for communities that will lose out from the de-commissioning of high-emission industries. The EU is a leading player in calls for a just transition and has a €17.5 billion (US$19.8 billion) Just Transition Fund designed to help Europeans adapt to the 55% reduction in emissions promised by 2030. Meanwhile, examples of international collaboration on the just transition are becoming ever more common – like the UK’s CDC Group working to draw up a just transition financing roadmap with India and South Africa, two of the world’s most coal-dependent economies.
Perhaps the logical next step will be the growth of investor initiatives for a just transition. The World Benchmarking Alliance rates 180 companies on their contributions to the just transition, and research by Harvard and the London School of Economics has stressed the need for more investors to take commitment to a just transition into account when weighing up their portfolios.
Detailed strategies for carbon reduction
At first, it was a struggle to achieve transparent ESG reporting from companies. With no universally agreed framework for reporting ESG data, this continues to be a sticking point. Yet for the most part, governments and businesses have agreed that net zero is a desirable target, and many have even set themselves a timeframe for achieving this goal.
Now we will start seeing pressure on them to translate those targets into a more concrete strategy detailing exactly how they intend to reduce their emissions. Australia’s Prime Minister Scott Morrison was widely lambasted in October 2021 for committing to net zero by 2050 while also refusing to phase out coal mining. Seemingly unable to back up his target with any more substantial plans than a vague hope for “technology breakthroughs”, Mr Morrison was accused by Labor of simply following a “vibe”. The same criticism may be levelled at any government or institution that fails to develop a detailed strategy for how it plans to achieve its stated emissions reduction goals. BlackRock’s CEO Larry Fink used his annual letter to CEOs in 2021 to demand that companies disclose their plans for achieving net zero emissions.
Luckily, there are some materials that can help. The Ceres Roadmap is a pre-made 10-year action plan designed to help companies bring their operations in line with ESG standards. This outlines a path not only to emissions reductions and ecologically sensitive practices, but also the championing of human rights, wage equity, and representation of diverse backgrounds at every company level.
In 2022, there may well be a race to adopt meaningful ESG targets and detailed roadmaps, as the market rewards those companies that show that they are putting their commitment to ethical and sustainable business practices to action.
Governments devise more substantial incentives and disincentives for going green
But the market is not always guaranteed to reward the companies espousing ESG principles with competitive advantages. That’s why international cooperation is needed to create financial incentives for those improving their ESG standards – and to ensure adverse consequences for those who refuse to engage.
Carbon pricing mechanisms were fleshed out in 2021, but none has emerged as a universal system. This risks their misuse as an unofficial form of sanction or trade barrier, or to gain an upper hand in trade wars. The EU’s Carbon Border Adjustment Mechanism, intended to come into effect in 2023, has been heavily criticised, portrayed by some as a trade barrier which discriminates against non-EU carbon emitters in favour of European ones. In high-emission industries particularly, like aviation and agriculture, it is crucial that governments try to agree on how carbon prices should be measured and implemented.
Meanwhile, there’s nothing to stop individuals advocating for greater alignment with ESG principles. In June 2021, activist investment firm Engine No.1 managed to get three candidates elected to energy giant Exxon’s board against the will of its own executives. This cost the firm a modest $12.5 million, and won it three votes in favour of a green transition. This year is a very different model of engagement, and it’s a pricey one. But the victory against Exxon was a symbolic start, and this approach may well become more popular in 2022 as a form of protest and a way of kindling discussion.
