What motivates corporations to make green decisions?

Posted in: Business and society, Climate, Environment, Research

Here Richard Fairchild explores why organisations make sustainability-focused decisions, even when it risks their bottom line and profits, using intrinsic/extrinsic motivation theory.  He also considers the problem of greenwashing, and looks at how this theory can be used to understand why political bodies have been so ineffective at stamping out this practice.

At a time of increasing threat to the environment there has been a growing understanding that businesses and investors need to think beyond the financial bottom line and consider the societal impacts of their behaviours. For example, the EU auditors are calling upon the EU to do more to encourage sustainable business and investments in Europe.

There was a period when businesses and investors focused only on the financial ‘bottom line’; investors were interested in the risk and expected financial returns of their investments, and businesses prioritised maximising shareholder wealth. Milton Friedman once famously said “the only ethical responsibility of a company is to its shareholders!”.

A growing focus on ethical business

In recent years, however both company management and investors have realised how important it is to consider the social and environmental impact of their behaviour and their economic decisions. Companies are increasingly thinking about the “triple bottom line” effects (financial, social and environmental) of the projects that they invest in and work on (often at the expense of company profits), while investors are increasingly thinking about the social and environmental impact of their investments (often at the expense of their financial returns).

So why has there become an increasing awareness of Environmental, Social, and Sustainable Governance (ESG) impact amongst company management and investors? Researchers argue that there is a complex mixture of motivations for this shift in attitude. It’s been argued that intrinsic motivations and emotions (non self-interest, thinking about others in society, warm glow, altruism, empathy, feelings of fairness) may lead to investors being happy to sacrifice some financial return in order to make a difference to society.  There may also be extrinsic motivations: people want to look good in the eyes of their peers: “Look at me, I only invest in ESG stocks!”

Why do executives make green choices?

At the corporate level, the motivation to consider PPP (people, profit, and planet) is even more complex. Some researchers ask: can companies actually have a conscience?  Well, companies are a collection of executives, managers, employees - so the company culture will reflect the collective thinking and attitude.

Consider, for example, a company that currently has a highly polluting production process, pumping toxic waste into the environment. It can invest a lot of money into cleaning up its act, at great cost to company profits and shareholder wealth. The extrinsic motivation, “Milton Friedman type” argument is that, without force, this company will not make the costly environmental clean-up investment.  It would have to be forced by regulation and legal threats to make this clean-up investment. Alternatively, if the company could see long-term economic benefit from making this investment, such as attracting green investors, green consumers, even green employees, it may make this investment. Again, this is an extrinsic argument - being environmentally friendly for economic, pound note, reasons.

The intrinsic motivation argument is much brighter: the company may have management who actually care about the environmental damage caused by its production processes, and may be motivated to make the clean-up investment, at financial cost, due to ethical conscience, good feelings, and warm glow.  Some researchers surveyed corporate CEOs to ask them their motives for their companies making costly environmental investments, and they found a mix.  Some CEOs were driven by the extrinsic economic motives, but, encouragingly, some CEOs also reported intrinsic motives.

The problem of greenwashing

A further complication to consider is that some companies state that they are investing in the interests of the environment but are actually being less than truthful - a situation called ‘greenwashing.’ This is where the EU auditors report comes in.  Back in April 2021, the European Commission announced some new legislation designed to prevent greenwashing: the “Delegated Act” of its Sustainable Finance taxonomy. This was landmark regulation that, from 2022, was supposed to define what could be labelled as sustainable investment within the EU. However, according to the organisation Birdlife International (Partnership for nature and people),  “what was supposed to be the standard against greenwashing has now become yet another greenwashing tool” as the taxonomy states that forestry (logging trees) and bioenergy (burning trees and crops for energy) make a “significant contribution to climate mitigation” and do “no significant harm” to biodiversity. As a result of the blatant greenwashing that this taxonomy would allow, Birdlife, and other environmental NGOs and consumer organisations, suspended their activities as members of the European Commission’s Platform on Sustainable Finance.

Now, the EU auditors have just backed up this view, recently stating that “The European Union is not doing enough to steer its own spending away from polluting activities or to mobilise private funds for green investments”. The ECA’s report says that, while the EU is updating its financial regulations in order to support sustainable investments, the taxonomy (a complex rule book which is supposed to inform investors in the EU which activities are truly green), the EU is not doing enough to discourage investments that harm the climate.  In a telling statement the lead author of the report, ECA member Eva Lindstroem, said “unsustainable activities are still too profitable."

We can also understand the EU stance by reference to the behavioural economics analysis of extrinsic versus intrinsic motivations.  The EU stance on the environment seems extrinsic: driven by economic motives.

Evidence of intrinsic motivations for addressing climate change

Fortunately, there are great cases of intrinsic motivation for ESG and sustainable investment and behaviour. For example, the UK’s Impact Investing Institute is involved in many initiatives, all of which seem ‘intrinsically’ motivated by an organisation with genuine desire to do good through sustainable investing. For example, through the Impact Investing Institute, and the Global Steering Group for Impact Investment, the UK has just created the G7 Impact Task Force. The new initiative “will focus on fostering and facilitating discussions and recommendations around impact transparency, integrity, and trust. The Taskforce will also investigate ways to create financial vehicles that can deliver investments for the benefit of people and the planet worldwide. In doing so, it will actively look to advance impact investment in low- and middle-income countries hit hard by the pandemic.”

In another initiative, the Institute, together with the Good Economy and Pensions for Purpose have addressed the “Levelling up” agenda by writing a White Paper focussing on the “Place Based Impact Investing Project (PBII).” The paper sets out the case for institutional investors to adopt a place-based lens. Effectively, the report is adopting an intrinsic approach: if investors are prepared to re-allocate their investment portfolios to put more into local community initiatives (with high social impact, but lower financial returns) that are crying out for funds, then this would have a great world-wide social and societal effect.

These examples show that the motivations for ESG and impact investing are complex, involving a mix of intrinsic (genuine) and extrinsic (doing it for the money and reputation) motives.  Furthermore, the extrinsic motivation drives some corporates and institutions towards ‘green-washing’ (falsely reporting that they are acting in the interests of the environment).  Encouragingly, great examples exist of genuine positive social and environmental impactful behaviour by investors, corporates and institutions.

The question remains, how can we motivate investors focused only on financial return to make these adjustments to their investing strategies? Since it seems unlikely that this type of individual will be convinced by altruistic reasons, perhaps more research is needed into how extrinsic motivations can be activated in these individuals and companies. If we can ensure that the ethical choice is also the sensible financial choice investors will have no more excuses.

Posted in: Business and society, Climate, Environment, Research


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