The Aotearoa Circle, a private-public partnership seeking action on transformational change to reverse the decline of New Zealand's natural resources, has made its first significant call to arms to New Zealand's finance industry.
The Circle's first project, the Sustainable Finance Forum (SFF), has just published Financing the Future, an interim report on the need for a sustainable finance system which will involve a new mindset of taking a long-term view for social, environmental and economic wellbeing, protecting natural resources for future generations.
Financing The Future will lead to a Roadmap for Action next July on how to shift New Zealand to a sustainable financial system which will create opportunities for the country, and at the same time, strategically position New Zealand for continued access to international markets. The roadmap will include specific recommendations on re-shaping the current financial policy, regulatory and market framework.
"A key shift that is playing out right now in Aotearoa is the recognition that, in some cases, climate change presents material financial risks and opportunities to businesses. This is changing the conversation on climate change away from a moral or ethical imperative, to a business imperative," says Vicky Robertson, CEO of the Ministry for the Environment and co-chair of the Aotearoa Circle.
This shift is driving a redirection of capital flows towards low-emissions investments and opportunities, but the speed of that redirection needs to be accelerated, she says.
"We need to change how we value nature. We depend on nature for our livelihoods and our incomes but we don't treat it like that when we come to make decisions. The financial sector can and should play a leadership role in driving the integration of nature into the heart of decision-making, in line with global best practice."
The interim report recommends key players in the finance system should be drawing on the Māori traditions of stewardship of the land and of natural assets which is passed on to future generations.
"We need to align with the principles of kaitiakitanga and value, protect, and preserve these natural and social resources because we need them to provide for future generations."
The Sustainable Finance Forum is seeking feedback from the broad business community and beyond on its findings and recommendations until the end of February.
The report authors have drawn on the most relevant and up to date local and international literature, best practice examples on what others are doing, as well as conducting a series of direct interviews with leaders from Māori groups, social enterprises, investors, financial advisors, banks, other financial institutions, corporate leaders, regulators, Government, and academia — a total of 100 surveyed.
With the report, the forum is hoping to set the clock ticking.
"We feel this immense urgency. We have run out of time to obfuscate over why we should delay further," says Sir Robert Fenwick, co-chair of the Aotearoa Circle.
"We are hugely excited that the first report has been announced; it's the beginning of the process," he says.
"It will take organisations and leadership teams and boards to do things differently, that's the next challenge. The paper is all well and good, but now we need to execute it. It will require organisations to change."
Those companies developing new resilient and low-emissions goods and services may see significant opportunities from climate change, adds Robertson.
"Ultimately a change to a sustainable financial system requires the decisions being made by the actors in that system to change," says NZ Super Fund CEO Matt Whineray, co-chair of the forumrum.
"The work of the Sustainable Finance Forum asks how should investors, lenders and asset owners do this. The interim report outlines potential pathways to assist in that change and looks to continue the conversation with all the participants in the system and broader stakeholders as we work towards a roadmap to put the New Zealand financial system on a sustainable footing," says Whineray.
And the interim report is giving New Zealand's financial community a deadline. It would like to see a sustainable financial system in place by 2030 which would help deliver a "critical sustainability agenda and transition to a low emissions, resource efficient and inclusive economy."
Work to be done
There is much work to be done. The current NZ financial system is not sustainable, equitable or fair, according to the those surveyed for the Financing the Future report. And the country's current use of natural and social resources is not sustainable, it says.
If New Zealand is to meet UN Sustainable Development Goals (SDG) targets and the Paris Agreement (which limits climate change to 1.5 degrees of global warming), it requires a sustainable finance system which redirects public and private capital "on a massive scale" over a relatively short period of time, says the report.
The current financial markets in New Zealand and abroad are still largely misaligned with climate change and other sustainability imperatives. There is a capital misallocation due to market short-termism, the linking of pricing and performance to financial outcomes only and there is a lack of information and awareness across financial markets, the report finds.
Pressure is growing for organisations to deliver not only financial returns, but also to maintain their social licence to operate and serve a social purpose over the long-term.
Directors and trustees, along with senior management, are in a unique position to either create this change or be a barrier to this, notes the report.
"Business and investment decision-making is still primarily made in favour of short-term financial returns and our stakeholder interviews supported this view and identified that boards are not leading — often requiring significant drive from management to embrace sustainability."
Our financial system is facing the same issues as other business sectors and society more broadly, says Whineray.
"How do we properly consider and account for the long-term impacts of our activities on our climate, our natural environment and our social fabric? At the NZ Super Fund, we believe these issues are material to the long-term health of our investments and we're working to incorporate them into our investment framework," he says.
What needs to happen next?
Three big changes need to be made, the interim report recommends. There must be a changing of mindsets, an aligning of the financial system (greening finance), and a mobilising of capital (financing green). The changes the Sustainable Finance Forum (SFF)would like to see will require a transformation in leadership style and culture across public and private sectors.
Westpac General Manager for the Experience Hub, Karen Silk, who co-chairs the forum, says the biggest thing that needs to happen is one of mindset and behaviour. "That's the biggest change. And that's all about leadership.
"Leaders have to lead, not manage to the minimum. That's how you get transformation," she says.
To really see that shift, in the way capital gets allocated to create benefit for a broader group than just the shareholder, this kind of leadership is going to be necessary.
"We only get one co-ordinated shot at this. Everyone has a role to play," says Silk.
Short-term financial goals are no longer "business as usual," — the financial system's aim should be to serve the long-term needs of society, the environment and the economy and to align capital flows accordingly, the report authors say.
Financing the Future calls for financing mechanisms and organisations that exist to fund non-traditional projects and services which are required to meet climate and sustainability goals, fostering more innovative products.
"We need to systemically align the New Zealand financial system with the task of meeting our 21st century sustainability challenges and in the process produce better outcomes for all New Zealanders," says Silk.
As part of this, the SFF would like to see a mobilising and a reorienting of capital, with mechanisms to direct capital to projects that have good environmental and or social impact.
"This includes new capital for sustainable products and services and shifting capital to ensure we transition to a low-carbon and resilient economy, contribute to our sustainable commitments," says the report.
What sustainable finance system looks like
A sustainable financial system should serve and deliver upon the vision of a sustainable economy and be assessed in terms of both financial and non-financial performance and outcomes, including those aligned with climate and sustainability goals.
It will also require identifying the interventions that will deliver the biggest impact.
The SFF has also identified three priority areas it believes will drive the greatest impact. These are: clarifying fiduciary duties, improving the availability and quality of environmental and social data, and pricing natural and social capital, known as externalities.
So-called "negative externalities", such as the cost of pollution, destruction of biodiversity, increasing inequality or a changing climate will eventually come to be reflected in asset prices, whether through changing markets, regulation, social upheaval or increasing the cost of inputs, says Whineray.
"That's why failing to properly consider and mitigate all risks associated with a business's activities is simply bad leadership, and will increasingly impact on its licence to operate," he says.
The Financing the Future report recommends studying Kate Raworth's "doughnut economics" to help visualise what a sustainable economy looks like (see adjoining graphic).
She advocates the need to re-frame the current economic model of endless growth at any cost. "The aim of economic activity should be meeting the needs of all within the means of the planet. Instead of economies that need to grow, whether or not they make us thrive, we need economies that make us thrive, whether or not they grow. This means changing our picture of what the economy is and how it works."
New Zealand's weak points
Every country looking at changing their approach to the economy for this new world has their own barriers to deal with in meeting big international targets. Canada, for instance, is heavily reliant on the oil and natural gas industries, so has a strong lobby to deal with when looking at regulating emissions.
Financing the Future points out New Zealand's particular weak points on the world scale — which include its exploitation of its waterways and other natural resources over the years.
In 2017, the OECD described NZ's growth model as largely relying on "exploiting natural resources with environmental resources beginning to show 'environmental limits'."
Climate change will exacerbate this decline in quality and availability.
A large part of our economic success has been created using natural and social capital such as water, energy and labour. Historically this has created substantial benefits for society with few side effects.
"We need to rethink the way we define economic success to ensure that it delivers sustainable intergenerational development and wellbeing," the report says.
Though New Zealand's tourism branding has been "clean and green", the latest statistics are nothing to be proud of, with nitrogen levels in our waters increasing more than in any other OECD member country, according to Financing the Future. Water contamination from the agricultural industry and urban stormwater run-off are a concern — 82 per cent of the rivers in pastoral farming areas are not suitable for swimming.
"For a country that relies on a pure New Zealand reputation for tourism and primary industries, we are risking not just our reputation but our future financial wellbeing," the report says.
Our record on inequality will also need to be addressed in a new sustainable finance environment.
Distribution of wealth is very uneven in New Zealand with 20 per cent of households holding 70 per cent of the wealth, according to the report. The results of a Global Director Survey conducted in 2018, showed inequality and poverty ranks among the top concerns of New Zealand directors.
Gender equality is another a problem in New Zealand, which ranked 33rd out of 35 countries for the number of women in senior management.
The country's income inequality gap has impacted GDP by more than 15 per cent, due to flow-on effects of inequality in New Zealand's education system. High levels of inequality are linked to health issues, criminality, declining social trust and economic instability, says Financing the Future.
The inequality in New Zealand has a detrimental effect on social capital and this is a problem for the health and wealth of future generations, says Fenwick. "The business community needs to rethink its current consumption of social capital. In many places we find waste and duplication of effort and resources."
The report says bridging wealth, race, education and genders gaps in the New Zealand is not only a matter of fairness, but central to sustainable and inclusive economic growth.
"We cannot afford to wait decades to achieve incremental progress when a comprehensive response to inequality can help New Zealand switch to a higher value, more productive, and fairer economy today," the report says.
New Zealand's relatively small capital market is another feature the country's leaders have to contend with. This makes the New Zealand banking system the main funding source for New Zealand firms. Our capital market also relies heavily on international investment and foreign ownership.
There is growing international demand for sustainable investments, and for New Zealand to be an attractive investment destination for investors, its supply of sustainable investments will increase in importance.
Meanwhile, the fact that New Zealand's commercial sector is dominated by SMEs (97 per cent), and the fact that any (initial) regulatory or disclosure burden will fall only on publicly-listed entities, would mean a large chunk of the corporate sector would not be captured by the disclosure requirements.
Business leaders in New Zealand have made a wave of voluntary commitments with respect to climate change in particular, such as the Climate Leaders Coalition in New Zealand but voluntary commitments, which include broader sustainability in the financial sector, have not been adopted here so readily. For example, for investment managers, the UN's Principles for Responsible Investment (PRI) now have over 2000 signatories globally with US$90 trillion assets under management. Some New Zealand investment managers are signatories but the Responsible Lending and Responsible Insurance principles have had a patchy uptake in New Zealand, the report noted.
Good questions to ask
The report seeks feedback from New Zealand businesses and civil society on a number of pertinent questions:
• Companies who disclose non-financial perform are doing so by self- selecting their reporting indicators and the way they are calculated. Non-financial disclosures are generally incomparable so what measures can be taken to improve the comparability of data, the report asks. Should non-financial data be integrated into existing accounting standards?
• The GRI (Global Reporting Initiative) Standards provide a standard methodology for reporting key ESG metrics, which are internationally recognised. Should New Zealand mandate the adoption of these standards?
• Does fiduciary duty in New Zealand legislation require consideration and management of ESG factors?
• How should businesses and investors be rewarded through serving a broader social purpose and positive social and environmental outcomes? Through leadership or regulation?
• Sustainability is not well integrated across New Zealand's financial market regulation. Should the mandates of financial market policy makers and regulators and public financial entities be revised to make sustainability outcomes explicitly part of their purpose, objectives and performance metrics? Or require them to promote and contribute to a sustainable economy and sustainable financial system?
What happens if busineses do nothing?
Decisions and action need to start today, is the message from the Aotearoa Circle. Sir Jonathon Porritt, a founding member of the circle, says there is no excuse to be sitting on the sidelines.
There is a global values shift among consumers, society and the emerging voice of younger generations, which business leaders cannot escape. Identifying sectors and businesses that properly understand their impact on the wider world will have strategic advantages over their competitors that do not, says Whineray. For a long-term investor they present as more attractive investment opportunities, which will drive value into the future. Doing this isn't easy, but the fact that incorporating these considerations is harder, doesn't make them any less impactful on investment returns.
Stakeholders are increasingly concerned about the sustainability of the products and the services they consume, as well as the organisations they work for. They are looking more closely at the companies operating in their communities and how their money is being spent or invested on their behalf.
Financially it will not work for New Zealand to bury its head in the sand — with 70 per cent of New Zealand's export earnings directly reliant on natural capital, but water quality degrading across the country. Action needs to be taken now, says the report.
Silk is hoping a broad range of players will read the report and respond with more direction.
"It's going to take a lot of collaboration with Government, regulators, it's going to require the banks, the insurers, the fund managers, investors, companies, directors, and consumers to all engage and collaborate and work together."
"If we want commitment and engagement to get the execution right, we need people to have had the opportunity to express their view."
This consulting process is an opportunity for people to get engaged and express their view so that when we come out with the final report, is this something they will be prepared to back, Silk says.
Fenwick adds: "People need to decide do something significant tomorrow and the next day and the next day."
Scaling positive impact investments
Building scale in positive impact investments is imperative to achieving New Zealand's targets for the UN Sustainable Development Goals and the Paris Agreement, according to the Financing the Future report.
The main features of impact investing are that they are intended to generate positive, measurable, social and environmental impact alongside a financial return and "additionality," — other benefits beyond what would otherwise have occurred.
"One of the big myths about impact investing is that you need to sacrifice financial return. There is significant evidence showing this is not the case," says Pip Best, EY director of Climate Change and Sustainability Services.
A recent study by the Responsible Investment Association of Australasia found a solid base of impact investing activity in New Zealand.
An increasing number of dedicated funds with strong demand across investor groups, present a significant opportunity for the financial sector, the report says. To date, the majority of impact investments have been unlisted, illiquid and small in scale with a limited focus on additionality.
To increase this focus, the report says the Government will need to champion innovative financing structures and introduce fiscal measures to improve the risk/return profile and provide grounds for leveraging private funds.
These include public-private partnerships and outcome-payment contracts, structures used by the public sector to fund projects aimed at reducing a social problem. Guarantees and credit enhancements, where governments, private sector or NGOs provide some form of capital protection to de-risk an investment or provide a tax incentive to improve the return and make it commercially appealing, are another possible measure.
Outcome-payment contracts can provide financial efficiencies for governments says Best, co-author of the Financing the Future report.
"Rather than pay a set fee for the delivery of social programmes, governments pay based on the level of success of the programme," Best says.
"By providing this type of demand for impact investments products, we should see capability improve as businesses and entrepreneurs see the opportunity to enter the space."
Government-funded investment vehicles, such as Government-backed green funds are being used to attract finance to untraditional sustainable projects, says the report. New Zealand has the $100m Green Investment Fund and the $241m Endeavour Fund which finance research projects aimed at tackling long-term issues. It's a good start but tiny in comparison to the Australian government's Clean Energy Finance Corporation with $10 billion in funding.
Central banks around the world are becoming involved in asset purchasing programmes to drive demand for sustainable investment. The Reserve Bank recently bought US$100m in green bonds and other opportunities exist in this area. Non-government help could come from a number of sources.
• The social enterprise sector is a diverse and growing sector of 3500, but the sector has no defined legal structure which makes it difficult for them to access mainstream capital.
• Microfinance could be another source for positive impact new products. An emerging sector, it tends to provide small scale loans at low rates to groups who have trouble accessing traditional financial services.
• Positive impact funds are another potential source.
• KiwiSaver default providers could be required to have some percentage on positive impact funds.
The forum is the first project launched by The Aotearoa Circle, recognising the critical role of finance to achieve, and accelerate, the transition to a sustainable economy, and the need for a financial system that is fit for that purpose.
It brings together key players in NZ's financial system — including Māori leadership, representatives from banks, insurance companies, industry, professional services, civil society, academia, and government — to explore how to re-design NZ's current financial system to meet the challenges as well as capture the opportunities.
The aim is to produce a Roadmap for Action on how to shift New Zealand to a sustainable financial system — from one which focuses primarily on (often short-term) financial wealth creation, to one that supports long-term social, environmental, and economic wellbeing and prosperity for all New Zealanders, protecting natural resources for future generations. At the same time, this will strategically position New Zealand for continued access to international markets.
Kaitiakitanga is the overarching theme — considering the role the financial sector plays in the guardianship of people and the natural environment, recognising the past, present and future generations.
The forum's interim report sets out why NZ needs to shift, urgently, to a sustainable economy.
Read the Sustainable Finance Report here.