ESG factors in corporate loans origination
Had an interesting conversation with one of the banks if it’s appropriate to put ESG factors as part of corporate loans origination. Despite the obvious trend to use finance as a tool to foster changes in society, it suddenly looks ethically controversial and coercive.
Sustainable loans market – with variation for rates and conditions based on ESG indicators – is booming and clearly an ethical way to incentivize creation of value beyond financial results. That is because price and value are different concepts. Markets are notoriously bad in price discovery and effective monetary valuation of inherent goodness of many things and critical services extremely valuable to the society. Just let us remember for a second critical workers’ contributions during pandemic times.
Similarly applying ESG overlays to screw risk allocation at investment portfolios is also ethical. At least up to the moment till enterprise has a space somewhere to raise capital.
Things turn sour when finance decisions become binary on a whole market level. Creating a set of ESG indicators to put into the loan origination raise hurdles based on obscure and subjective calculations for companies to obtain financing and insurance. There is a great chance these approaches will melt, blend and are repeated efficiently among all banks.
But banks and finance consultants are trusted by the society to allocate capital efficiently, not in defining ethical principles. ESG indicators, beyond its attempted risk management utility, is a way to quantify and manage ethical ways of living. They are seven bible sins of the modern world – a guiding star to provide value and contribution to society.
However, what constitutes modern ethics is changing. After the emerging war in Ukraine, military security and defense turned from sin to blessing in one treacherous night. Energy industry is still deliberating how to qualify the bending of legacy oil companies with renewable subsidiaries. There may be multiple rounds of social effects, difficult trade-offs at industry level and delayed transition efforts.
More importantly, it’s not for the banks and consultants to define rules and metrics of ethics. It’s up to democratic society as a whole to debate and agree on the way it wants to arrange itself, inclusive of all groups and members. Who and how may judge what is good? Society has politicians, parliaments and judges for that. Democratic institutions exist and political leaders are selected to arrange and facilitate these societal debates. There is a room to exclude market participants, like it happened with government sanctions and corporate exits from Russia – that was a decision of the society as whole, not financial representatives.
Encoding ESG indicators into binary loan or insurance decisions exclude wide groups of the society from these debates and put decisions into hands of financial “eggheads”, who do not have license from the society to define good and bad.
