Even before our society shut down for 13+ months, before a summer of uprisings against racial injustice, and before a historic election season that led to legislation that could re-shape our social safety net, we understood that our economy was not working for everyone. More pointedly, it deliberately works against people. To end income and wealth inequality, we must build an economy for ordinary people, not the rich and powerful. By so closely modeling conventional economic paradigms and investment thinking, the scope and promise of impact investing is being squandered.
Ever since Milton Friedman asserted that the “business of business is business,” there has been an almost universal acceptance of neoliberal economic theories. We accepted without much questioning that unfettered markets can achieve the best economic and societal outcomes and public policy should not obstruct market outcomes, as markets will self-regulate and any imposition from the outside will limit innovation and growth. Charity and philanthropy worked to correct “market failures” and support individuals who were unable to benefit from market activities. Poverty is seen as a failure of the individual, not of society.
Lately neoliberalism has been increasingly questioned, but the imprimatur of the individual remains. As tech leaders engage in philanthropy, and investors increasingly consider the value of “doing well by doing good”, they bring their focus on individualized results and returns to the arena of social outcomes. This application of neoliberal thinking misses the broader structural and systemic forces that lead to the disparate results we see today: income inequality has grown in half of all countries and 90% of advanced economies in the last 30 years; the world’s richest 1% maintain more than twice as much wealth as nearly the bottom 90% of the population (6.9 billion); in the U.S. the richest 0.1% have incomes 196 times higher than individuals in the bottom 90%.
Particularly harmful is how this plays out for racial and ethnic minorities: only 1 percent of total global assets are managed by Black people; entrepreneurs of color are turned down more frequently and are awarded smaller loan amounts than peer white entrepreneurs; the legacy of redlining continues to segregate our communities, leading to worse health and education outcomes for people of color.
Throughout the pandemic, organizations such as Common Future—headed by Rodney Foxworth—have prioritized investing in communities that have been most directly impacted by the economic and racial injustices further enabled by neoliberalism and extractive investment practices. This includes backing efforts such as universal basic income for Black entrepreneurs and worker-ownership opportunities for childcare workers who are disproportionately low-wealth women of color.
The movement towards impact investing and data-driven philanthropy are welcome, and important, but the financial industry must interrogate their motivations and look at the disparity between what has been achieved and the realities of what we need. For instance, the pandemic saw the lowest earning Americans’ employment levels decrease by 20% while the highest earners increased 2%, remittance flows by migrant workers expected to decrease by 14% by the end of 2021, and $3.7 trillion in labor income lost worldwide. As with income inequality, certain minority groups were notably susceptible to these effects; in the last year, Black unemployment increased, despite falling among other racial groups, and life expectancy for Black people in America fell by almost three years, triple that of whites. Clearly, we need a new paradigm.
Consequences of neoliberalism
At the heart of this tension is neoliberalism, an ideology ill-suited to the 21st century. It does not adequately contend with increasingly interconnected social and financial issues like systemic poverty and discrimination that hinder equal access to markets, and it is not fulfilling its promise of economic growth that benefits all. Neoliberalism enables behaviors that extract value from markets and that concentrate financial, social, and political benefits and power among a select few. Stock buybacks, dividends, and tax avoidance schemes keep corporations and their investors focused near exclusively on profits and stock prices, and on enriching a select few shareholders—all at the expense of workers and society.
The consequences of neoliberalism and related value-extracting behaviors have been put on full display throughout the Covid-19 pandemic. “Essential” workers in industries and occupations were required to continue working during “shutdowns.” People of color, women, and migrant laborers were more likely to work in these “essential” jobs and to get sick and die from the virus.
Champions for sustainable investment and result-driven philanthropy have been warning investors and philanthropists that ignoring the interconnection between social and financial systems, and of long-term social risks implicit in this interconnection could eventually enable a social crisis like the Covid-19 pandemic to disrupt the global economy. Yet, we continue to be stuck in our ways.
What’s next? System-level investing
In their new book, 21st Century Investing: Redirecting Financial Strategies to Drive System Change, William Burckart and Steve Lydenberg present “system-level investing” as an investment approach better suited to financial markets in the 21st century.
System-level investing is the practice of applying the tools of investing to managing systemic risks and rewards, or the risks and rewards associated with interdependent social, environmental and financial systems. As Covid-19 showed, a disruption in one system–in this case, global health–can wreak havoc on the others. We only need to go back to 2008 to find another one: a global financial meltdown that could have been curtailed by better regulation of banks and asset traders.
A global pandemic could have been mitigated through better intergovernmental collaboration and a stronger, more resilient health system. The structural results of systemic racism continue to exist in society, leading to instances such as 41% of U.S. black owned businesses permanently closing during the pandemic as compared to 17% of white owned businesses. This risk can be mitigated and solved through a re-evaluation of our capital structures and the empowerment of different decision-makers who will make different decisions.
When most of the people making decisions about who gets funded and who doesn’t are white men, it shouldn’t be surprising that most of the people who get funded are also white men. Setting aside the moral and ethnical considerations, these actions harm financial outcomes and the economy. Since 2000, the American economy has lost out on $16 trillion in revenue due to discriminatory practices in areas such as loans and education.
21st Century Investing walks investors through the process of moving from being a conventional investor to a system-level investor. It establishes what it means to manage system-level risks and rewards, why it is imperative to do so, and how to integrate this new way of thinking into current practice. This advice is applicable to anyone with an endowment to manage–foundations included.
So, what can investors do? How can they transition from conventional investing to incorporating a system-level approach? The six steps discussed in this book can help on that journey.
- Set goals. Investors need to be clear about goals. Individuals managing their own accounts and institutional investors stewarding the funds of others—whether they like it or not—are either making systemic challenges better or worse. And they need to be on the positive side of that equation.
- Determine the system-level challenge to focus on. Investors must then determine which challenges might require a system-level approach. Each issue needs to have consensus about its importance, relevance to investors across their asset classes, effective means for investors to exercise influence, and uncertainty that cannot be dealt with via conventional investment strategies.
- Allocate assets. Investors should know the social and environmental purpose of each asset class. What role can each most effectively play in solving systemic challenges and creating opportunities for all? Investors should ensure that the holdings in their portfolios take full advantage of the purposes for which each asset classes was designed.
- Extend conventional investing tools. Institutional investors can extend their routine practices on investment beliefs to encompass those dealing with social and environmental systems, vote proxies to exercise systemic influence, incorporate industry-wide, issue-specific criteria into active management to address systemic concerns, and create customized models that envision systemically new approaches for indexed, passive funds. Individual investors can identify asset managers that implement credible practices in these areas and are willing to integrate the specific systemic risks and opportunities on which these individuals are focused.
- Leverage advanced techniques. Investors need to step out of their comfort zones. Institutional investors can do this by collaborating with peers and other stakeholders to apply pressure on whole industries to address systemic issues, supporting governmental regulations of the social and environmental landscape, exercising influence in aligning the interests of conflicting stakeholders within systems large and small, and creating new financial markets that solve persistent challenges, not simply profit from them. Individuals lack the opportunities for direct participation in many of these approaches but can request the funds and pension plans in which they are participants to employ these techniques themselves.
- Evaluate results. All investors should also expect more than the usual quarterly investment reports. Individuals and institutions should ask what managers have done to influence systems positively. They can evaluate managers’ actual goals for a system, the actions they have taken, the changes to which they have contributed, and the progress that the system itself has made.
These steps will help us get to a place where we can have a pro-people system that produces better outcomes for everyone, not just the wealthy. We hope you will take these first steps with us.
Rodney Foxworth is CEO of Common Future. William Burckart of The Investment Integration Project.