Social Investment Forum Keynote, Fall, 2003(A)
For several hundred years, the world has experienced occasional periods when economic valuation has borne no resemblance to reality. These periods – popularly referred to as “bubbles” – are always temporary and they usually end badly.
The South Sea Bubble
One early example of this was the so-called South Seas Bubble, which led to the collapse of the London stock market in 1720. The South Seas Company was a politically well-connected enterprise that won great favor by outbidding the Bank of England to assume half the entire national debt of England in return for its kited stock. It also bribed two of the king’s mistresses and obtained a royal charter.
It was a period of speculative fever, stoked by the promise of riches from the far corners of the earth and an end to the wars with Spain. At the end of January, 1720, the South Sea Company’s stock was selling for 120 pounds a share, and seemingly everyone in Europe was trying to hock what they owned to get a piece of the action. By the end of March, the price was 380 pounds. By the end of May, it was at 520.
In June it soared briefly to over 1,000 pounds per share. But there was no conceivable rationale for this sort of skyrocketing price, and the end of the gigantic enterprise came quickly. By September, the value of a share of stock had fallen to 135 pounds, and the number British bankruptcies had reached an all-time high. The economic devastation was an approximation of the Great Depression.
Perhaps the most famous bubble of all time was the 16th century Dutch tulip mania. Tulips were introduced to Holland in 1593, and they immediately became a sensation among the rich and famous. New hybrids were bred, and soon houses and family businesses were being traded for the rarest bulbs. A futures market developed for bulbs that did not yet exist. Then, in 1637, a gathering of tulip merchants failed to get the usual inflated prices for the next wave of bulbs. Word spread across the land like lightening, and the market crashed overnight. Thousands of Dutch merchants, including the nation’s leading power brokers, were financially ruined in less than two months. Again, there was a total disconnect between prices and any rational basis of value.
Bubbles are not, of course, limited to ancient history. They happen whenever people close their eyes to reality.
For the last half of the 20th century—more than encompassing the entire adult lives of most of us—the dominant international fact of life was the Cold War. Two Superpowers, each capable of annihilating the other, were engaged in a global ideological struggle for dominance.
The Cold War provided the rationale for everything from the Interstate Highway System to the Space Race to high school language labs.
Ultimately, communism spun into a death spiral and democratic capitalism emerged triumphant. The former Soviet Union splintered with astonishing speed into numerous nations, even the strongest of which now has a Third World economy.
Many explanations—military, cultural, political—have been advanced for the overnight collapse from Superpower to basket case.
However, the principal underlying cause was economic, and it relates directly to what I want to talk about with you today.
The Soviet Bubble
The Soviet Union was a classic bubble economy. Prices were not allowed to reflect reality.
Economic success, even in a planned economy, requires good information and a Darwinian culling of uncompetitive enterprises.
But Soviet prices were set by bureaucrats. They often bore no relationship to supply and demand. The USSR manufactured millions of items that no one wanted, while it failed to grow the food that everyone needed.
Soviet resource allocations were so grossly inefficient that the Soviet economy simply could not produce enough high-quality, desirable goods and services to sustain its legitimacy.
In the end, the hidden costs finally overpowered the real assets, and Soviet society collapsed in on itself like a black hole.
The American Bubble
In the United States, we are still trying to shake off the ill-effects of our own recent experiences with a high technology and telecommunications bubble.
The term “bubble” has a frivolous connotation that belies the importance of the problem. About $7 trillion in stock market valuation simply vanished in the United States, and much of the rest of the world was sucked into our downdraft.
$7 trillion equals about $70,000 for every American household!
This bubble was partly caused by the irrational exuberance of a segment of the population that had acquired astonishing wealth during a prolonged bull market. They decided that profits and losses were a vestigial remnant of the “old economy,” and turned to a series of much fluffier ways to measure value.
More shocking, it was also the product of securities fraud on a level that left even hard-noses cynics agog—greed and sleaze and mendacity carried to an art form.
At much the same time, California experienced an energy bubble that was at least partially responsible for recent political developments in that state. A few months ago, the Federal Energy Regulatory Commission released a mountain of evidence demonstrating that California’s shortages had nothing at all to do with environmental rules or capacity constraints. The California crisis was almost entirely created by energy companies who hired youngish energy traders to play the utility grid like a videogame. The traders “won” the game by creating bottlenecks and driving up prices.
This, too, was a bubble, an irrational period during which inflated prices bore no relationship at all to objective reality. It left California with a cripling budget deficit. It forced the nation’s largest electric utility into bankruptcy. And it created financial havoc for poor and middle class residents of California, Nevada, Oregon, and Washington.
Under the communist bubble economy, prices were not allowed to reflect economic reality.
During the high tech, telecom, and energy bubbles, profits and losses counted for less than web site hits, miles of dark fiber, and opaque accounting techniques for clever new financial instruments filled with hot air.
My thesis today is that the world is now facing a far more serious bubble.
Throughout the global economy, prices don’t reflect ecological reality. We’ve been liquidating our natural capital and no reflecting this on our books. Indeed, when we consume a natural resource, we account for this loss win an entry in the “income” column. The fraudulent accounting behind the global ecological bubble is more audacious – and of vastly greater scope – than anything Enron ever dreamed of.
We’ve been breaking a lot of little laws for a long time, and now the larger laws – Nature’s Laws – are catching up with us.
Environmental externalities were of mostly academic interest a half-century ago, when distinguished economists like Ezra Mishan and Joan Robinson began writing about the topic.
However, they have now outgrown the “academic” box.
Today, costs that are universally treated as “external” to economic decision-making are often larger and more important than the “internal” factors that actually drive the decisions.
Like other recent massive accounting frauds that move expenses off the balance sheets, this economic fiction contributes to a false sense of well-being.
Measured without reference to distribution issues and ignoring environmental externalities, the global economy has been an incredible triumph. Output grew from $6 trillion in 1950 to $43 trillion in 2000.
However, the rest of the world does not plan to let us ignore distribution issues, and Nature does not plan to let us ignore the environment.
Over the last few decades, a new form of winner-take-all economics has emerged around the world. The industrial world has been the winner. Few understand the magnitude of the gulf that has resulted. The distance between the rich and the destitute in the global village is greater now than it has ever been before. The real gap today between an average American and a Chinese or Ethiopian peasant is greater than the gap between Egyptian pharaohs and their subjects. It is vastly greater than the gulf that led to the French Revolution.
Today, the 500 richest people in the world control more wealth than the poorest three billion people. The recent decision by President Bush, acquiesced in by the American Congress, to eliminate inheritance taxes is calculated to widen this gulf even further.
1.2 billion people—four times the population of the United States—still earn less than $1 per day. That number didn’t change during ten years of robust global growth. Those are 1.2 billion very unhappy people, and they are getting less happy as modern telecommunications makes clear the difference between them and us.
When zealots armed with box cutters can topple the World Trade Center, When a Philippine junior college student living in a slum with outdoor plumbing can create a Internet virus that causes tens of billions of dollars of damage, when a tiny scientific team with modest resources can build a “live” polio virus from scratch,such economic disparities pose obvious perils.
In a different talk, I would argue that there is a political bubble that is akin to economic bubbles, where inequalities are ignored by the winners until the losers rise up and burst the bubble. Bubbles have been famously burst in Russia, France, Iran, Mexico, South Africa, and elsewhere. A really important question is what happens when such vast inequalities characterize a globally-integrated economy.
Our focus this morning, however, is on environmental perils.
The so-called “external” environmental costs of various activities have grown to awesome proportions over the last few decades. Yet they are literally reflected nowhere in price signals that steer the world economy. This is a classic economic bubble.
You all know the litany:
Climate change threatens to turn the world’s breadbaskets into dust bowl and inundate valuable real estate such as Florida, the Netherlands, the rice-producing river deltas of East Asia. No one has more to fear from climate change than your island states, many of which are likely to be mostly or entirely submerged by rising sea levels.The best biological surveys suggest that the world is experiencing an epidemic of extinction unmatched in history, except when the planet has been struck by a giant asteroid.Permanent top soil loss is impoverishing the world’s long-term agricultural prospects.Childhood asthma rates are soaring around the planet.Virtually every aquifer on earth is being depleted – some at alarming rates – with frightening long-term implications for world agriculture. The disappearance of the world’s rain forests.The bioaccumulation of hormone-mimicking substances in every food chain in the world, even the most remote. The examples are legion.Refusing to include these costs in our national income accounts and in our corporate financial statements is every bit as misleading—and even more guaranteed to produce a catastrophe—as surreptitiously shifting debts to offshore corporations in the Cayman Islands.
Costs are costs, and sooner or later the piper has to be paid. The ecological bubble is of a different order of magnitude than the tech bubble.
It is almost incomprehensibly larger.
The Ecological Bubble
Biological systems can operate for a while beyond their long-term carrying capacity, but eventually ecological realities always assert themselves.
Ecological overshoots—whether of elk or prairie dogs or aphids or yeast—are analogous to bubble economies. Everything seems to be going swimmingly until suddenly, like cartoon characters, they find that they have run over the edge of the cliff.
And no matter how fast they churn their legs, they can’t avoid a long drop.
As with bubble economies, the greater the violation of the boundary conditions, the sharper and deeper the eventual collapse.
If there were any single lesson from the science of ecology that I would like to see understood by the next generation of business leaders it is the huge margin by which Homo sapiens is currently overshooting the long-term carrying capacity of the planet.
A 2002 study by Mathis Wackernagel, published in the Proceedings of the National Academy of Sciences, concluded that humans, with current populations and current levels of affluence, began consuming beyond the natural regenerating capacity of the earth around 1980, and that we are now exceeding that capacity by about 20 percent.
David Pimental has calculated that, if everyone on earth were to have the level of affluence of the average Swede—approximately one-half the material impact of the average American—the human carrying capacity of the planet is about two billion people. The actual population today is, of course, three times as high, and still growing about 70 million net new humans per year.
The poorest parts of the planet are showing signs of collapse already. In February of this year, UN demographers announced that the long-term world-wide rise in life expectancy has dramatically reversed itself in sub-Saharan Africa. Largely driven by the HIV epidemic, but also by widespread draught and resource wars, life expectancy in this region has plummeted from 60 years to now just 47 years. (Incidentally, within the next decade, AIDS will likely have claimed more lives than all the wars of the twentieth century, combined.)
This brings us to another glaring bubble: food. Every since Malthus first issued his dire predictions, farmers have been surprising us, and the population has continued to grow. But given basic boundary conditions of photosynthesis efficiencies, quantities of arable land, and available water, it is hard not to conclude that Malthus is on the verge of vindication.
For example, in 2002, people and domesticated animals consumed 100 million more tons of grain than were produced—a five percent shortfall. That was the third successive year of grain deficits—reducing global stockpiles to record lows. If this trend continues, global grain stockpiles will essentially disappear by the end of next year.
Moreover, this is with 840 million people living on grossly inadequate diets; with former major food growing regions in Asia and Africa lost to erosion and desertification; with every major water table on earth plummeting faster than its recharge rate. Optimists say that farmers will find ways to fill the 100 million ton shortfall, plus enough to provide decent diets for the nearly one billion who are malnourished, plus enough to feed the 70 million net new people who will be added this year, plus rebuild our reserve stockpiles to reasonable levels—but no one seems to have a convincing strategy toward this end.
Let me give you one stunning example from a nation that – with an economy that—measured conventionally—is booming at an annual growth rate of 7 or 8 percent, many economists cite as Asia’s brightest hope.
China and the United States have roughly the same amount of land available for grazing. American environmentalists make a compelling case that we have been overgrazing fragile federal lands. But consider China. America has 97 million cattle; China has 106 million. Pretty close to parity. America has 8 million sheep and goats; China has 298 million—mostly concentrated in the western and northern provinces, which they are swiftly turning into the world’s largest Dust Bowl. But unlike the much smaller US Dust Bowl in the 1930s, which displaced 2.5 million Okies to California, China’s threatens to displace scores of millions, and there is no Chinese California to which they can move.
Ten thousand years ago, Homo sapiens and his draft animals and livestock constituted less than half a percent of the mass of all vertebrates. Today, we and our livestock constitute more than 98 percent of the mass of all vertebrates.
In the first four million years of our existence as a separate species, Homo sapiens grew to a world population of 2.5 billion. In the last 50 years, we grew to 6.2 billion. We are squeezing out everything else.
The World Conservation Union reports that one-eighth of all bird species are endangered; one-quarter of all species of mammals are endangered; and one-third of all fish species are endangered.
There are far more tigers today inside zoos than there are outside of zoos.
We have two options: we can begin working very hard to build a global economy, designed along ecological principles to operate within the planet’s carrying capacity. Or we can carry on with business as usual and race off the cliff.
Looking back on these post-Millennium years say 200 years from now, how we address these issues will almost certainly be the most important measure of our success. It is a crisis that calls for extraordinary leadership. The statesmanship of Pericles, the resolute courage of Lincoln,
The first big test, I believe, will be climate change.
A Climate of Change
Scientific support for the proposition that humans are changing the world’s climate now approximates the level of support enjoyed by the proposition that the Earth revolves around the sun, and not vice versa.
The smartest business leaders are way ahead of President Bush on this.
DuPont has committed to keep its total energy use flat through the next ten years, to obtain ten percent of its total energy in 2010 from renewable sources, and to produce 65 percent less greenhouse gases in 2010 than it produced in 1990.
You will recall that Kyoto seeks a 7 percent reduction by that date from the United States – and DuPont is aiming for 65 percent.
Promises are cheap. But DuPont has already held its energy use flat since 1991, and it has already reduced its greenhouse gas emissions by 45 percent since 1990.
BP is now the world’s third largest manufacturer of solar cells—behind two Japanese companies—and an ardent supporter of the Kyoto Protocols on climate change. Whether or not Kyoto is ratified, BP has committed to meeting Kyoto’s greenhouse gas reduction goals for the company.
Shell is forecasting that renewable energy could meet half of all global energy demand by 2050—a market opportunity of tens of trillions of dollars.
Johnson & Johnson has also pledged to implement Kyoto whether the U.S. Senate ratifies the treaty or not. As a company, it will reduce greenhouse gas emissions seven percent below 1990 levels by 2010—with an interim goal of four percent in the first five years. This pledge covers 150 facilities in 50 countries.
IBM, which has already reduced its CO2 emissions by 20 percent from 1990 levels, has stunningly committed to further reductions of four percent a year into the indefinite future. The pledge covers its 30 manufacturing facilities in 14 countries.
Toyota and Honda have leaped ahead of the Big Three again, with efficient new cars for sale in America. Toyota’s Prius has a great sound system, comfortable seats, power everything, and a spacious trunk. My Prius, fully loaded, cost $21,000. The new Prius, coming next month, will be 15 percent more efficient – and the increased efficiency comes almost entirely from reprogramming its software!
But even the best companies are not putting serious political muscle behind public policies that would internalize the costs of climate change.
For reasons that continue to baffle me, companies are extremely unlikely to lobby for tough environmental standards, even when they are head and shoulders above their competitors, and such standards would advance their own narrow economic prospects.
The Role of Shareholders
This, then, is where shareholder activism comes in.
The history of shareholder actions on behalf of the environment goes back at least to 1970, with Campaign GM. Ralph Nader, Bess Myerson Grant, GM heir Stewart Mott, and others went to the shareholders’ meeting in Detroit and demanded that GM clean up its cars.
In those days, this sort of thing was very suspect. There was never any chance of a victory against management. It was pure guerilla theater, with success weighed purely in terms of its ability to generate press coverage.
With the advent of ERISA, the growth of huge pension fund assets, the stunning growth of mutual funds, and so forth, shareholder activism is no longer just entertainment. In the post-Enron era—as clearly evidence by the 450 high-powered participants in this conference—a great many professional investors who in the past just scrutinized SEC filings and market forecasts and competitive moats are now looking at a broader picture with a much more independent eye.
Environmentalists have joined with shareholder activists to support changes in governance. And shareholder activists have joined environmentalists to support environmental transparency.
It is not uncommon today to see 30 percent of all voting shares voted against management on environmental issues—and an era of routine shareholder victories may not be far off.
Climate change may well be the first arena in which this sort of change takes hold. It has a number of attributes to recommend it.
It is big enough to warrant the effort. The International Panel on Climate Change says greenhouse gases, worldwide, must be reduced by 80 percent over the next few decades. That means that the United States’ share must be substantially higher. There appear to be few opportunities to move at this issue in Congress or the Administration in the immediate future. Several States Attorneys General have been meeting to discuss a possible class action suit in climate change – modeled on the recent tobacco action.Seven Northeastern Attorneys General plan to sue the EPA to restrict power plant emissions of carbon dioxide. The group is led by Elliott Spitzer, the crusading NY Attorney General who has largely supplanted an inactive SEC and US Justice Department in bringing securities fraud actions. Many corporations have already taken action at the board level.Most of the board members of those companies serve on other corporate boards where they can share what they learned with their colleagues, and CERES is trying to organize them to do so.The issue has enormous implications for corporate well-being, and for the future health of the planet. And the rest of the planet is beginning to move. At the Bonn climate conference, the US stood alone, losing the final vote 162 to 1. It will help American companies keep up with developments abroad at a time when our political leaders are completely out of step. To look quickly at a few of the consequences of our current posture:From 1992-2000 the U.S. solar industry grew at 16 percent a year, while Japan’s grew at 43 percent and Germany’s grew at 46 percent annually.The U.S. share of the global solar market has gone from 44 percent in 1996 to 27 percent in 2001.Worldwide, wind energy has increased nearly five-fold since 1995, while coal powered electricity has declined nine percent worldwideThe U.S. share of global wind power has gone from 77 percent in 1990 to 18 percent today.By hiding the costs of fossil fuel use, we are creating a bubble that is sure to burst. Other countries have moved far more aggressively than we have to internalize these costs with tariffs and taxes. One consequence is that gasoline costs $5/gallon in Europe and Japan, and they have not mirrored out SUV explosion. Each time you drove a Hummer into an Italian gasoline station and said “Fill ‘er up,” you’d get a bill for about $300.
The voluntary Bush Administration greenhouse gas goals are, in fact, not “goals” at all. They are merely a projection of the actual experience of the last ten years into the next ten. In fact, the Bush goals index carbon emissions to economic growth, and under the Administration’s extremely optimistic economic projections, it’s plan would lead to increases in greenhouse gas emissions while the world scientific community is calling for significantly decreased emissions.
Remember, the earth doesn’t care about how much CO2 is released per dollar of economic activity. It only cares about how much CO2 is released.
Leadership is manifestly not coming from our elected leaders. So we will have to turn to ourselves. I don’t just mean that generically, in some muddled participatory “power to the people” sense.
I mean those of you in this room.
Soviet ministers fought to the very end to maintain an economic system that was divorced from economic realities, and they sowed the seeds of their own collapse.
Those who guided the Information Revolution genuinely believed that all the financial rules had changed. They bought companies on a whiff and a dream, and rode them to financial ruin.
Most American business executives continue to fight vigorously to keep the economic system divorced from ecological realities. In a recent To the extent that they succeed, they, too, are sowing the seeds of their own eventual collapse. It will be bad for the company – and in the aggregate, it will be catastrophic for the world.
There are some extraordinary things that you can do to change this:
First is simply to support every initiative to require more disclosure of environmental impacts of corporate behavior. As we all learned when companies were required to report their toxic release inventories, toxic emissions started plummeting. The CEO started being embarrassed to show up at his church or his country club with everyone knowing his company was poisoning the community.
As a subset of this, you should support more corporate disclosure to consumers of the environmental impacts of their purchases. When independent, third party certification can be achieved—as with Energy Star, automobile mileage and pollution, or the Forest and Marine Stewardship Councils—that’s even better.
There are huge new opportunities in the emergent field of green chemistry; of elegant, sustainable product design that will recycle key materials forever; of efficiency breakthroughs that will dramatically lower the energy intensity and material intensity of our GNP while improving comfort and productivity.
Collectively, we own these companies. It is time to act forcefully to protect our investments and, at the same time, protect our planet.
Corporate activists and environmental activists—joining hands with pension funds, insurance companies, state & city treasurers, universities, foundations and others—are starting to get engaged. We need to nurture and encourage that trend, and instruct the managers of our endowments and retirement funds to participate.
Denis Hayes is President of the Bullitt Foundation, an environmental philanthropy located in Seattle. The opinions expressed in this talk do not necessarily represent the views of the Bullitt Foundation or its board.