Editorial Note
The Belt and Road Initiative (BRI), since its initiation and implementation, has brought new opportunities for global economic development, particularly sustainable economic development of BRI countries. As of 18 April 2019, new progress had been made under the BRI in terms of policy coordination, infrastructure building, unimpeded trade, financial integration and people-to-people exchanges with China signing 174 intergovernmental cooperation documents with more than 150 countries and international organizations. On the flipside, however, BRI investments face increasingly complex risks, including political and regulatory risks, legal and regulatory risks, construction risks, and environmental and social risks. This article aims to raise suggestions on mainstreaming environmental, social and governance (ESG) investments in the BRI through an objective analysis.
Implementing the concept of ESG investments
On 29 January 2019, the Chinese Ministry of Commerce officially published the Guidelines for Country-by-Country (Region-by-Region) Foreign Investment and Cooperation (2018 Version). The Guidelines introduce the basic situations, economic conditions, policies and regulations, and investment opportunities and risks of 172 countries, including all BRI countries. In particular, as green development is one of the key priority of the BRI, the Guidelines lay emphasis on the geographical, social and cultural environment of each host country, as well as their legal requirements for environmental protection and labor. The underlying philosophy coincides with the concept of ESG investments.
ESG investments ensure the environmental and resource sustainability of the BRI
The concept of BRI investments proposes to consider environmental factors for investment decision-making. Given the fact that the land areas covered by the BRI are mainly Central Asian countries (mostly covered by desert with very few green vegetation and water resources, weak environmental carrying capacity) and Southeast Asian countries (suffering from shrinking rainforests and increasing pollution due to unrestricted commercial development and rapid industrialization), promoting green economy has been gradually adopted as a working guidance by many of these countries. Likewise, coastal factories pouring pollutants into the sea, which have severely damaged the local marine resources, has weakened the ecological environment of countries and regions along the Maritime Silk Road, including West Asia, North Africa, the Association of Southeast Asian (ASEAN) countries and Sri Lanka in South Asia. Therefore, implementing the concept of ESG investments into practice and taking into account environmental and climate influence help achieve sustainability in host BRI countries.
ESG investments ensure the social sustainability of the BRI
Disparities in the level of economic development, political system, and social and cultural customs of BRI countries bring significant challenges to Chinese going-global enterprises in many aspects ranging from macroscopic guidance and incentive policies to communication taboos. For example, although the security situation of Central Asian countries is generally under control, possibilities of riots in certain countries cannot be ruled out; Southeast Asian countries have different political and cultural systems and different levels of democracy while civil law and common law systems exist at the same time; complex national origins and strong religious atmosphere in West Asia have endowed countries there with distinct local characteristics. Differences between countries have set higher requirements for going-global enterprises in terms of investment direction, investment prediction and labor management. Should the social and cultural characteristics of each country be interpreted inaccurately, investment results would easily deviate from the goals and even intensify conflicts with local people. Following the concept of ESG investments is thus indispensable insofar as it gives full consideration to countries’ economic, social and cultural features.
ESG investments ensure the economic sustainability of the BRI
ESG investments are not about abandoning the economic benefits of investments, but are sustainable investments where environmental, social and governance factors are integrated into the traditional enterprise credit evaluation system. This means that, investors fully consider potential risks in the pricing process and enforce better project management guidance by identifying credit intention and quality and payback ability. In fact, various academic studies have proved that considering ESG factors in investment decisions can effectively improve corporate performance and reduce investment risks, which is a commitment to social responsibility and a guarantee of positive economic outcomes. In the short run, ESG factors ensure better coordination between investors and the local while in the long run they secure green and sustainable investments in BRI countries.
Obstacles and challenges to mainstreaming ESG investments
Lack of stable policy support for ESG investments
Due to differences in the level of development, economic structure and legal system, countries cannot provide equal policy basis for ESG investments. European countries like Italy, Luxembourg and Switzerland have strong awareness of environmental protection against climate change and, therefore, developed relatively mature laws and regulations and relatively high disclosure standards to measure ESG investments. For example, the Green Paper of the European Union on Advancing the European Environment for Corporate Responsibility sets clear environmental, social and economic requirements for enterprises, which also result in strong ESG consciousness of European investors in BRI investments. Hong Kong, Singapore and Brazil require locally listed companies to disclose ESG information and ask for reasonable explanations if one fails to do so, but have no specific regulations on green BRI investments. On the other hand, as the main force of BRI, China has not yet issued official documents on encouraging BRI ESG investment. ESG investments are still unfamiliar for large state-owned banks, development banks, central enterprises and state-owned enterprises. Many countries are even still lack the policy frameworks and operational guidelines for ESG investment
Lack of ESG education for investors
In spite of the rapid development of green finance, most BRI investors are not completely aware of the long-term value of ESG investments. On the one hand, investors lack education and guidance on relevant ESG investments, but regard taking-up social responsibilities as expenses or opposition to traditional investments, failing to truly understand their positive effects. On the other hand, without ESG investment methodologies, most BRI investors lack the ability to identify environmental and social risks and to obtain ESG information, which consequently limits their understanding and using of ESG data for successful ESG investments.
Lack of norms, standards and analytical tools for ESG investments
Promoting BRI involves a large number of investment projects, especially infrastructure investment. There are at least two difficulties on including ESG factors in the construction and operation of the project. First, due to different levels of development, BRI countries share no unified certification and evaluation standards and norms for green infrastructure, interfering with stakeholders’ measurement of project performances.
The second is the lack of identification and analytical tools. In BRI investments, a majority of investors only focus on the economic benefits of projects while ignoring the environmental and social benefits, and are unable to identify the potential environmental and social risks when making investments. Even though some investors are aware of the risks, they struggle with the lack of analytical tools for risk assessment and thus fail to consider environmental and social risks and benefits in financial pricing.
Policy suggestions on mainstreaming ESG investments
Attaching importance to local conditions
As BRI countries have distinct investment environment and policy basis, it is essential to mainstream ESG investments according to local conditions. For a few countries which have started ESG investments with mature laws, regulations and information disclosure rules, their investors should pay attention to improving their own ESG level and follow the local laws and regulations in avoidance of potential litigation risks caused by ignoring environmental and social risks. When cooperating with investors from such countries, Chinese investors should learn from their advanced experience to jointly accelerate the mainstreaming of ESG investments in host BRI countries. For other countries where ESG concept is still in its infancy and relevant regulations are gradually improved, their investors should give full play to the influence of multilateral financial institutions, strengthen ESG requirements of projects and help host countries cultivate ESG awareness. For countries that are is still at the stage of extensive economic growth and have not realized the importance of sustainable development, investors should, under the premise of respecting host countries’ culture, start from their governments and regulators with assistance on relevant laws, regulations and information disclosure requirements, and consciously assume social responsibilities in the process of investment to help these countries reduce environmental pollution and improve the sustainability of local economy.
Strengthening domestic capacity building for ESG investment
China is the main force in BRI cooperation. Chinese investors being equipped with sufficient awareness and capability for ESG investments would save great efforts in promoting the concept of ESG investments in BRI countries. This requires that, first of all, China’s regulatory authorities (such as the Ministry of Commerce, the National Development and Reform Commission, the State-Owned Assets Supervision and Administration Commission, the Ministry of Finance, the China Banking and Insurance Regulatory Commission and the China Securities Regulatory Commission) to cooperate in formulating green investment standards that regulate outbound investments and to establish a database of BRI foreign investments that records the estimated environmental and social risks and green benefits. Second, from the perspective of investors, they should strengthen their awareness of ESG, improve their ability to identify environmental and social risks, disclose ESG information in a timely manner, issue ESG reports on a regular basis and eventually establish the “China’s ESG standard”. Thirdly, research institutions should upgrade the methodologies of environmental and social risk measurement, environmental stress testing skills and environmental benefit assessment skills to help investors realize the inclusion of ESG into investment considerations. Finally, public media should enhance public awareness of ESG investments through positive propaganda.
Encouraging more institutions to join the BRI Green Investment Principles (GIP)
In November 2018, Green Finance Committees of China and the UK published the Green Investment Principles (GIP) drafted by the Green Finance Committee of China Society for Finance and Banking and the City of London Corporation. The GIP explicitly mentioned that investors should “fully understand ESG risks”, and “incorporate ESG factors into their decision-making process, conduct in-depth environmental and social due diligence, and develop risk prevention and management plans with the assistance of third-party institutions when necessary”. On 25 April 2019, 27 financial institutions around the world, including China’s four major state-owned commercial banks and three major policy banks, signed the principles. In the future, more global institutions should be encouraged to join the GIP and form a BRI green investment union to jointly accelerate the mainstreaming of ESG investments for a better BRI.
Dr. Yi-Chen Shi is the Deputy Director, Chair Professor and Head of the Green Finance Innovation Laboratory at IIGF, as well as Dean of the Yangtze River Delta Green Investment Institute. His primary research areas include corporate finance, corporate social responsibility, capital market theory and behavioral finance. He is particularly interested in Green stock indexes, ESG indexes and environmental stress testing. His papers were published in Financial Management, Review of Quantitative Finance and Accounting, Asia-Pacific Journal of Financial Studies and Review of Pacific Basin Financial Markets and Policies.
researcher, Institute of Yangtze Delta Green Value Investment (the Hangzhou Branch of IIGF)
senior researcher, Institute of Yangtze Delta Green Value Investment (the Hangzhou Branch of IIGF)
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