In preparing students as future business leaders and researchers for a sustainable future, it is important to lay out the arguments for and against sustainability that they will face. Those arguments center on definitions of sustainability and the battle lines that exist among the different stakeholders. This text is a step toward outlining those arguments from a financial economics standpoint. Most business sustainability texts are written from a management perspective. It is the goal here to frame the issues of sustainability against the backdrop of financial economics. Such a framework necessitates outlining the distinction between the classic finance approaches and the behavioral finance approaches to the issues and combining the result with sustainability.
In addition to the battle lines within finance, another hurdle that business leaders must be cognizant of is the wide range of definitions and therefore disagreements of what is “sustainability.” Without agreement on what sustainability is, there is little possibility for agreement on solutions. Ultimately, it will be incumbent upon each reader to determine the best definition and solution for their work. It is the hope that this text will provide the tools to do so. This approach may be unsatisfactory to some. A. D. Roy (1952), the economist, best summarized this when he wrote “A man who seeks advice about his actions will not be grateful for the suggestion that he maximize utility.” Yet this is exactly what this text intends to do. Utility functions, Chapter 2, are one of a financial economist’s tools to explain human behavior. This is true whether one is a classical economist or behavioralist.
For the classical economist, Milton Friedman in 1970 set out the one and only directive for corporations (their utility function must include) maximizing shareholder wealth. If sustainability goals do not maximize shareholder wealth, then those goals are inappropriate for the firm. Since Friedman placed this stake in the theoretical ground of corporate behavior, there have been movements to justify changing that objective. Management scholars offer maximizing stakeholder wealth as an alternative to the traditional finance goal of maximizing shareholder wealth. If the stakeholders include the employees, the customers, and the community, then the theory is inching away from the shareholder toward stakeholders and a definition of more sustainable goals. Within stakeholders, future generations and current generations are included to be consistent with the goals of sustainability. In the summer of 2019, over 180 US CEOs announced that businesses had a responsibility to stakeholders not just shareholders. The stakeholders mentioned were employees, customers, suppliers, and the communities. This was reiterated on a broader scale at Davos in 2020.
For those looking for clarity and definitive answers, this text will not provide those. The approach taken here is that there are many approaches to sustainability. Individual solutions will be dependent on the organization/business and its stakeholders and the social distances to those stakeholders. The good news is that good students, researchers, and future leaders will recognize that solutions require thoughtfulness through critical thinking. The approach taken here should serve them well in all their endeavors.
The ability to create a more sustainable business or organization will rely on the ability to think beyond just profit and shareholders. It will require the ability to recognize how sustainability is dependent on the ability to view the impact of decisions on current and future generations. Those decisions reflect the economic choices that are made with respect to the consumption choices of current and future generations. Remembering that economics is the study of the allocation of scarce resources. The assumption is resources that are scarce today will be even scarcer in the future. In creating profitable businesses that are also sustainable will require changing human behavior and corporate behavior. Not an easy task to take on, but one that appears to be more pressing today as governments from local to national struggle with issues of climate change, pollution, and poverty. Remember that businesses, organizations, and individuals work within the societies that they belong and the rules and regulations within they reside. With that heady charge, we begin our journey.
Sustainability and Sustainable Goals
The best place to begin is to ground the discussion in a common definition of sustainability. There is a plethora of definitions for sustainability from financial sustainability to environmental sustainability. Economics centers on choice and choices have consequences to ourselves and others. As an example, the choices made by the ordering of the United Nations Sustainable Development Goals (UN SDGs: https://www.un.org/sustainabledevelopment/sustainable-development-goals/) presents the starting point for the first definition of sustainability. The UN SDGs will be enumerated in more depth later.
Other widely accepted definitions of sustainability include Landrum and Edwards’ (2009),
We will define sustainable business as one that operates in the interest of all current and future stakeholders in a manner that ensures the long-term health and survival of the business and its associated economic, social, and environmental systems.
And Sanders and Wood’s Definition
“Positive social impact, a reduced negative environmental impact, and a positive economic impact.” or “a business’s contribution to social justice, environmental quality, and economic propriety is collectively referred to as the triple bottom line…or people, planet, profit.”
All these definitions fit within the approach to sustainability of realizing that economic decisions affect current and future generations through the allocation of scarce resources. Thus, to be sustainable and to make those sustainable decisions in a manner consistent with the goals and objectives, the lessons of financial economics will be the guide.
Basic Economic Concepts and Their Awesome Power
The beginning of the twenty-first century has witnessed the awesome power of the simple economic concepts such as supply and demand with respect to oil prices, natural gas prices, and recycling. Additionally, the pandemic has changed decisions from future generations to current generations as societies have returned to plastic cups and bags to reduce further spreading of the COVID 19 virus. In both cases, to control or mitigate this power governments often jump into maintain sovereignty. The levers that they pull may be from central banks and interest rates to tariffs and trade controls. Even in their efforts to impact a more sustainable future, regulations and subsidies for electric vehicles, biofuels, and alternative power sources have subsidiary effects on both current and future generations. The role of societal norms expressed through governmental action decides the future of sustainability.
An example of the rippling effects of governmental intervention comes from the early years of the Obama administration. Efforts to increase the use of biofuels had downstream effects on food prices driven by both the increase in prices for corn and sugar from the substitution effects of increased demand for biofuels as well as protection effects from restrictions on support for farmers and agricultural policies.
The trade-offs between stakeholders or communities within current generations and across national borders have a profound effect on the international and global economic goals and progress between the developed and developing worlds. The UN SDGs highlight this tension both in terms of current versus future generations, but also within current generations between the developed and developing economies. Simple questions of fossil fuels and economic growth limits and targets have significant economic implications for all countries. One example is if to slow climate change, are developing economies sacrificing growth to future generations? These trade-offs among economies have been the key discussion points in most of the climate accords over the past few decades (Kyoto, Paris, …).
Another example of this tension between developed and developing is China has become more stringent on the recycled materials they accept. In the past, they were willing to take recycled materials from the United States and Europe. The restrictions now in place in China and other countries have resulted in the cost of recycling to rise and are combined with a decreasing price of recycled materials as supply grows. Numerous accounts have surfaced of US cities abandoning recycling programs because the programs are no longer economically viable. The margins for recycling have become much worse.
Similar economic pressures are seen with oil prices and cars. Electric cars became more popular in the early part of this century as gas prices rose. With the economic decline after the Great Financial Crisis, gas prices fell and the demand for SUVs rose. Lower gas prices made SUVs more economical. More recently, the cost of electric vehicles has come down, and in combination with climate concerns, electric vehicles have become more popular, but an increase in electric vehicles pushes down demand for gasoline and thus prices. The dynamic will be the trade-offs (marginal costs and benefits) of climate concerns, electric vehicle prices versus lower gasoline price...