Rating the ESG raters

This is an audio transcript of the FT News Briefing podcast episode: ‘Rating the ESG raters’

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Joanna S Kao
Good morning for the Financial Times. Today is Tuesday, October 3rd, and this is your FT News Briefing.

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The EU wants Hungary’s help in supporting Ukraine, and hopes are high that more transparency and green finance can help the world reach its emissions goals.

Kenza Bryan
The interesting thing is it’s always claimed to be able to help green the global economy. But now regulators are saying, prove it.

Joanna S Kao
Plus, Oktoberfest is serving up good vibes about consumer confidence in Europe’s largest economy. I’m Joanna Kao, in for Marc Filippino. And here’s the news you need to start your day.

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Brussels wants to shore up support for Ukraine and it’s turning to an unlikely ally: Hungary. The EU Commission is preparing to release billions of euros in funding to Hungary. In exchange, it wants the country’s help in order to pass a big budget later this year, one that would include significant aid for Ukraine. Securing support for Ukraine has become more urgent in recent days. The US Congress stripped an aid package over the weekend in order to agree to a new government spending bill. The EU froze funds for Hungary in December. It said the country wasn’t complying with rules to protect human rights. The country’s prime minister, Viktor Orbán, has long been an ally of Russian president Vladimir Putin. In the past, he’s refused to send military aid to Ukraine.

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Environmental, social and governance investing, or ESG, has become all the rage in recent years. Almost $3tn worth of investments are now marketed as sustainable. But as its influence has grown, so have questions about who gets to decide which companies count as green and how transparent their ratings are. Here to talk to me about this is Kenza Bryan. She writes about sustainable finance for the FT. Hey, Kenza.

Kenza Bryan
Hi, there.

Joanna S Kao
So when we talk about ESG investing, what’s the history of these ratings? I mean, how important are they?

Kenza Bryan
Well, the companies that provide the ratings are very well established. Places like MSCI, the big index provider, or the London Stock Exchange Group, or even credit rating agencies like S&P Global and Moody’s — they’ve all been snapping up ESG data business in recent years, which means that they’ve lent their weight to what is actually a relatively new methodology, a relatively new way of looking at stocks.

Joanna S Kao
So I can imagine, you know, as these ratings grow in importance, so has scrutiny over how these agencies that dole them out work. What are some of the problems that you’ve seen with this process?

Kenza Bryan
I mean, a pretty fundamental problem is that in a world of rising global temperatures, increasing pressure on the finance industry to do its bit to help the world hit net zero emissions by 2050, scores are not actually designed to measure corporate performance on carbon emissions or pollution. They only are designed to measure how well a company is managing risks to its own bottom line from environmental, social and governance issues. So rather than asking necessarily how much is a company polluting, it might ask how well is the company managing a risk from a potential hurricane or from a potential carbon tax to its own profits?

Joanna S Kao
OK, so that’s a pretty big issue. Are there others?

Kenza Bryan
So the thing that caught our attention for the ESG rating agencies is that there are these inherent conflicts of interest. For example, the people who do the analysis about how green a company is or how well it’s managing its risks could quite easily interact with a company within the data giants who depend on companies for their revenue.

Joanna S Kao
What’s being done then to address some of these concerns you just brought up?

Kenza Bryan
To some extent, the industry is starting to shift by itself from a more formal point of view. The European Commission has proposed to bring these companies into regulation, force providers to disclose more about their methodologies and just generally clean up the sector. And India is probably where we’ve seen the most forceful attempts to regulate. Basically, providers have been told: register with the securities regulator, publish your methodologies or leave the country.

Joanna S Kao
Kenza, what’s the big picture takeaway here? Why is it important that these ESG ratings are legitimate?

Kenza Bryan
I think this shows that green finance is coming of age, that it’s starting to be taken seriously as investors and people and regulators and politicians start to worry about whether we’re gonna hit our Paris Agreement goals of keeping global warming to 1.5 degrees above pre-industrial levels. We’re kind of clutching at straws and realising that the financial sector might be able to play a part in that. The interesting thing is it’s always claimed to be able to help green the global economy, but now regulators are saying, prove it. If you’re saying it’s green and you’re encouraging people to invest because it’s green, demonstrate that there’s some kind of mathematical logic to all of this.

Joanna S Kao
That was the FT’s Kenza Bryan. Thanks, Kenza.

Kenza Bryan
Thanks.

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Joanna S Kao
The head of the International Monetary Fund says the institution needs more resources to deal with the world’s problems, and that could eventually mean more clout for China. In an interview with the FT, the IMF’s managing director, Kristalina Georgieva, signalled her support for longer term reforms at the IMF.

Kristalina Georgieva
We have to recognise that there is a need to constantly change to reflect how the world economies are changing. And I am optimistic that we will go there.

Joanna S Kao
China currently has less sway than Japan, even though it has a bigger share of global GDP. But for now, the US isn’t on board with these changes and it has veto power. Plus, such changes aren’t up for debate in the current review of voting power. Washington has been pushing to counter China’s economic influence in emerging and developing countries. Part of that includes figuring out ways to support the IMF and its sister organisation, the World Bank. Georgieva warned that if the IMF isn’t able to get more resources, there could be major fallout.

Kristalina Georgieva
Given how much needs to be done, we simply don’t have the growth we need. Fiscal space has been eroded. Debt levels have gone up everywhere. Debt service costs have gone up as well. And yet demands on the public purse are high. We are at the centre of the global financial safety net. If the Fund is unable to step forward and bring confidence for others, the devastation can be profound economically, socially, but also from a security standpoint.

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Joanna S Kao
Before we go . ..

[Festive music playing as crowd cheers]

Today is the final day of Oktoberfest. Millions of beer lovers made the pilgrimage in recent weeks to tents outside of Munich, Germany.

[Crowd cheering]

Sipping through the annual celebration didn’t come cheap. A litre of beer costs more than €14 this year, the highest price ever. But people were willing to pay for it. That consumer confidence is a bright spot in an otherwise gloomy year for the German economy. So for now, cheers.

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You can read more on all of these stories at FT.com for free when you click the links in our show notes. This has been your daily FT News Briefing. Make sure you check back tomorrow for the latest business news.

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