But will it be sustainable?

LAST year, when the editor convinced me writing a regular column in the Guernsey Press would be a good idea, it was no great surprise we immediately agreed it would need to have a sustainability theme. After all, I left Guernsey Finance last summer to establish a climate risk consultancy, Netherite & Grunweldt Advisory, and, rather preciously, my own think tank: the International Sustainability Institute Channel Islands.

Having spent the previous five years pushing green finance, I picked up several specific issues around fiscal, financial and environmental sustainability that I want to explore which should provide me with plenty of material for this column.

When I wrote in the Guernsey Press some eight years ago, I kept pretty much to international issues in economics and finance relevant to us here in the Channel Islands. This time round, a combination of these and sustainability ought to provide a rich enough seam of material. Happily, it’s pretty much the research agenda of the Institute.

Sustainability is all rather ‘a la mode’, so I think it’s sensible for me to be clear from the get-go what I personally mean by sustainability.

I find it far easier to define unsustainability, so I’ll do that. Bluntly, if something’s unsustainable it can’t keep on the way it is forever. Something’s got to give ... at some point. It’ll all go Pete Tong ... eventually.

Looking at it this way also serves as a reminder that having regard for sustainability isn’t a suddenly new phenomenon. And that there are many forms of sustainability, it’s not just the recent sustainable finance ‘variant’ that’s of interest.

Personally, I’ve always had a thing about the sustainability of debt.

At some point it’s going to be too much, right?

Surely?

When at the Fed, Alan Greenspan’s view was that the global economy’s level of sustainable debt had been increased by the sophistication of the financial system. After 2008 he said he’d been wrong. Yet today global debt is 250% of GDP compared to 200% in 2008. In 2010, economists Rogoff and Reinhardt argued that the safe upper limit for public sector debt was 90% of GDP. At the end of last year, Eurozone debt stood at 98% of GDP. Being right about sustainability is clearly quite tricky.

If something’s unsustainable it might not be able to carry on as it is forever, but it can often carry on for a very long time. And what might be the right thing to do to fix it in the long run can be the wrong thing to do in the short run. And vice versa. Often this does result in a lack of urgency to address long-term problems. Strategies often default to hoping things just sort themselves out by themselves.

This is how I’d describe the Bank of England’s monetary policy strategy for the last decade. Closer to home, hoping that things just sort themselves out by themselves is clearly not for Deputy Helyar and his ‘extremely well qualified forecasters’ (sic). But that’s an issue for another day.

In 2014, I publicly wrote in favour of higher UK interest rates. Eight years, and much more quantitive easing, later, interest rates are still on the floor, actually lower than what they were then. Now, lit by the touch paper of Covid, thanks to loose monetary policy, inflation is back. And back to where it was when I entered the world of work 30 years ago.

Around this time of year, when at the GFSC, I used to write my contribution on financial stability for the annual report. A bit of ‘year in review’ and crystal ball gazing. I loved it, it was quite a self-indulgence, pontificating on international financial stability issues when, truth be told, we don’t generate any here in Guernsey, and, let’s be even more frank, I had zero influence on them. Being Burns’ Night this week just qualifies this piece as a year ahead review. So to a bit of crystal ball gazing.

Permanent inflation of 5% and more really does change things. To use a phrase I detest, it’s a ‘gamechanger’. Lazy practices and easy economic assumptions, both short term and long term, need to change accordingly.

From the perspective of the finance sector, for one thing the sustainability of the investing landscape changes as capital starts to be more realistically priced and less plentiful. Return on capital becomes ‘a la mode’ once again.

The process of repricing of capital will, I believe, expose the increased EU regulatory cost of capital over the last decade. This should help the UK exploit diverging regulatory complexity and cost. Indeed, in sustainable finance, the UK has a clear, deliberate strategy to magnify and accelerate this divergence. The Institute will shortly be publishing a paper on this topic.

I also suspect there’ll be a culling around the edges of what I call the sustainable finance ‘circus’ – much of the marketing flotsam and jetsam. Despite the ESG cheerleading, I expect pressure to reduce excessive reporting and an interest in creating a simple ‘sustainability alpha’ – a measure of return due to sustainability factors.

I do believe the return of inflation heralds a different economic era, with real world consequences already apparent. For example, the economics of the transition to ‘net zero’ suddenly feel much more painful (the reasons are complicated, as much to do with the speed of transition), threatening popular support for climate goals. Already, there is significant kick back against renewable energy. Brazenly hypocritical moves by China hardly help the cause.

The same inflationary economics led the EU this month to include nuclear and gas in its green taxonomy, undermining support from environmentalists for its sustainable finance agenda.

But climate change is climate change and the long-run costs for renewable remain downward and battery and storage technology improve, so there’s no real cause for us to stop thinking net zero renewable energy generation at scale across the Channel Islands. It’s one of those short- and long-term juxtapositions to negotiate.

Financial regulation is one area where we won’t see momentum on climate change lessen.

If anything, I think we’ll see momentum for mandatory climate-related disclosures – the so called TCFD reporting – growing as inflation drives a greater focus on variables of actual importance.

From the perspective of the personal sector, acclimatising to permanently high inflation will be tough. Despite the impression the Bank of England is trying to give, things won’t sort themselves out any time soon. Interest rates are on their way up (though remaining anaemic by historic standards) as the bank tries to put the inflation genie back in the bottle.

It’ll be too little, too late.

Millennials will have to learn how to ‘live with inflation’ – and the rest of us remember quickly. In the process expect a lessening of popular support for higher levels of public spending that arose during the decade of free central bank money.

When writing about financial stability risks for the GFSC annual report, more often than not I signed off with words to the effect of ‘chances are these risks won’t materialise and the most likely outcome is I’ll be writing the same thing again in a year’.

Can’t say that today. I expect change.

But will it be sustainable?