A small handful of environmental, social and governance ratings providers have the power to shape entire economies.
Trillions of dollars of investment capital follow their lead, and they will rule a third of the planet’s wealth by 2025. But each rating has an ingrained bias that is siphoning funds away from where they are needed most: emerging markets.
Home to 86 per cent of the world’s population and responsible for 58 per cent of global GDP, EMs are the growth engine of the future. Yet they are receiving less than 10 per cent of all ESG flows.
Asia alone accounts for two-thirds of the world’s material use and energy demand, and half of the word’s biodiversity hotspots. But it represents less than 4 per cent of global sustainable investing assets.
Not only is this contributing to the staggering funding gap – estimated to be $3.7tn (£3tn) annually – in low-income companies to meet the UN's sustainable development goals, it is depriving these markets of the transformative capital required to join the global movement towards a sustainable world economy.
The dominant ESG ratings agencies, all US-based, are built on principles rooted in one part of the world. It is no surprise, perhaps, that they are over-accounting for developed markets, while under-accounting for the unique challenges across EMs.
Influential ratings, for instance, put a large premium on corporate disclosures of non-financial data.
These are important differentiators, especially in developed markets. But other parts of the world have significantly less experience reporting ESG data compared to counterparts in Europe, for example, where disclosure regulations have been evolving for many years already.
And dominant ESG scores can penalise developing market companies for their ‘country risk’. Therefore, based almost exclusively on factors outside a company’s control – such as the political, or debt position of their government – firms can find themselves excluded from ESG funds entirely.
An ESG book analysis exposed major rating discrepancies by a leading ESG agency, with practically identical companies receiving scores 90 per cent apart, solely due to their country of operation.
To almost everyone outside the walls of a ratings agency, this will look and feel unfair, if not outright discriminatory.
Unlike the dominant ESG ratings providers, the climate crisis makes no distinction between ‘developed’ and ‘developing’ markets. It affects us all, we can only fight it through a collective effort.
And companies across Asia, Africa and the Middle East – often more resourceful, resilient and adaptable than companies in the developed world – are as vital as any other.
It is crucial, therefore, that they get their rightful share of ESG investments.
We are weeks away from Cop28, and once again, it will create a global conversation about ‘climate justice’. But just as the developed world has an ethical obligation to provide aid to more climate vulnerable developing countries, it is equally imperative we make ESG inclusive to the world.
