A colleague recently directed me to Rebecca Henderson’s TED Talk© entitled “To save the climate, we have to reimagine capitalism”[1] and I was struck by a thought. The, possibly oversimplification of the talk was this:
Businesses needed to start taking on issues of climate change, by charging their customers more and doing the environmentally conscious thing - for example paying more to properly dispose of hazardous waste;
Consumers need to start taking on issues of climate change by changing their purchasing behavior and supporting companies that act in environmentally responsible manners; and
Rebecca uses an impassioned narrative of a single Scandinavian waste company as a shining beacon of hope.
I, and most people who aren’t villains in 007 movies, agree with Rebecca that attempting to benefit the environment is a “good” thing. The source of disagreement is the more complicated questions of how and what tradeoffs are being made - which is the case with most of these issues. If acting for the environment comes at a cost somewhere else, who and how some or all of us must bear those costs matters a great deal.
“The current system lets saving the environment come at the cost of the companies and individuals that actually invest in the future of our environment and that is what we need to focus on changing.
Rebecca is making the case that change needs to start with individual choice, that change will be driven by individual choice, that in the aggregate, individual choice can and will be successful. The argument runs that at little personal cost, I can choose to support companies that I believe to be doing the right thing, that my small choice in aggregate among enough like-minded people will drive the competitive markets for goods and services, and together we can change the world.
I agree that individual choice is something we absolutely need. However, I will argue that if we allow ourselves to live in (i) a system of independent individual choices (ii) where doing “good” comes at an individual cost and (iii) benefits from doing “good” are collective, that anytime those three things are true , then we have created a society where the “good” people, the “good” companies are fated to lose the war.
I argue and have developed a quantitative demonstration (a computer model) showing that this approach is not possible in most areas as:
When the economic amounts are high enough to impact the environment, they also create unintended consequences in our society;
When the economic costs of environmental conservation are low enough to not meaningfully impact our society in detrimental ways, the environmental impact is not substantial enough; and
When consumers are impacted by the marketing of environmental values rather than actual investments, there is a negative statistical value to investment amounts and market performance.
When the cost of doing the right thing is low enough not to burden consumers, it’s not enough capital to impact the environment. If the costs are high enough to materially impact the environment, the cost are high enough to disadvantage the consumers and companies that pay them. Finally, if consumers buy based on perceptions of environmental values, then companies do well when they spend money on marketing their ‘environmental values’ rather than actually spending money on environmental conservation.
My argument is that, we should not build a society that functions in this way, but it’s what we’ve got with the current system. We have a system with three key attributes (i) independent individual choice, (ii) where there is a cost of environmental conservation, and (iii) everyone shares the benefits of environmental conservation. I would argue that any system, any “tragedy of the commons” problem, cannot be solved through independent individual choice, but instead requires attacking one of those three issues.
Why Do Those Three Things Matter?
First, a system of independent individual choice. Each business and each consumer makes their own choice without a relationship to others. In Rebecca’s example, some waste disposal companies will “do the right thing” some will not. They will both exist at the same time in the same market for waste disposal companies. Some individuals will choose to buy services from a company “doing the right thing” and some will not, they have either option.
There are alternate systems, for example a collective individual choice where we all pick directly, or through representation, to take a collective action on the matter through some systemic approach.
Second, a system where there is a cost of doing the “good” thing. Systems environmental conservation, where not polluting or counter-balancing pollution have real costs play out differently than ones where there’s no cost to doing the right thing. The impact that these costs have is then distributed unequally, based on the individual choices to incur them or not. For example, the business that do “good” either make less money to sustain themselves and compete in their market, or they charge their customers more to “do good” with their purchasing without absorbing the extra cost. If doing “good” means passing that cost on to the consumer, those customers have less money to “do good” elsewhere and have less money to put their kids through school, pay for medical expenses and so on.
There are several alternate systems in this area. Some rely heavily on the development of technology or process innovations that drive down the cost of doing the right thing. In energy production, when the average cost producing, storing, delivering and using solar-based electricity is cheaper than the environmentally degrading alternatives the issue is no longer present. Another type of approach would be to remove the cost differential by creating a cost of degrading the environment that would level the playing field. Example proposals include things like carbon taxes or carbon-credit markets. From a quantitative perspective, often the simplest regime possible is the most effective and the least likely to have unintended consequences.
Third, the benefits from doing “good” are collective. In these systems, even if you don’t do the “good” thing you still benefit from it. Globally, we all breathe the same collective pool of air. Regionally, many countries share the same off-shore fishing areas. More locally, inhabitants must share the same stretches of land. In these cases, if within the pool of collective beneficiaries there isn’t collective action or a leveling of the associated costs, there arise problems.
Alternate systems are those where those making investments get to benefit, to the exclusion of others. An example would be “Pay-to-Play” systems like those of high-cost fishing licenses, where the license fees for fishing are invested in environmental conservation. ]In this example, the pool of participants benefiting from the action are limited to to those willing to pay to join the pool of actors and joining would be a requirement for the entire region, possibly requiring a regional collective.
Tying it all together. When those three thing are true: a system with (i) independent individual choice, (ii) cost of doing the right thing, and (iii) collective benefits from doing the right thing, in that system it’s the non-investors (the free-loaders) that benefit most and have the least cost. In competitive markets, like those in a capitalist society, it means that the free-loaders have the most benefit from convincing everyone else to do the right thing, and those well-meaning environmental investors are disadvantaged. We can demonstrate these unintended consequences and quantify them through using simulation modeling. When we did there was a striking and undeniable support for calls to action that change the way this system works through addressing one, if not all, of the key functional attributes listed above. Either through creating collective choice mechanisms, addressing the comparative cost of environmental investment v. free-loading, or preventing the benefits of investments in environmental sustainability from going to free-loaders.
If we want a world we can inhabit where businesses and consumers doing the right thing does not leave them at a disadvantage in business or society, where we reward the ‘good’ and create natural barriers to exploiting the well-intentioned, we cannot leave our future up to independent individual choice, we need some form of collective, regulatory, or government action.
Analysis
We created a model synthetic economy using basic assumptions then let millions of scenarios play out. We analyzed the results and tried to disprove the hypothesis that firms and consumers without preference for ‘responsible’ products will be more likely to survive and more likely to prosper. To test this we looked for statistically significant differences in these populations from the base-rate.
Key Model Assumptions
The ‘responsible’ product costs more to produce than the market standard.
Firms compete directly for a limited market of consumers with limited dollars.
Each period spawns new firms as market entrants,
Each period each individual consumer chooses where to put their dollars and each consumer has preferences.
Key Parameters
Firms either produce ‘responsible goods’ or standard goods, choosing to absorb the additional cost or ‘pass’ that cost on to the consumer.
Consumers have finite but varying income and costs, resulting in discretionary income
Results
The results of the modeling project were largely as expected. Companies with lower cost-structures fare better in competitive environments due to their ability to capture higher margins or offer lower prices to win market-share. Individuals were less likely to go bankrupt and more likely to end the simulation with more accrued capital if they spent less money on similar goods. The implications for our everyday lives are simple - a system of independent individual choice, where there is a cost of doing “good” (here investing in environmental conservation), where the benefits are shared will disadvantage anyone making investments in the common good.
Company Findings
Companies that absorb the cost of environmental investments are statistically less likely to survive in a price-sensitive competitive environment; and
Companies that pass the cost of environmental investments on to their consumers are statistically more sensitive to variability in consumer income.
Consumer Findings
Individual consumers that absorb the cost of environmental investments are statistically more economically vulnerable to exogenous shocks and bankruptcy; and
Even with completely random starting points for income, accrued capital, and spending tendencies, a consumers preference for environmental products investments was a statistically significant predictor of economic hardship.
Complications and Confounds
The most interesting thing about this model was the installation in a marketing layer. This layer required companies to both spend any amount of money on “environmental investments” and any amount of money on “marketing” those investments in order to access the consumer segment preferring purchasing from such companies. In these models, marketing bought eyeball impressions at random from the consumer pool, which accumulated impressions at diminishing returns of the impact they would have on the consumer. When we do this, the dollars spent on “environmental investments” become more negatively impactful while dollars spent on marketing become positively impactful for the company.
The summary for this model is clear: limit your costs maximize your return. Companies that spend less on the actual investments and more on the marketing of what little they did reaped the most value.
Link to Ted Talk: with Rebecca Henderson
[1]https://www.ted.com/talks/rebecca_henderson_to_save_the_climate_we_have_to_reimagine_capitalism?language=en
