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May 21, 2009

On Income Inequality, Environmental Sustainability and Ethical Consumerism

Paper preared for the class of Ethical Practice: Professionalism, Social Responsibility, and the Purpose of the Corporation (great class btw)


Introduction


In my first paper I highlighted Hobbes’ and Locke’s differences in opinion on inequality and finished by pointing out that this is an interesting subject to explore because it is very actual. The issue of inequality was recurrent during this course. Almost no class and no homework went by without it being raised. Broadly speaking, there are still two camps, just like in the times of Hobbes and Locke. But, as we have learned during this course, today the issue of inequality is more broadly included under the umbrella of social sustainability.

David Moss and Anna Harrington in their Inequality and Globalization case point out the example of India, whose seemingly capitalistic growth strategy became in part truncated by the arrival of the Indian National Congress who capitalized on growing inequalities. This questions the sustainability of a growth strategy that creates inequality. But sustainability goes beyond the old inequality debate, it also has an environmental dimension, as is well explained in Natural Capitalism.

According to these writings, inequalities and degradation of the environment are believed to pose a threat to Capitalism and Democracy. Tocqueville foresaw this centuries ago when writing on Individualism in Democratic Countries: “Despotism …. is more to be feared in democratic ages”. Similarly, Charles Handy also warns about “the other side of the coin” and talks about a “New Capitalism”.

Remedies to these so called illnesses of the system come in many flavors. On one side, what is called in Natural Capitalism the blue camp argues for market based solutions, while the red camp argues for state intervention and the green camp supports policies that control the number of people and the impact on the ecosystem.

But how real are these worries on inequality and environmental sustainability? And how realistic are the solutions proposed by each camp? And how should the purpose of the corporation react to these challenges? These are some of the questions I will try to answer in this paper. I will divide the paper in two parts, the first addresses social sustainability of system that generates inequalities. I will try to understand the extent to which inequality is a threat at the extent to which the purpose of the corporation should be adapted. The second part addresses environmental sustainability, its urgency and the solutions that are being implemented in order understand how a corporation’s purpose needs to be adapted to face this environmental challenge.


On Income and Wealth Inequality

On the issue of inequality, the case of India is illustrative. Not only because it reflects the size of inequalities, but also because it is so graphical (eg: movie Slum dog Millionaire). The India case however does not prove that inequalities threaten capitalism or democracy. India is after all a more equal country than the United States is (with a Gini Coefficient of 36.8 vs 45).

Inequality is often charged of being a threat to democracy and capitalism because it creates social unrest. But reality points precisely to the contrary. Let us recall the evens of 2005 in France. This is the country of “egalite and fraternite” ranked the 13th most equal country in the world. France witnessed weeks of riots with 8000 cars burned, 200 million Euros in damages and nearly 3000 people arrested. Greece, another country ranked among the most equal in the world, witnessed almost one month of riots seasoned by frequent Molotov cocktails in dozens of cities.

Moreover, during the past year and as a result of the economic crisis, governments from six countries have fallen in part as a result of social unrest: Iceland, Belgium, Hungary, Latvia, Czech Republic, Madagascar and more recently Nepal. A quick look at the ranking of Gini Coefficients reveals that most of these countries were among the most equal in the world. Iceland is ranked fourth, Czech Republic is ranked sixth, Belgium is ranked twelve and Hungary is ranked fifteen. By comparison, the United States is ranked 95. In summary, the claim that income inequality creates social unrest and thus is a threat to Capitalism and Democracy has no basis whatsoever.

Milton Friedman in his book Capitalism and Freedom called the doctrine of social responsibility “fundamentally subversive”. I would add to that set of fundamentally subversive doctrines that of income and wealth equality.

As I mentioned in class, inequality is a corollary of meritocracy. There can be no meritocracy if there is no inequality. The same applies to liberty and diversity. Liberty and diversity implies inequality because different preferences, different tastes, different risk aversion, different opinions, different talents, necessarily imply different results, some great, some medium and some bad. One cannot expect that people who work harder and better receive equal reward and call that a liberal meritocracy.

Proponents of the equality doctrine then explain that inequality is a threat to economic growth. For example the United Nations Economic and Social Council proclaims, under the title “Development Strategies that Work” that “economic inequity can be an obstacle to attacking the structural causes of poverty and can dampen economic growth...” However, there is no evidence whatsoever that reducing inequality reduces poverty. Research by the World Bank has already refuted this thesis. An easy graphical exercise can confirm that very easily. To do this we need to plot on one axis the Gini Coefficient of all the countries in the world. On the other axis we plot the income per capita (as a proxy for poverty) for those same countries. We will see that there is no more correlation between income inequality and poverty than there is between countries with monarchies and wealth. Ethiopia is only slightly more unequal than France is, but is still one of the poorest countries on earth. Pakistan is as equal as the European Union is and the United States is more equal than China. The bottom line is that there is absolutely no relation between poverty and inequality.

What we do see however is that there is a relation between poverty and economic growth, and we also see that there is a relation between economic growth and economic freedom. In summary, the idea that income equality is somehow a building block for “sustainable democracy” has no empirical or theoretical base. In one of our group discussions, a teammate made a difference between equality at the start and equality at the end. At the start meaning that all should have the same opportunities at the beginning.

But what does having equal opportunities at the beginning really mean? Michael Jackson was born in a family of musicians and thus was light years away from most of us in terms of opportunities of becoming a great musician. Does this mean that we need to hold him back in the name of “equal opportunities at the start”? Or that we should tax him because he had an “unfair head start”? That would deprive millions of people from the freedom of listening to his music which would be even more unfair.

I tend to believe that the concept of equality is nothing more than good slogan for bad politicians. And bad politicians, as we have repeatedly learned throughout history, are certainly a threat to the sustainability of democracy. Therefore, the purpose of the corporation in regard to social sustainability is to educate its stakeholders on the consequences in their business of irresponsible policies.



On Environmental Sustaintability

I will now move to the concept of environmental sustainability. The basic idea behind the “Green” camp, as described in Natural Capitalism, is that the planet is reaching its carrying capacity, that we are consuming way to many resources. When this happens in an ecological system, resources are depleted and as a result population collapses and sometimes extinguishes. To avoid this, the Green camp argues for population control and for environmental footprint limits. This has usually been supported by a sense of urgency and apocalypse.

This line of argument seems reasonable, but corporations need to be skeptic before making radical changes to their purpose especially considering that two hundred years ago someone came with the same idea and was proven totally wrong.

Corporations need to juggle with two phenomenon related to environmental sustainability. One is the change in regulations and the other is the change consumer preferences. A regulatory change would usually try to reduce the use of certain pollutant (for example Carbon Dioxide) or try to increase the use of certain technologies (subsidies to so called clean energies). But how urgent and how effective are these regulations? This question is key if corporations want to know where to stand.

Greens usually have been saying for almost a decade that “urgent” action is needed to prevent a collapse of the ecosystem. If the problem is so existential and urgent then the Green camp should be the first to promote technologies and energies that cut carbon emissions. Nevertheless the Green camp has systematically opposed nuclear energy, the most carbon-efficient form of energy, in favor of much slower “alternative” energies. In the process, the Green camp has delayed the reduction of carbon emissions by at least two decades. This makes me think that Greens are more interested in pushing their political agenda than they are in reducing carbon emissions. Therefore the sense of urgency loses credibility. Corporations should be aware of this and should help educate their stakeholders on the debate.

Just as the urgency of these regulations is to say the least doubtful, their effectiveness is no better. For example, most of these so called “clean energies” are still only promises. Many require subsidies which will divert resources from other parts of the economy. Other regulations such as taxes on CO2 emissions also present a burden on the economy. The problem is usually framed as an economic growth VS clean world dilemma. But this is a false dilemma because cleaner world without economic growth is impossible. Poverty is a sure recipe for ecological disasters as we have seen in numerous cases from Bophal to the Aral Sea. But more important, the model of government interventionism that is behind most of these policies is also a recipe for ecological disasters, not only because it makes countries poorer, but most of all because it creates corruption and because decisions start being made for political reasons and not for technical, sustainable reasons.

Therefore many of the policies implemented are not only economically unsustainable in the long term, they are also environmentally harmful. More curiously, the effort of the Green camp points towards extending the power of governments while very little effort has been made to put more power into the hands of the consumer, who is craving to be friendly to the environment and who has proven to be much more effective at changing corporate behavior. There is so much talk about regulating and taxing and so little about the power of ethical consumerism.

Organic products are the poster child of ethical consumerism. The industry was growing at a 25% yearly rate until the recession hit. This shows not only that consumers are eager to change their habits, but also that they can have huge impact in the behavior of companies. This is due to one of the most beautiful feature of markets: the marginal effect. Contrarily to the conventional wisdom, it is not necessary to change the habits of every single human being on the planet to have a sustainable economy, it is only necessary to change the behavior of a small fraction, a marginal fraction.

For example, if 1% of the Coffee drinkers switch to a new organic coffee, two things happen. First sales for the non-organic brand drop by 1%, which is very important for a company with single digit growth rate. Missing growth estimates by such magnitude would usually spell trouble for that company. But what is even more important, its organic competitor will attract that 1% and will grow even faster than the non organic company. Therefore the non organic company is not only worse off in absolute terms (minus 1 point in growth), but is also even worse off in relative terms (it is 2 points behind its competitor). Markets always act on the margins; these slight changes can have enormous consequences. For example, a higher growth rate will attract more investments to the organic company, which will in turn fuel more growth and more distancing from the non organic company. This will be reflected in the stock price which in turn fuels mergers and acquisitions. In no time, the non organic company will have to come up with competitive, sustainable alternative or will be wiped out.

This is not just economic theory. Today’s supermarkets are filled with organic alternatives. I mentioned organic coffee, but the area of cleaning products is also a good case. Typical cleaning products (such as Clorox) have been forced by smaller competitors (like Seventh Generation) to come up with their own set of sustainable products.

These markets forces have been able to come up with environmentally friendly and economically sustainable results in a relatively short period of time while CO2 taxes and clean energy subsidies are barely coming out of the drawing board and have yet to prove their environmental effectiveness and their economic sustainability. It is in a corporation’s interest to enter this cycle of environmentally friendly products and as profit maximizing entities it is their fiduciary duty to do so.


Conclusions

As we have seen corporation purpose in regard to equality and environmentalism is basically that of education, information and profit maximization. Education of stakeholders in regard to the consequences and the truth of many of the policies implemented. What a corporation should not do for example is fuel a debate on equality that only misleads stakeholders in thinking that equality is really a relevant issue. What it should not do is be silent in a debate on the urgency environmental policy knowing that many of those policies are based on incomplete and sometimes untrue facts. It cannot be silent either on the negative impact that such policies will have on its business and the environment in the long run. Supporting contrarian policies can be unpopular, but it is in a corporation’s self interest to get that message across either alone or in association.

However, the best way to provide an alternative to bad policies is to come up with real and tangible environmentally and socially sustainable products and jump on the wagon of ethical consumerism. After all, if voters overwhelmingly chose politicians who claim to be sustainable, it is only logical that they should also consume products that are sustainable, provided that corporations do a good job at educating and informing them.