Levelling up

Investing towards a new social contract

As we learn to live with COVID-19, focus is returning to delivering a just transition. This is important to secure long-term investment outcomes, but also presents direct opportunities.

Read this article to understand:

  • Why repairing the social fabric matters for investors
  • What is needed to revitalise communities
  • The opportunities and risks of investing in a just transition
We are living at a time when, in many societies, people feel disappointed by the social contract and the life it offers them. This is despite the huge gains in material progress the world has seen over the last 50 years
Source: What we owe each other: A new social contract for a better society, 20211

Before COVID-19, inequality and ‘left-behind’ communities were a growing focus for policymakers and economic and political commentators. In the wake of the global financial crisis, it became all too apparent how many economies worked for the few rather than the majority, and governments were compelled to explore whether there might be a way for growth to be more inclusive.

“We often talk about how economic growth and capitalism have pulled millions of people out of poverty around the world and how that has reduced inequality globally, but inequality within countries has been increasing for years, and the digital revolution, the net-zero transition and the pandemic are only going to amplify that,” says Vaidehee Sachdev, people pillar lead and senior impact analyst at Aviva Investors.

“Yet a vast proportion of companies are not meeting their social responsibility to act in the interest of all stakeholders,” she adds.

Fundamental but fragile: Communities today

Robust communities strengthen the social contract [defined as an agreement for mutual benefit between an individual or group and the government or community as a whole]2 and, through people’s social and political engagement, hold the state and markets to account, ensuring they do not descend into authoritarianism and cronyism.3 They are also more resilient in the face of crises.

But the social fabric is deteriorating due to major shifts changing its very nature. The assumptions underlying social contracts are remnants of a bygone era when families had a sole male breadwinner, women looked after the young and the old, people married for life and few had children out of wedlock, the skills learnt at school lasted a lifetime, workers had few employers over their career, and most had only a few years in retirement. These assumptions have lost all relevance today.4

At the heart of community loss is the economy. From the 1990s onwards, middle-wage jobs disappeared in favour of high-pay/ high-skill and low-pay/ low skill occupations, including many flexible work arrangements in the gig economy, which often do not provide basic rights like a living wage or sick pay (see Tough gig).5

Figure 1 shows that, between the fall of the Berlin Wall and the global financial crisis in 2008, the group that saw the biggest losses in income was the lower-middle class in many advanced economies, who rank between the 70th and 90th decile of global income. Studies in the US and Europe have found this hollowing out continues to this day.6

Figure 1: Global income distribution, 1988-2008 (in 2005 US$ purchasing power parity)
Global income distribution, 1988-2008
Source: The World Bank, December 20137

As a result, some communities in developed countries have seen large job losses. These have been particularly devastating in areas dominated by one or two large local employers that shut or moved production offshore.

Yet even urban communities have been affected as areas have become more segregated by income levels.

“Part of the challenge is that all these issues are interlinked,” says Andrew Carter, chief executive at the Centre for Cities, a think tank focused on the economies of the UK’s largest towns and cities. “They reinforce each other in a vicious downward cycle, kickstarted by negatively changing economic fortunes of places. Without reasonably performing economies and decent numbers of jobs, including high-paying ones with career opportunities, our ability to deal with associated social and community issues in struggling places will be significantly constrained.”

Why this matters for investors

“The social impact of corporate behaviour has been one of the great blind spots of the financial industry,” says Sachdev. “This is despite the well-documented damage negative social impacts can have at a company level, as well as at a macro level.”

She explains the financial materiality of social issues is still contested, in large part because the financial benefits of investing in a ‘socially sustainable way’ do not often materialise immediately. This can make it harder to convince companies – and investors – of the financial upside beyond simple risk mitigation (see The social transition).

Yet for Siddhartha Bhattacharyya, senior portfolio manager of buy-and-maintain credit at Aviva Investors, it is particularly important for investors who manage long-term client assets to understand what companies and institutions are doing for the future.

“We don’t know where margins will be in 30 years’ time,” he says. “Looking at a university bond, we want to understand their research and scientific investments, their endowment plans and what they are investing in for future benefits, and that is quite easy. But when we look at a company, it is more difficult, so what they are doing right now for future generations gives us a lot of comfort.

Baroness Shafik argues we need a new social contract, one focused on creating more winners and promoting innovation and productivity. While this can partly be achieved through regulation and public spending, the private sector has an important role, both in terms of investment and economic activity.8

Businesses can address social mobility concerns by thinking about the basics – treating people well should not be a revolutionary idea

“One obvious way businesses can address concerns about social mobility is simply by thinking about the basics – where they set themselves up, who they hire, what kind of flexibility they give workers, what support is given to workers from different backgrounds etc., as well as the more fundamental things like paying a living wage and engaging in constructive dialogue with workers and their representatives,” says Sachdev. “This isn’t rocket science – treating people well should not be a revolutionary idea.”

Governments and investors will need to incentivise this behavioural change, as well as investing in the infrastructure and workforce skills needed to revive communities.

The UK’s Levelling Up paper recognises the potential for institutional investment to support infrastructure, housing, regeneration and SME finance, giving the example of the Local Government Pension Scheme: if it allocated just five per cent of its more than £330 billion of assets to local projects, it would unlock £16 billion in new investment.9

Finding opportunities

The Centre for Cities has set out two goals the levelling-up agenda should aim to achieve: improving living standards, and helping every place reach its productivity potential.10 For CEO Andrew Carter, this will create lots of opportunities for investors. “We need to be clear what the characteristics of more productive places are, and then focus on how to replicate these in less productive places,” he says.

More enlightened investors, developers and firms are already looking to invest and support in a wider range of places than they previously considered

This includes improving skills, transport and communications infrastructure, but also commercial real estate and public spaces. “More enlightened investors, developers and firms are already looking to invest and support these characteristics in a wider range of places than they previously considered,” adds Carter.

Ed Dixon, head of responsible investment for real assets at Aviva Investors, says a tie-in between town-centre regeneration and long-income real estate has provided significant opportunities in recent years.

“Partnerships between local authorities and long-term investors can benefit local authorities, investors, and the communities they operate in. Long-dated real estate leases make it more cost effective to regenerate town centres, in comparison to short-term financing,” he says. “With new investor appetite for place-based impact investing, we could see the volume of patient capital investing through long income increase, creating huge opportunities for local authorities and investors.”11

Recognising the risks

Yet there are risks, from gentrification to implementation with unintended consequences.

The policy side is probably the area that presents the greatest risks, and continued dialogue with governments is important. Short-term political and economic incentives also need to be better aligned with what we know we need to do in the long term, for the transition and levelling up alike.

Governments need to make sure that the transition isn't achieved off the back of those least able to afford it

“People are worrying about inflation, and energy prices in particular,” adds Thomas Tayler, senior manager in the Aviva Investors Sustainable Finance Centre for Excellence. “An economist at the European Central Bank recently talked about the fact inflation shouldn't be a reason to slow down the transition, but governments need to step in and make sure that the transition isn't achieved off the back of those least able to afford it.12

“When it comes to levelling up or addressing the impacts of climate change and biodiversity, policy needs to take a holistic view and think across all those together, says Tayler.”

References

  1. Minouche Shafik, ‘What we owe each other: A new social contract for a better society’, Princeton University Press, April 2021
  2. Source: Dictionary.com
  3. Raghuram Rajan, ‘The third pillar: The revival of community in a polarised world’, William Collins, 2019
  4. Minouche Shafik, ‘What we owe each other: A new social contract for a better society’, Princeton University Press, April 2021
  5. Minouche Shafik, ‘What we owe each other: A new social contract for a better society’, Princeton University Press, April 2021
  6. Raghuram Rajan, ‘The third pillar: The revival of community in a polarised world’, William Collins, 2019
  7. Christoph Lakner and Branko Milanovic, ‘Global income distribution: From the fall of the Berlin Wall to the Great Recession’, The World Bank, December 2013
  8. Minouche Shafik, ‘What we owe each other: A new social contract for a better society’, Princeton University Press, April 2021
  9. ‘Levelling up the United Kingdom’, Presented to Parliament by the Secretary of State for Levelling Up, Housing and Communities, February 2, 2022
  10. ‘Levelling up’, Centre for Cities, as of April 22, 2022
  11. Sarah Forster et al., ‘Scaling up institutional investment for place-based impact’, The Good Economy, Impact Investing Institute, Pensions for Purpose, May 2021
  12. Isabel Schnabel, ‘Looking through higher energy prices? Monetary policy and the green transition’, European Central Bank, January 8, 2022

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