SRI Notes

Book Recommendation

I've just finished Dan Ariely's Predictably Irrational, and recommend it to anyone who wants to learn more about behavioral economics.  Ariely is a leader in challenging conventional economic wisdom, and provides empirical evidence of many situations where conventional economic analysis doesn't work well.

I was going to write in this post about the similarities and dissimilarities between this book and Freakonomics, which we've discussed here in the past.  But, procrastination pays once again - Ariely yesterday wrote a note on this himself (read it here). 

The books are similar in many ways, but taken together they frame a multi-disciplinary debate about how far economic analysis takes us.  Behavioral economists are challenging some fundamental assumptions economists like to make about human behavior.  It seems to me they are winning some and losing some, depending on the situation being analyzed - reading both of these books will give you a good sense of whose model might be better in a given situation.

A nice summary of the rise of behavioral finance can be found at Robert Shiller's website.

Michael Porter and Gerstenfeld's Law of Trying

And the 2006 McKinsey Award goes to...Michael Porter for his outstanding article on the role of corporate social responsibility in corporate strategy.  Socialfunds has the story.

Most management articles on corporate social responsibility can be safely ignored.  CSR tends to bring out the worst vices of some management consultants - their reliance on platitudes, sloppiness around definitional issues, and especially their reluctance to quantify.

But Porter's piece strikes me as worthwhile.  On its own merits, it makes good points about which of the myriad social and environmental issues a firm should be most concerned with (those it understands well and has a stake in).  And Porter points out that old-school stakeholder theory (take care of customers, employees, and shareholders and your job is done) doesn't fly anymore.

I suppose I'm also happy to see a prominent management consultant and academic say "when a well-run business applies its vast resources, expertise, and management talent to problems that it understands and in which it has a stake, it can have a greater impact on social good than any other institution or philanthropic organization." 

This is a constructive rejoinder to the CEOs who say "it's not my job".  As Steven Lydenberg has pointed out, the great corporate success of the past 20 years comes with greater corporate obligations.  Porter argues effectively, I think, that corporations are well-equipped to meet them. 

What's missing now, is trying.  Most companies still act as corporate social responsibility is too hard or too expensive.  They are convenient things to say, but come on.  In his classic text on forecasting (available online here) J. Scott Armstrong of the Wharton School invokes Gerstenfeld's law of trying.

It was discovered one night by my friend, Art Gerstenfeld, upon returning home from work.  Gerstenfeld's son met him at the door, and the following exchange took place between the two:

"Daddy, fix my bike for me."

"I don't know anything about bikes."

"Daddy, please fix my bike."

"I don't know how to fix your bike!"

"Daddy, please fix my bike!"

"I don't know how to fix your bike!"

PAUSE

"But, Daddy, you can try, can't you?"

ANOTHER PAUSE

"Yes, I suppose that I can try."

And then he fixed the bike. 

With Porter on board, the time is right to spread the word on Gerstenfeld.

The Economics of Happiness

If you don't like The Economist, wait a week. After the ill-tempered comments of the last post, the latest issue offers this excellent article on happiness and economics.  This is a great piece, offering plenty of historical context, going back to Carlyle and Hume, and giving critical attention to many different points of view.  I was especially happy to see acknowledgement of the contributions of Kahneman, who introduced the radical concept of asking people if they were happy.  And I had not been familiar with the work of Layard (if his new book seems a bit daunting, this article looks like an easier way to get started).

On a somewhat related note, I have been meaning to point out a series of good postings by Macroblog on economists and their critics (here, here, and here).  It is worth looking at these to get a sense of how it feels from the economists' side of of things.

A Notable Abdication

The King of Bhutan, the BBC reports, has abdicated as part of the process of transitioning the country to a parliamentary democracy.  I believe his contribution to the debate about social capital - his concept of Gross National Happiness - deserves far more attention than it has received (Time magazine article is here).

In the U.S. and Europe GDP reports and national income accounts are watched almost obsessively, with significant deviations from trend provoking almost instantaneous policy responses.  The same is not always true for important indicators of happiness and well-being, however.

Bhutan's experiments with the implementation of this concept are widely regarded as successful, but I hasten to add that this success came in a society with one religion (Buddhism) and a leadership with absolute power (although this is now changing). 

A set of discussion papers from a think tank in Bhutan is here.  It is nice, but it is not nearly enough.  Scholars in the social sciences need to do more, collaborating across traditional disciplinary boundaries, to develop a richer understanding of the strengths and weaknesses of this concept.

It won't be easy.  In a recent issue The Economist questioned the value of 'fair trade' and  characterized the challenges of organic food production as a political problem.  The Economist argument wasn't very good economics in the first place (externalities, anyone?), but never mind that.  If they're on form, the political scientists will bat the ball back, saying that the political forces in play are heavily mediated by economic questions, and therefore not their problem either. 

I have no problem with The Economist generally (they once inaccurately called me an economist, doing my career a world of good).  But there's no place for this kind of cop-out anymore.  Bhutan has made a brave start - its up to the rest of us to carry it further.

Jeff MacDonagh on Sin Stocks

Jeff MacDonagh of Domini offers the following response to my note on sin stocks:

"Our take is that they [alcohol, tobacco, and gambling] are all addictive and harmful.  We seek to invest in companies that do not produce addictive and harmful products, as they necessarily harm the customer.  The more that is produced and consumed, the worse off society is.

"You note correctly that alcohol is only potentially harmful, and in fact, may be beneficial in small amounts.  Our concern, in part, reflects how we see publicly traded companies operating – maximizing efficiency, innovation, and product distribution.  Public companies, in general (but not always), act more aggressively in these three ways than private companies, sole proprietorships, etc.  Our screen is not about a boutique vineyard or microbrewery, it is about Budweiser and other publicly traded (large) producers.

"Gambling and tobacco are much easier one to understand – you always lose when consuming this product on a regular, or even fairly occasional, basis. "I think this is an overdue conversation in our world.  I would be happy if the term 'sin stock' was relegated to a historical comment on Wesley’s sermon.  In fact, if you read into 'The Use of Money' – one can interpret 'sin stock' to mean investing in things that are counterproductive, a much more capitalist interpretation than the 'sin stock' term suggests."

Sin Stocks, version 2.0

There is a small contradiction in widely-used social screens that is starting to be noticed. 

Most SRI mutual funds in the U.S. automatically exclude the 'sin stocks'.  Sin stocks are usually defined as alcohol, tobacco, and gambling, although pornography and firearms are sometimes put into this category as well.  The sin screen is appealing because it is consistent with the teaching of many religions, it is easy to implement, and the excluded sectors are small enough as a percentage of the overall market that performance impact is not likely to be severe even if these stocks perform well (which they historically have).

But there are some odd things about this view of sin stocks.  First of all, lumping alcohol, tobacco, and gambling together implies some kind of moral equivalency that really isn't there.  It's not clear that alcohol and gambling, in moderation, are harmful to most people, while tobacco clearly is.  The CDC classifies tobacco as the "leading preventable cause of death" in the U.S.  Alcohol and gambling have their downsides, but they aren't in the same league.

And social investment practitioners do not always practice what they preach.  I've been to many social investment conferences.  Drinks are often served, and consumed enthusiastically.

So it must have been difficult last year for the folks at Pax World to drop Starbucks, an otherwise exemplary social performer (I have it as one of the top 8 U.S. companies), because of a relatively small liqueur deal.  Now Pax is asking shareholders to approve a less restrictive policy (thanks to Lorne Abramson for the heads-up on this).

Pax's proposal strikes me as sensible, although not all religious investors will accept it.  This seems to be a case where the perfect can be the enemy of the good.  Why delete Starbucks for minor involvement in a product that is unlikely to be abused ("hurt anyone in his substance" as John Wesley would say)?  I think many clients would be open to owning shares in a wine company run on sustainabity principles (think of Fetzer when Paul Dolan was at the helm), but this option is foreclosed by the zero tolerance policy.

There are risks to opening the door a little bit, though.  Harley-Davidson got into a similar situation a few years ago, when it licensed its name to Lorillard for a cigarette product.  It went badly, litigation ensued.  As great a company as Harley-Davidson is, I would not have considered including it in an SRI portfolio while this was going on, even though the product was economically insignificant.  (With the situation well in the past, HDI is now on both the Domini and Calvert social indexes.)

I would correct one bit of speculation you see in the news stories - I'm certain this has nothing to do with performance.  Pax World's Balanced Fund is well-managed with a superb long-term track record and four stars from Morningstar.  They don't have to lower the bar to pump up their results.

Economic Determinism vs. Biological Determinism

I've argued before that the underlying intellectual tension in social investing is the rejection by social investors of the idea that people are, or should be, primarily motivated by economic factors (as discussed in last year's Christmas post and Jim Hoopes' reply).

Frans de Waal has written a new book, Primates and Philosophers:  How Morality Evolved.  It is based on a series of lectures he gave at Princeton, and Princeton University Press lets you read chapter 1 free, here.  In a nutshell, de Waal believes morality is a result of human evolution, and is to some degree hard-wired in us. 

This challenges economic determinism with a kind of biological determinism.  On one level I'm happy to see it - economic analysis of human behavior can be frustratingly superficial, so it is nice to see someone push back and argue persuasively that something else - anything else - matters.

But careful what you wish for - if you accept de Waal's account, a host of new questions arise.  If human ethics and morality evolved, what does that say about the philosophy of ethics, which is supposed to be derived from reason - or religion?  I suspect Mr. de Waal will find his share of detractors.

Well, no one said it was going to be simple.  Primates and Philosophers offers good new reasons to pay attention to questions of ethics and morality.  Extra credit for getting a blurb from the estimable Robert Sapolsky:

"Frans de Waal has achieved that state of grace for a scientist--doing research that is both rigorous and wildly creative, and in the process has redefined how we think about the most interesting realms of behavior among nonhuman primates--cooperation, reconciliation, a sense of fairness, and even the rudiments of morality...This is superb and greatly challenging thinking."

'The Use of Money' Online

The definitive history of social investing has not yet been written, but Chapter 1 will have to include a section on John Wesley's sermon, The Use of Money.  Wesley was one of the founders of Methodism, and was noted for his systematic thinking and clear self expression.  He was one of the best-selling authors in England in his day, so he had plenty of opportunity to reflect on the moral aspects of wealth.

First of all, he says, there's nothing wrong with money itself.  "For, let the world be as corrupt as it will, is gold or silver to blame? 'The love of money,' we know, 'is the root of all evil;' but not the thing itself. The fault does not lie in the money, but in them that use it."

His advice is to "get all you can" and "save all you can," but not at the cost of your body or soul.  Don't take a job that could ruin your health.  Don't overcharge your neighbor, or try to run him out of business with predatory pricing.  Don't engage in businesses that hurt other people, either physically (distilling) or spiritually (immoral entertainments).

And then, "give all you can." 

"But let not any man imagine that he has done anything, barely by going thus far, by 'gaining and saving all he can,' if he were to stop here. All this is nothing, if a man go not forward, if he does not point all this at a farther end. Nor, indeed, can a man properly be said to save anything, if he only lays it up. You may as well throw your money into the sea, as bury it in the earth. And you may as well bury it in the earth, as in your chest, or in the Bank of England. Not to use, is effectually to throw it away."