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Professor Michael Mainelli, Executive Chairman,  The Z/Yen Group
Mercers’ School Memorial Professor of Commerce at Gresham College

[An edited version of this article first appeared as “Cash In, Carbon Out” in Financial World, IFS School of Finance (February 2007)]

Can The Existing Financial System Deliver The Necessary Change?

In 2004 the government of Denmark and The Economist teamed up for the most interesting economic research project of the past decade, The Copenhagen Consensus.  The core question was, “If the world would come together and be willing to spend, say, $50 billion over the next five years on improving the state of the world, which projects would yield the greatest net benefits?” Eight leading economists, three of whom were Nobel laureates, ranked the options and published their work.  But among the 17 major options, the three climate change options (optimal carbon tax, the Kyoto Protocol and value-at-risk carbon tax) were at the bottom of the list.

Applying financial analysis to global problems is difficult.  The analytical issues range from the heterogeneity of problems, to measurement of GDP, measurement of quality of life or taxation.  Predictably, environmentalists attacked the cost/benefit process that ranked their options lowest, well below even “lowering the cost of starting a new business”. Some criticisms were misguided.  The Copenhagen Consensus did not say that climate change was unimportant, it just said that other options, such as preventing malaria or malnutrition, provided more bang-for-the-buck.  Perhaps the environmentalists should think harder about developing better options is one terse response.  Yet our greatest economic minds and policy makers seemed unable to persuade environmentalists to re-order priorities for the world based on rational analysis of costs and benefits.  Are we making the wrong choices on climate change? Are leading economists and policy makers irrelevant?

Copenhagen Consensus critics have concerns about the application of typical discount rates to long-term global issues.  One can question whether future generations will ever exist, thus increasing the discount rate; whether we know all courses of action today, thus implying a zero or even negative discount rate; or whether there are other issues of similar character and importance to climate change (civilisation-destroying asteroids or avian flu), thus implying we shouldn’t lightly alter the analytical discount rate from the norm or we can’t compare anything.  Is time-value-of-money analysis a waste of time? Tim Haab and John Whitehead’s blog points out a fun reductio ad absurdum argument, “an extra glass of wine for Alexander the Great matters more than all today’s capital stock”.

The recent Stern Review, The Economics of Climate Change, bolstered environmentalists’ economic foundations.  Yet Stern found it necessary both to explain the ethical ramifications of discount rates when assessing climate change economics and to apply a discount rate significantly below those found in typical financial analyses.  The importance of discount rates warranted a technical annex – “Chapter 2 Technical Annex: Ethical Frameworks and Intertemporal Equity” - that is well worth reading for an introduction to the complexity of setting a discount rate.  Stern’s approach has attracted serious critics in a short space of time, e.g. William Nordhaus, Sterling Professor of Economics at Yale.

While there are signs of increasing interest in alternative energy, perhaps even an alternative energy bubble, it is fair to say that current investment decisions will not affect climate change projections markedly.  The current economic system hasn’t geared up to climate change, and perhaps it shouldn’t, as David Lascelles pointed out in his commentary “Stern But Woolly” in Financial World, December January 2006-07, page 45.  One could contend that, as yet, the numbers don’t add up for investment purposes.  But there is a desire for better information, according to a recent Institutional Investors Group on Climate Change survey, “Respondents stated that there is a clear lack of products orientated towards climate change, and there is little in the mainstream.  Investment and specialist consultants do not appear to be providing advice on the subject...”

“Cash In, Carbon Out”

In 2006 BP plc and the City of London Corporation, supported by Z/Yen Group, Forum for the Future and Gresham College, announced a “call for participation in The London Accord”. The London Accord is a cooperative initiative to deliver research reports incorporating climate change prevention opportunities in actual financial investment decisions for asset managers and corporations.  In contrast to the Copenhagen Consensus, The London Accord focuses solely on climate change and uses investment researchers rather than academics.

The results are intended for wide publication in late 2007 via Reuters’ syndication and the City of London Corporation Research Series.  The Santa Fe Institute and the London School of Economics are structuring academic input.  So far, Deutsche Bank, Morgan Stanley, HSBC, Sarasin, Société Générale, CSFB, ABN and Canaccord Adams have volunteered to share research on investment in terms of “cash-in, carbon-out”, and others are encouraged to join.

With an estimated expenditure of £5 million to £7 million for 2007, The London Accord will be the largest research project in the world on the economics of climate change.  Generation IM, Universities Superannuation Scheme, Axa IM, Insight Investment, Henderson and the Institutional Investors Group on Climate Change have already expressed strong interest in the results.  By sharing cost/benefit ranking in terms of carbon and thus lowering the search costs of information, the project has the potential to influence decisions by investment managers of several trillion dollars.  The tools developed by the project can be used by NGOs, governments and academics, as well as the primary audience of ‘buy-side’ investment managers, to create a common understanding of the effectiveness of investments in initiatives to reduce man-made climate change.

The interaction of private decision-making and public policy is likely to be one of the recurring themes in the many research papers.  Other themes are likely to include the importance of carbon emission rights, impact of new technologies, opportunities for greater efficiencies from existing technologies, importance of further technological research, complexity of micro-economic interactions and potential for new business models.

Climate change prevention should amount to the biggest societal and infrastructure change humankind has ever seen.  We will have to change, at the very least, the organisation of our energy networks, our transportation and our management of emissions.  We will have to enforce global carbon emission property rights – who will send in the gunboats to shut down an offshore oil-burning facility with a 300 metre high sign, “all tankers welcome, we just export electricity”? We will have to change our economies on a global scale, perhaps emitting more carbon in the temperate zones to keep warm while sequestering it elsewhere.  It may well be that The London Accord participants conclude that it is too early to invest, but, ultimately, climate change mitigation must be met through economics.  The London Accord intends to improve the starting point with better analysis of the current investment opportunities.


  • The London Accord

  • STERN, Nicholas, The Economics of Climate Change: The Stern Review, Cabinet Office - HM Treasury (November 2006).

Professor Michael Mainelli, PhD FCCA MSI, originally undertook aerospace and computing research, followed by seven years as a partner in a large international accountancy practice before a spell as Corporate Development Director of Europe’s largest R&D organisation, the UK’s Defence Evaluation and Research Agency, and becoming a director of Z/Yen ( Michael is Mercers’ School Memorial Professor of Commerce at Gresham College (

Z/Yen is a risk/reward management firm helping organisations make better choices. Z/Yen operates as a think-tank that implements strategy, finance, systems, marketing and intelligence projects in a wide variety of fields (, such as developing an award-winning risk/reward prediction engine, helping a global charity win a good governance award or benchmarking transaction costs across global investment banks.  Z/Yen’s humorous risk/reward management novel, “Clean Business Cuisine: Now and Z/Yen”, was published in 2000; it was a Sunday Times Book of the Week; Accountancy Age described it as “surprisingly funny considering it is written by a couple of accountants”.

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