This is Part 2 of an article summarizing a long essay available [here]. In Part 1, Duncan Austin argued that the Voluntary Market-led (VML) strategies that have been our predominant first response strategy to the sustainability crisis appear to be a ‘fix that fails’, now signalling that we need deeper governance and cultural changes to address our climate change and biodiversity challenges.
1. EXTERNALITY-DENYING CAPITALISM IS A DEEPER ‘FIX THAT FAILS’
In part 1, I argued that our predominant sustainability strategy to date – a Voluntary Market-led (VML) strategy – was a ‘fix that fails’ that constituted merely a ‘defence at first depth’ to the adaptive crisis we confront. To accelerate deeper change in the policy and cultural levels of human society requires an emergency review of the – entirely pre-Anthropocenic – thinking that shaped our current institutions.
A companion long essay journeys back ‘down’ the social scientific, ideological and cultural developments of the West over the last 300 years that have combined to create the modern discourse, which inhibits our adaptive response. This article focuses on just one key building block of cognition that is holding us back: our cultural failure to accept the significance of market externalities.
If VML is a ‘fix that fails’, it is because it rests upon the grander ‘fix that fails’ of externality-denying capitalism. (See Figure 1).
For reasons entirely predating our awareness of climate change and the Anthropocene, Western societies have iterated towards a market primacy of self-organization over the last two centuries, in the conviction that it is the best means by which to advance human welfare. However, market primacy of human self-coordination is itself a fix that fails because the positive benefits of market-driven economic growth and innovation are undermined by lagging, unintended consequences not registered by the market system – ‘externalities’ – of a scale far greater than most economists and politicians have historically recognized, and than government and philanthropic efforts currently absorb.
It is an empirical matter whether capitalism’s fix or fail loop is stronger, but with the emergence of climate change and the Anthropocene, this is the empirical test we are now conducting in real-time at planetary scale. Unfortunately, ‘past performance is no guarantee of future results’, so capitalism’s track record to date can offer little comfort. Inescapably, defenders of externality-denying capitalism can only make a ‘so far, so good’ argument – the so-called Great Enrichment of the last two centuries is merely one side of a still developing ledger. With a very short delay, the ‘fix’ of the Great Enrichment has triggered the potential large ‘fail’ of the Great Acceleration. The experiment is ongoing, and experiments are not deemed to be over, and hence open to meaningful conclusion, until a new steady state has been achieved, which hardly describes our current relationship with Nature. It appears, though, that capitalism’s fail loop is starting to overpower its fix loop.
Acceptance versus Admission
Possibly the key driver of our sustainability crisis is that the dominant Western culture has not achieved sustained acceptance – distinct from mere theoretical admission – of the scale of market externalities and what that must imply for claims made about the superiority of market-led coordination.
Sometimes, what is needed is not new information or new ideas, but a new slant on what is already known. That slant is to ask, not whether we know about externalities, but whether we have accepted them.
Everyone pays lip service to the idea that externality-denying GDP is a broken measure – that ‘it measures everything in short, except that which makes life worthwhile’ – but we continue to behave as if it is not, which is the only meaningful gauge of our actual beliefs.
We have admitted a problem, but not accepted it on a sustained basis, and the distinction between the two is now decisive. Moreover, our ever more elaborate lip service of admission – through corporate disclosure reports, and now ‘impact accounting’ approaches – is increasingly the mechanism we use not to foster acceptance but to avoid it. Rather than price or regulate carbon emissions and environmental damage, we are stuck in a seemingly endless process of disclosing in ever more detailed ways. ‘We need more data’ seems to be the universal belief. No, we don’t. We have more than enough data. We need acceptance, which is qualitatively different to admission, such that we cannot simply disclose more and more data and expect to arrive at acceptance. They are altogether different processes. Instead, acceptance will really show itself when impacts that we have long ago measured well enough become widely and meaningfully priced or regulated.
The Dropped Stitch of Economics
The failure of economics to cultivate the sustained acceptance of externalities is increasingly becoming the most pertinent fact about the whole discipline. Economics has known about externalities since the 1920s, when Arthur Pigou first formulated the idea, but it was a very threatening concept for a young discipline with ambitions to discover universal truths and to influence the real world. Rather than confront Pigou’s inconvenient truth, economists sought refuge in the exact opposite direction and by the 1950s, a very appealing theory of ‘complete markets’ had been developed. No externalities in this theory, none at all. It is a vision of markets as omniscient. The implication of complete market theory is that the market can allocate Earth’s finite resources to promote human wellbeing better than any other system of self-coordination can. Whenever a claim is made for the superiority of market outcomes, complete markets theory is lurking in the background.
To be fairer, economists have long acknowledged various market failures, but such acknowledgement has occurred within a broader context in which much greater effort has been made to downplay externalities.
Economic growth, of course, was the ultimate salve, because it could mop up the awkward truth of externalities. Any external social or environmental costs incurred as the economy grew could be subsequently compensated or remedied by precisely the monetary wealth the economic growth delivered. But this relies both on the redistribution from winner to loser occurring – not obviously the case in today’s ‘trickle up’ society – and that the social and ecological costs incurred along the way did not take the form of irreversible harms, which no amount of future wealth might remedy. Absent compensation or remedy occurring, the failure to take seriously externalities ahead of time becomes highly problematic.
Garrett Hardin was a controversial figure, leaving a mixed legacy of insight and prejudice, but as an ecologist, he was clear-eyed about economics’ self-deception:
Interviewer [to Hardin]: ‘But don't economists take account of the environment under the concept of externalities?’
Hardin: ‘Oh, absolutely. But externalities are things they just don't want to see. Once they invoke the term "externalities”, they have sprinkled holy water on the problem, and in their calculations, it no longer exists and therefore has no effect in our decision-making processes.’
Lip service, holy water, corporate impact disclosures – all of a kind.
Writ large, a major, highly dubious accomplishment of 20th century economics is that it is the process by which we made it intellectually – and then socially – acceptable to ignore knowable harms. By offering intellectual respectability for the neglect of externalities, economics provided an ostensibly ‘scientific’ foundation for Hayek, Friedman and others to press their case for market primacy, or neoliberalism. But with the turn to neoliberalism, we simply brought this negligence to life and entrenched it at the heart of our social arrangements. As Gregory Bateson ironically put it:
‘Epistemological error is all right, it's fine, up to the point at which you create around yourself a universe in which that error becomes immanent in monstrous changes of the universe that you have created and now try to live in.’
We made a flawed economic model immanent. We are trying to live in it.
The tendrils of the model spread far. The more market-centric a society becomes, the more it directs its energy, time and resources where profit leads, on the assumption that ‘profit’ equates to ‘good’ (as would be the case in the hypothetical world of complete markets). To that end, we have developed Generally Accepted Accounting Principles (GAAP) to ensure the reliability of the financial statements that generate the all-important profit signals.
But GAAP is just the Generally Accepted Delusion by which we have agreed not to charge companies the damage we know they cause. Financial statements aim to answer whether a company or project is profitable, but the deeper question they silently, persistently pose is: why are some costs on a financial statement and not others? And is the tax line – so often honoured in the breach – really making up the difference?
The Unmentionable Foot
An honest accounting of how capitalism generates its wealth must now come to terms with how the market system acts to deny many of its costs. At the level of the whole market, we are effectively internalizing gain and externalizing cost. Of course, capitalism recognizes many costs, but the many costs it excludes slowly accumulate to create social and ecological problems.
William Kapp, a rare voice to argue for the significance of externalities in the 1950s tried to force greater recognition by describing the market as an innately ‘cost-shifting’ mechanism. As ecological economist, Clive Spash has subsequently expressed it, capitalism creates wealth not just through the magic of the Invisible Hand but also via the force of a cost-shifting foot. But in a shrinking, more transparent world, it is becoming harder for this foot to kick costs permanently out of sight, and it is beginning to appear as though our ‘wealth’ owes less to the Invisible Hand and more to the Unmentionable Foot. To clarify, it is not that there is no Invisible Hand – the market’s allocative and innovative dynamics for what is commodified are real and remarkable – only that, in the incompleteness of markets, the market must also have an Unmentionable Foot. The Hand fixes, but the Foot fails us. To believe that economic growth can solve all social and environmental problems is to believe that the Invisible Hand can repair what the Unmentionable Foot damages before irreversible harms occur.
The bias persists to the disservice of today’s economics students. In today’s leading economics textbook, Principles of Economics by Gregory Mankiw, the concept of externalities is first developed in Chapter 10 after core market dynamics have been presented. It is starting to feel as if this is nine chapters too late. Today’s economics students look set to live in a world where externalities are not mere residuals to the market, so much as the main event.
The failure of economics to cultivate acceptance of externalities is increasingly the dropped stitch that defines the whole discipline. It is not that economics has not uncovered powerful and compelling truths about how markets work – it clearly has – but rather that the discipline has not done nearly enough to admit the limitations of its insights for real-world settings where markets can grasp only a minority of the influences on human wellbeing. The genuinely exciting prospect for 21st Century economics is to unravel economic thinking back to pick up the dropped stitch of 1920 and to rebuild economics as if externalities were real. Some are already engaged in this effort, but many more hands are needed.
For now, though, the institutionalized denial of many real and accumulating external costs leaves us trapped in a fast-dysregulating market system. A centrepiece of neoliberal policy was widespread market deregulation, but, with a lag, this has simply induced market dysregulation.
Complex systems dysregulate when reinforcing loops gain the upper hand and the whole system enters into a runway behaviour beyond its own powers to balance or re-regulate. Psychologists, for example, talk of dysregulated individuals from children susceptible to hyperactivity or meltdowns to adults suffering from the endless loops of OCD or the unbreakable cycles of substance dependency. Such individuals often can only re-regulate with external intervention from a therapist or other third party, who can provide the regulating input from outside that cannot be summoned from within.
The hope of early economists, subsequently bolstered by ideals of complete market theory, was that market systems would be self-regulating, removing or minimising the need for government regulation. Certainly, an economy contains many balancing processes. If the demand for bread increases, the price of bread will rise inducing more supply so bringing the price back down again. The market contains a great many ‘self-regulating’ or rebalancing, loops.
However, the market is not only self-regulating, but also susceptible to positive reinforcement loops that can become runaway problems. In 1990, Brian Arthur described how economic systems did not just exhibit ‘diminishing returns’ – or balancing loops – but also, quite commonly, ‘increasing returns’ – or reinforcing loops. This may have been hard to spot in 1990 but is now much easier to grasp in a world of ‘winner take all’ businesses and technology platforms.
Moreover, the possibility of reinforcing loops in the economic system can accumulate to make a reinforcing loop of the whole system! Because neoliberalism has granted markets primacy, and because markets are vulnerable to large-scale runaway effects, neoliberalism is effectively a runaway feedback loop of a human operating system in which large swathes of the global population are now caught up.
The telling signal is that many of our biggest problems – global debt accumulation, wealth inequality, climate change and biodiversity loss – all exhibit runaway, vicious spiral, dynamics seemingly beyond the powers of the market to rein in. VML is the market’s internal effort to stop the runaway sustainability crisis, but there is precious little rebalancing to see.
If the market system is dysregulating, it needs re-regulating input from outside that its own processes cannot generate – in other words, government and cultural intervention. One of the real benefits of government is its potential not to amplify market forces but to modulate them. But we have denied ourselves this solution because of the long line of political and economic thinking – all pre-Anthropocenic – that culminated in today’s dominant neoliberal paradigm and its ‘markets are the solution, government is the problem’ discourse.
This paradigm has itself been entrenched by certain reinforcing feedback loops. In what might be called ‘Friedman’s Feedback Loop’, corporations’ ‘social responsibility to maximize profits’ has, over time, seen them spend large amounts of money lobbying government to change the rules to allow them to increase profits, providing them with more resources to lobby governments etc.… As this inexorable process of regulatory capture persists, a society progressively steers less by a sense of what is ‘good’ and more by what is ‘profitable’.
Equally, in what might be called ‘Reagan’s Reinforcing Loop’, if perception spreads that markets are the solution and ‘government is the problem’, human talent will slowly but surely be drawn towards the private sector and away from public service. ‘Come work with us, we’re part of the problem’ is a compromised recruiting strategy that ultimately ensures ‘government is the problem’ is a self-fulfilling prophecy.
The ironic upshot is that we have denied ourselves the ability to use the genuine power of price signals to address the most critical scarcity problems we have ever identified – limited atmospheric capacity for greenhouse gas emissions and limited capacity of ecosystems to absorb or tolerate our activities. The core argument for market primacy is that price signals can achieve a more efficient allocation of scarce goods and resources than can the cumbersome and coercive ‘central planner’. But, in practice, we now extend this power only to new markets that augment incumbents’ profits not to any new markets that might impose costs by properly valuing our natural systems.
Aha! So, the neoliberal slogan should really be: ‘some markets are the solution, government is the problem’, or ‘markets we like, not ones we don’t’. Call it half an ideological position. As such, one can turn the tables and ask: if we don’t need prices for the greenhouse gas emissions driving runaway climate change, and we can instead rely on people voluntarily to take the steps consistent with those prices without them being implemented, why bother having prices for anything at all? Why not just assume that people will always voluntarily behave in ways that collectively advance human welfare?
The Market Doesn’t Know What the Market Doesn’t Know
Among the more effusive accolades made of the market system is that it is a form of ‘intelligence’. And while there is something to this in the autonomous way the market system marshals goods, services and human time and effort, it can only be a partial intelligence because the market has no inkling of the non-commoditized and non-priced world. It is an algorithmic or machine-like intelligence, helpful for human wellbeing in proportion to its grasp of what influences human wellbeing.
It will not win poetry prizes, but I’m desperate enough to press the point that I will venture a simple ditty to describe the trap we have created for ourselves:
The market doesn't know
What the market doesn't know,
Yet we've self-organized
To defer to it even so.
Sometimes, we come to know
What the market doesn’t know,
Yet should this be new cost,
The market functions not to know.
A market-centric culture commits to follow where profit leads. Quite important, then, that either we calculate profit sustainably or we temper our market-centricity.
Policy and culture are prior to markets, but we have forgotten so. Re-legitimizing government’s role to establish new property rights – ‘you know, government might be a key part of the solution’ – should now be a central goal of any business with sustainability aspirations. It would be a first step to recognizing that sustainability is a property of the whole, not of the parts. To claim to be a ‘sustainable’ business in an unsustainable economy is likely to prove hollow, as is the idea of a ‘sustainable economy’ in an unsustainable culture. What might ultimately become sustainable is the whole of our collective behaviour from our perception of the world up to our more careful and knowing interaction with it.
With the rise of systems thinking, not only can we better understand complex systems, but also we can understand ourselves as a still emerging and adapting complex system.
We are a complex system in adaptive crisis.
VML is not so much a solution to the sustainability crisis as a symptom of more profoundly unsustainable foundations of human behaviour. Our first response has taken the VML form it has because its market-conforming nature was dictated by centuries of earlier thought and development.
The pool of businesspeople attracted to VML strategies now represent a large and influential repository of humanity’s impulse to be more sustainable. As such, VML practitioners – from ESG investors to CEOs of ‘sustainable businesses’ – may now be among the most important actors in promoting human sustainability, just not in the way they think they might be or are currently set up to be.
The most powerful trigger I can think of that will accelerate policy developments would be for those who have tried to make the VML ‘defence at first depth’ work, but who have viscerally experienced its limitations as a sustainability strategy, to articulate VML’s deficiencies. A clear signal from this group that we will need policy solutions as soon as possible – no matter the adverse consequences for conventional business and financial metrics – would provide an attention-focusing moment of the highest order. A clear and repeated message from VML practitioners that ‘markets can’t solve this’ would be invaluable.
Undoubtedly, this will all be challenging, but it may be easier to accept if recognized as nothing less than the learning process of a complex system. The meta-learning of 25 years of VML effort is that we need to update the business metaphor. The hope was that achieving a sustainable economy might be an appealing ‘green growth’ story, but it increasingly appears to be the mother of all restructurings – a restructuring at the level of the whole global economy and likely to be multi-decadal in duration. Almost certainly, we will have to take some restructuring charges. Sustainability is within human capabilities – excellent news! – but it will cost us something, at least by the (unsustainable) way we have currently arranged our economy to recognize ‘profit’ and ‘cost’.
Similarly, the great hope of the VML strategy was that there would be a business case for sustainability. But, if sustainability must mean ‘sustainable enough before it is too late’, the meta-learning is that there is just not enough of a business case to rely on. The business case is simply too weak and compromised a force to promote enough change fast enough. Instead, the moral case for sustainability is going to have to carry most of the load from here.
It easily may be true that the ‘win-win’ narrative of VML strategies has been both an inevitable and beneficial early response to our sustainability challenge and is now an inhibitor to the deeper change required. A future sustainable human culture may look back at the last three decades of the VML movement as an important moment of rising awareness and early effort. But, ultimately, the crowning legacy of the VML movement might be that it forced millions of people in the business community to learn enough about our environmental and social problems to recognize that the current market-led strategy is not the answer.
Duncan Austin has had a 25-year career as a sustainability researcher and investor. He writes as an independent at www.bothbrainsrequired.com. Thanks to Matt Tweed for illustrations.