Impact Investing for Climate and Retirement Security

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By Yehuda Kahane and Glenn Yago

Immense technological changes introduced since the beginning of the industrial revolution have contributed to substantial economic growth and prosperity. Accompanying this growth are equally substantial environmental and societal risks that threaten the very survival of humankind. Humankind faces several immediate structural existential threats:

  • The global population consumes annually about 1.6 of the planet’s resources.
  • Credible evidence is showing that global climate change is more severe and is accelerating faster than previously anticipated.
  • Environmental risks extend beyond climate change to include: loss of ecological diversity, damage to delicate food chains, and severe land, air & water pollution.
  • The awareness of leaders and executives to the severity of the current situation is fairly low, and implementation of international initiatives to combat climate change are too slow for effective mitigation of these ramifications.

In addition, rapid demographic changes, immigration waves, urbanization, job insecurity, income inequality, along with low interest rates combined with increased longevity place retirement plans at risk.

Three converging events over the past years underscore this urgency:

  • The financial need to combat climate change risks stand at $5-7 trillion annually (around 9% of global GDP) over the next 15 years;
  • There is a $2.5 trillion annual funding gap to achieve the UN’s sustainable development goal in developing countries;
  • Pensions reinvest $7-10 trillion annually requiring higher yields than currently achievable to meet underfunded retirement obligations.

Innovative finance is needed to develop new financing mechanisms to mobilize large pools of private and government institutional capital to identify and support impact investments for sustainable development.

It is crucial that we find ways to leverage the assets of global pension and insurance funds to bridge the sustainable development and climate change goals, in order to finance and accelerate economic growth to meet these inter-generational challenges.

The pension industry manages, on behalf of its beneficiaries (i.e., the general population) an immense portfolio of approximately $80T. When the needs were estimated to be at the order of 2% of global GDP, we thought that the private sector would be able to use these funds to deal with the challenges. This was the idea behind the initiatives of the 2005 Principles of Responsible Investments (“PRI”) and the 2012 Principles of Sustainable Insurance (“PSI”) treaties. However, in order to deal with amounts equivalent to 9% of annual GDP, social security systems will have to share in the effort. That is why we believe that the key to countermeasure the environmental issues is in the hand of the global insurance and retirement system (both the private and public schemes).

Until new metrics and new investment decision rules are introduced, it would be wise to incentivize the private sector retirement programs to make impact investments through various forms of subsidies. These subsidies can increase the yields on the investments from the current level of around 0% to about 5% per annum, and re-establish retirement security and solve the other global societal issues related to retirement insecurity.

By monetizing those direct and indirect avoided costs, it is the public sector that can cross-subsidize private investors for the corresponding differences in yield, thereby increasing the yields and catalyzing a self-propelling sustainable growth cycle.

In other words, we suggest a way to hit two targets with one arrow: use the insurance industry as leverage to mitigate the environmental challenges while restoring retirement security.

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Yehuda Kahane is Prof. (Emeritus) at Tel-Aviv University School of Business and Founder of the YKCenter and a successful high-tech entrepreneur. Glenn Yago is Senior Director of the Milken Innovation Center-Jerusalem Institute and Founder of the Financial Innovations Labs of the Milken Institute (US) and also Visiting Professor at the Hebrew University of Jerusalem Graduate School of Business Administration.