Short-term incentives of governance lead to unsustainable environmental damage

Most of our world is effectively controlled by democratic governments and big public companies. Unfortunately, the systems are set up in a way that influential people who stand behind these organizations are forced to very short-term horizons.

Politicians who lead democratic governments are elected for four to five years. In order to be elected, they need to make promises that will satisfy majority of the voters. Unfortunately, majority of voters do not have much trust in the system or live from day to day so they require short-term benefits1. Once elected, politicians have a couple of years to perform2 and show results. If they can’t deliver in this time frame, they will not be re-elected and people turn to other candidates who promise immediate fixes. Acts of environmental protection require economic sacrifice which is not popular and therefore only few politicians push for it.

Majority of countries now have some form of democratic government3, but dictators and other leaders of non-democratic government often also do not have long-term horizons. Looking at the history, many know that they may not be at the helm for long time so they may be motivated to quickly accumulate wealth for their own benefits before they are overthrown. Long-term sustainability is rarely on their agenda.

Enlightened dictators would be the most effective governance for long-term goals such as sustainability. There is however not enough of enlightened dictators in the world to move the needle and there will probably never will be4.

Executives of public companies are hired to deliver value to investors. The average equity investment horizon globally felt from 8 years in the 60s several month or even days today5. Executives are forced to show immediate results in quarterly reports otherwise they are quickly replaced so there is not much room for really long-term thinking in public companies6. Many executives are only focused in performance in the few coming quarters and pay very little attention to company performance several years done the road, let alone externalities such as environment in the future. As long as significant cost is not assigned to hurting environment, most executives tend to hurt environment to create more shareholder value7.

There are a few notable exceptions of top executives8 who strongly promote environmental sustainability, but very often the real impact is not significant and is only tolerated by stakeholders as long as the company is doing well financially. Companies are happy to engage in pro-environmental initiatives that help their profits (resources conservation helps decrease the cost9 and good PR can increase revenues), but there the effect of such win-win initiatives is small compared to the scale of the whole problem.

This short-termism of world leadership contributes to the environment being damaged at unsustainable rate so that it may not be able to support all of us in the future. Those who have real power to change that unfortunately generally do not have incentives to do so.

  1. Take for example California with a very direct form of democracy. The state is near bankruptcy and school system and healthcare are inadequate because people do not agree to tax increase. You can also try to ask random people if they would vote for a politician that gives them $100 now or promises $1,000 ten years from now? Majority will take $100 now, even though the other alternative would give them 26% annual return, much more than they get from their other investments.  
  2. Most politicians are elected for 3-5 year terms, but perhaps with the exception of central bankers, even this time is not guaranteed. If they perform badly (could be because they take immediate losses for a future gain), they can be replaced even faster.  
  3. Democracy Index  
  4. Even though enlightened dictatorship can theoretically be better than democracy, it is way more risky, because the downside of dictator becoming (willingly or unconsciously) non-enlightened is very bad. That is why majority of reasonable people still prefer potentially a bit less efficient but much less risky democracy.  
  6. If a company announced that it would underperform in the next two years in order to be much stronger in five years from now, many short-term investors will expect smaller returns per share in the coming years and sell their stock resulting in decreasing the stock price and therefore value of the company for other investors who are therefore not very likely to support such decision. Earnings and stock-price decrease would also reduce executive bonuses so employees are likely to oppose it.  
  7. Market economy is very efficient in maximizing profit partly by minimizing costs. The problem is that as long as hurting the environment costs nothing, the process will minimize monetary costs at the expense of environment. More environmentally friendly solutions are usually more expensive so without cost for hurting environment or reward for not hurting it, there is little motivation to implement them. Only limited rewards for protecting environment come in the form of customer’s higher willingness to pay for environmentally friendly products. Therefore the intervention of the government is necessary. It can be in the form of limitations (e.g., maximum allowed CO2 emissions of a new car) or costs assigned to hurting environment (e.g., vehicle tax based on CO2 emissions). The latter seems more efficient because it seamlessly integrates with the market economy and stimulates even better improvements versus a simple one threshold. There have been recent improvements in true costing with carbon credits, true cost accounting and other initiatives.  
  8. For example Indra Nooyi, CEO of Pepsi  
  9. For example hotels started prompting customers not to change linens and towels every day, because they know that it is in fact a cost cutting measure that can be “sold“ as being green.