How Sustainability Themes Impact Economic Growth: An Example in Action

   By Rashed Khan
   CFA – Director, Portfolio Risk and Analytics
 

   and Ryan McQueeney
   Analyst, Sustainable Investment Stewardship
 

January 23, 2023

Frequent readers of this blog and consumers of other Wespath content have likely heard of our “sustainable economy framework.” This term describes our vision for a sustainable economy—one that promotes environmental health, long-term prosperity for all and social cohesion.

Wespath believes that the development of a sustainable economy is essential to fulfill the investment returns that our participants and institutional investors depend on to achieve their financial goals.

Intuitively, it’s fairly easy to recognize the connection between a sustainable economy and financial outcomes. We know companies need a heathy planet and healthy people to operate effectively over the long-term—it’s simply difficult to run a business if your storefront floods due to changing weather patterns, or if you can’t find enough motivated and productive employees to work for you.

The challenge arises when trying to identify the specific, measurable effects that one of those inputs has on economic activity or growth. In the midst of so many big-picture ideas about sustainability, how do we quantify those concepts and boil them down into dollar amounts?

In our experience, we’ve found that it can be easier to identify the measurable effects of sustainability themes by zooming in on one particular input rather than the entire ecosystem of inputs connected to our sustainable economy framework. In other words, focusing one’s analysis on individual themes can help illustrate the relationship between sustainability outcomes and financial outcomes more clearly.

An Example in Action: Human Capital Management

Human capital management, defined as the policies and practices used by companies in managing their workforces, is highly relevant to our sustainable economy framework, particularly the principle of long-term prosperity for all. Strong human capital management helps ensure the availability of quality jobs, which is a crucial step in creating prosperity.

There are plenty of considerations when it comes to measuring human capital management. An investor might be interested in a company’s commitment to diversity, equity and inclusion (DEI) or the wages and benefits it offers employees.

Another important consideration in human capital management is workplace safety. One typical measurement for workplace safety is the rate of work-related accidents, injuries and illnesses. Investors are interested in this information at the company level because of the specific legal and reputational risks faced by companies with disproportionately high incident rates. This information is also valuable from a big-picture view because of the direct impacts that accidents, injuries and illnesses have on economic output and growth. When employees are not able to work, it can lead to lower productivity, earnings and spending.

Work-Related Injuries: A Headwind for Growth

A study conducted by the European Agency for Safety and Health at Work (EU-OSHA) sought to measure the cumulative impact of these effects stemming from work-related accidents and illnesses.

The EU-OSHA study is rooted in the “annual working years” of a country or region, acknowledging that annual gross domestic product (GDP)—a measure of a particular area’s total economic output—can be thought of as a result of all the hours worked by its people in a year. Injuries and illnesses can lead to short- and long-term work disruptions, as well as deaths, which can all be measured as reductions in annual working years.

By analyzing the total reduction in annual working years caused specifically by work-related accidents and illnesses and considering a country or region’s current GDP per employed person, the EU-OSHA study was able to estimate the economic costs of such workplace safety risks.

The study ultimately estimated that, in 2015 (the most recent year for which all necessary information was available), the global cost of work-related accidents and injuries was $2.97 trillion (using a historical average conversion rate to convert the Euro estimate to USD). In other words, that $2.97 trillion reflects the total amount of lost economic productivity resulting from employees missing work due to work-related health issues.

This lost economic productivity would have a noticeable effect on global GDP totals. Using the International Monetary Fund’s (IMF) GDP data, $2.97 trillion represents nearly 4% of total global GDP in 2015.

It’s important to remember that this figure is essentially a recurring cost to economic growth. Moreover, since it’s a measure of lost productivity based on GDP output, one might reasonably assume that such cost would grow at a similar rate to total GDP. Using the IMF’s data on global GDP outcomes since 2015, as well as its estimates for GDP through 2025, we estimate that the cost of work-related accidents and illnesses would total approximately $37.7 trillion over the decade following 2015, if costs are adjusted in line with actual and estimated GDP growth. That’s larger than the IMF’s estimate for the cumulative GDP of South America over that decade.

But let’s also consider the potential impacts if those lost costs did not grow at the same rate as total GDP—if, for example, time and resources were committed to improving on workplace safety outcomes, or on the other end of the spectrum, work-related accidents and injuries worsened over the decade. Using the aforementioned 4% of GDP as our baseline, here’s what various changes to outcomes could look like by 2025:

To stick with our comparisons to regional GDPs, the cumulative difference between no action and 50% improvement/worsening over 10 years is $11.2 trillion, which is just under the latest annual GDP of China. That’s a China-sized chunk of GDP that could be at risk if workplace safety conditions get worse, or a China-sized chunk of GDP that could be added to the global economy over that time if conditions get better and overall productivity improves.

Of course, our rough calculations don’t necessarily include many relevant factors. It’s totally possible, for example, that the IMF already factors in gradual improvements to working conditions as it sets its GDP estimates. We also don’t know the economic costs associated with our hypothetical improvements to working conditions—it’s likely that gradual changes would result in their own costs, and these would need to outweigh the costs of lost productivity to positively impact growth. But on the other hand, we may be discounting the potential for incremental productivity improvements to create technological advances and innovations that further compound and improve growth. Regardless, we’re looking at just one of many factors related to workplace culture and human capital management that are material to economic productivity.

Still, the EU-OSHA study provides a valuable snapshot of just how relevant one particular sustainability theme is to economic activity, and by illustrating how that impact affects and is affected by economic growth over a period of time, we can gain a better understanding of how these concepts feed into a big picture view of a more sustainable economy.