The Ethics of Impact Investing

By Lucas Tse
the ethics of impact investing

By suggesting that finance has no positive values embedded in it, we encourage these individuals to live a professional life without values and to separate their personal, moral selves from their work. That compartmentalization is difficult and often untenable. Can you engage in a life’s work that is bereft of wisdom and values and hope to live a good life?

Mihir Desai[1]

The Ethics of Impact Investing: Non-Consequentialist Concerns

The Global Impact Investing Network (GIIN) defines impact investing as ‘investments made into companies, organizations, and funds with the intention to generate social and environmental impact alongside a financial return.’[2]While impact investing is a relatively new term—coined at a 2007 conference convened by the Rockefeller Foundation—the concept of directing investments towards social outcomes is not. The precedents of socially-oriented investment include religious communities, such as Quaker codes of ethics in 17th century England;[3] more traditional forms of philanthropic giving;[4] divestment from morally objectionable institutions, such as those of apartheid South Africa;[5]and more recent frameworks of ethical finance such as socially responsible investing, social entrepreneurship, and sustainable finance.[6] In addition, discussion of the ‘impact’ of fund management took on further salience after the global financial crisis.[7] As business journalist Rana Foroohar writes, the priority of wealth creation within financial markets over shared prosperity has produced a situation in which ‘the tail is wagging the dog.’[8] Yet the philosophical and practical aspects of impact investing remain nascent. As a 2018 article in the Stanford Social Innovation Review points out:

Impact investing has never been more popular nor more in peril. The field is wracked by confusion over basic principles, dubious practices that invite cynicism, and biases against large companies. If more clarity is not brought to the movement, it risks a hard fall.[9]

While it is crucial to consider the operation and implementation of impact-oriented financial products, the ethical basis of impact investing is no less critical to its success.[10] As the word ‘impact’ suggests, this kind of ethical finance is frequently justified on the basis of its measurable outcomes. And yet a series of questions emerge: On what values are impact metrics premised? How do quantitative and qualitative aspects of impact interact? What does impact have to do with moral rightness? Much discussion on impact investing follows an implicitly consequentialist approach. As philosophers Cohen and Peterson point out, it is important to recognise the implicit morality of market-driven approaches is often consequentialist.[11] Business ethicist Andrew Gustafson puts it this way: ‘business persons tend to focus on results, or consequences, so business practice is naturally consequence-driven.’[12] Gustafson defends a utilitarian approach to business ethics in order to ‘make explicit what is implicit in practice’—nonetheless, he acknowledges the need to obtain a broader ethical view of financial ethics, including both consequentialist and non-consequentialist ethical theories.[13]

The remainder of this review obtains this broader view by juxtaposing the conventional framework of measurable impact with alternative approaches to the ethics of impact investing. In particular, three other traditions can also contribute to deepening the ethical basis of finance: deontology, virtue ethics, and religious ethics. The assessment of impact is a ‘contested conceptual arena.’[14] By establishing a broader view of financial ethics, this multiplicity of ethical theories benefits the philosophical justification of impact investing and the innovation of practical solutions.

Moral Principles and Intention

While all investments have impact, deontologists highlight the importance of intention in ethical finance. In other words, while any economic activity has externalities, impact investing is specifically oriented towards designing social outcomes. This emphasis on intention became more salient after the global financial crisis, given the major gaps between the social responsibilities and actual conduct of financial institutions.[15] Philosophical studies on corporate ethics have developed an approach to moral agency for such institutions—by setting up an analogy between corporate and individual agency. Intention is one of the core components of such moral agency. While this approach does not ignore the consequences of investments, it also considers the investor’s intention as ethically paramount.[16] A deontological approach encourages discussion on the moral principles that ground the practices of regulatory authorities and impact measurement. 

Deontological ethics bring this focus on moral agency to financial behaviour. As sociologist Amitai Etzioni writes of Kantians, they ‘draw on a distinct realm of rights and obligations, of moral values, set apart from that of satisfactions and goods, the foci of utilitarianism and the neoclassical concept of utility.’[17] For example, consider impact investing decisions in the field of climate and sustainability. While the calculus of intergenerational effects is broadly consequentialist, any model requires the application of a discount rate—in other words, an assumption about the distribution of welfare between present and future generations. The deontological perspective can hardly be neglected here, since the discount rate itself requires ethical discussion on the principle of intergenerational fairness.[18] More broadly, deontological ethics observes action as the expression of internal moral agency, and has practical implications for cultivating ethical businesses beyond regulation –‘a sense of personal morality needs to be developed that takes into account deontological principles of ethical conduct.’[19] Empirical research also suggests that investors identifying as ‘responsible’ give preference to deontological principles, such as the protection of human rights and equality.[20] In summary, deontology is a strong alternative to consequentialism as an ethical basis for impact investing, even though the two are not mutually exclusive.

Virtue Ethics

While the deontological emphasis on self-regulation goes one step further than the exclusively institutional framework of regulation (by an external authority), other commentators point to the role of virtue ethics in creating ethical financial individuals and communities. Irene van Staveren argues for 

another theory of ethics for economics, virtue ethics, which emphasises the interrelatedness of agents and commitment to shared values beyond the rules that a society has institutionalised. Virtue ethics internalises morality not as a preference or a constraint, but through the practices in which agents are related in their pursuit of value added.[21]

Daryl Koehn further stresses, based on virtue ethics, ‘people become what they are within a community.’ She cites the traditional emphasis placed upon habituation by virtue ethicists to highlight the formation of corporate culture.[22]Sherwin Klein uses the virtue ethics tradition to emphasise ‘that the moral and immoral behaviour that exists in any organized whole is a product of its basic values.’ Business virtue must therefore be cultivated from the ground up, embedded in the character of those who work in the given organization.[23] Recent work on mitigating microfinance portfolio risk suggests virtue ethics-based CSR is the most useful approach, since an organisation would act out of its inherent character rather than for desired outcomes, and would more likely be motivated to go beyond minimal requirements of social responsibility.[24]

The approach of virtue ethics questions the relationship between material (economic) goods and non-material goods, such as the virtues.[25] For a number of years, business ethicists wrestled with philosopher Alasdair MacIntyre’s exclusion of financial institutions from his account of institutional virtue ethics. More recent work has reframed the ethics of business organisations in line with MacIntyre’s notions of practice and institution. Geoff Moore analyses the ‘tendency to avarice’ in business communities, redirecting it towards a notion of craftsmanship in business organisations.[26] Keith Wyma further points to the need for extra vigilance in cultivating virtue-based investment practices, given the pressures and incentives to cut ethical corners.[27] As with deontology, virtue ethics need not exclude all consequentialist concerns.[28]Alexander Bertland builds on Sen and Nussbaum’s capabilities approach to provide a model of business ethics, especially in developing nations—focusing especially on the responsibility of financial institutions to develop capabilities and trust.[29] The emphasis on virtuous practice has garnered attention outside academia, in venues such as the Aspen Festival;[30]but as scholars and practitioners readily admit, more work remains to bring philosophical discussions of virtue ethics into actual business practice and organisational behaviour. [31]

Religious Ethics

Religious ethics offers yet another approach towards justifying and evaluating impact investing. As numerous scholars note, religious organisations have been pioneers in social investment for centuries past.[32] Older forms of faith-oriented considerations became integrated with more recent developments in ethical finance—by the 2010s, the Catholic Church had become actively involved in impact investing.[33] A recent book on Jainism and business ethics puts it bluntly: for too long, mainstream finance has tended to ignore both ethics and culture.[34] While religious ethics may make claims to universalism, the sociological pluralism of faith-based financial practices also provides important examples for mutual learning and geographically-specific solutions to ethical finance. Philip Roundy’s account of regional differences in impact investment is one approach to such case studies—he articulates the role of financial ecosystems for community dynamics that encourage and support impact investing. He further points to the ‘multiple logics,’ including ethical, religious and economic motivations, that shape the uniquely hybrid activity of impact investing.[35] Religious perspectives on ethical finance provide a culturally-informed approach to financial institutions, fulfilling the call made explicit by the Australian Institute of Actuaries: ‘there is a clear need for a deeper and more nuanced understanding of cultures in the finance industry, and for an explicit consideration of the ethical dimension of culture.’[36]

Consider the case of Islamic finance and its approach to impact. Islamic funds rode on the technology boom in the late 1990s. Traditionally, Islamic finance had used religious principles to screen investments and ensure social responsibility. After the Asian financial crisis in 1997, Islamic finance surged as an alternative to Western-style markets in Muslim countries.[37]A number of financial and social criteria ensure consistency with the values and beliefs of investors.[38]Investment within this paradigm has an inherently ethical nature; economic value must confront moral values.[39] For example, the prohibitions of riba, gharar and maysir in Islamic finance are specifically rooted in the moral and legal concept of right, haqq.[40] A number of governments have pioneered green sukuk, Islamic bonds with a unique structure of risk-sharing—Malaysia,[41] Indonesia,[42] and Turkey[43] launched their own versions in 2017, 2018 and 2020 respectively. The Clean Energy Business Council, the Climate Bonds Initiative and the Gulf Bond and Sukuk Association recently established the Greek Sukuk Working Party to develop climate-oriented financial products to meet increasing demand. Other impact-related innovations in Islamic finance range from the Somali Family Service of San Diego’s work in mission driven finance, [44] to the Global Alliance for Banking on Values (GABV)’s project with the Malaysian central bank on a scoreboard for ethical Islamic banking. [45] With institutional developments such as the creation of the Islamic finance index on the London stock exchange, opportunities are increasing for global mutual learning, especially between ethical finance and Islamic finance.[46] Financial ethics may provide the key to conceptual integration to these frameworks that remain largely separate for the time being.[47]

Impact Investing

In the meantime, critics have highlighted the weak conceptual foundations of ‘impact investing,’ in terms of adequate financial returns as well as substantial social change. The World Bank Centre for Global Development has cautioned against the ‘potential for hype’ in impact investing. How ethical, to use a phrase from its report, is the ‘social impact moniker’?[48] Ethical finance is not ‘ethical’ simply because of its title;[49] it must undergo careful scrutiny for full examination of its philosophical and practical implications. The question of how much impact investing differs from conventional finance in moral terms will surely remain for many years to come.[50] This is not in itself a disadvantage, since the ethical finance movement has reintroduced the normative dimension to mainstream discussions of financial institutions. After financial crises and misconduct have followed one after the other, the search for moral clarity is timely and critical. Refining research, debate and practice on the moral preferences of investors will provide a more consistent and thorough ethical basis to impact investing.[51] At the same time, the contribution of financial ethics might not be to ascertain, at long last, a singular approach to ‘the’ impact of investments—in sociological and philosophical terms, ethical pluralism may persist in generating a number of alternative criteria for ‘socially good’ investment.[52] Such diversity is a strength of ethical theories, not a weakness. Each theory can in turn be used to evaluate the principles and practices of impact investing—for example, deontology contributes a view on the significance of intentions, virtue ethics charts a path to cultivating good behaviour among individuals and communities, and religious ethics provides a model for the cultural interpretation of financial institutions.

The significance of holding a broad view towards the financial ethics of investment also has practical implications. Scholars and practitioners alike have used a wide range of theories to generate new solutions to the growing needs for ethical finance. These range from innovations in sukuk, Islamic bonds that integrate socially responsible (and more recently, social impact) criteria;[53] to a business ethics assessment model based on four components of ubuntu, a philosophical term in Bantu languages often translated as ‘humanity’;[54] and Kantian recommendations for open book management on the basis of ‘respect for persons.’[55] Consider, for example, current discussions in India concerning the insufficiency of CSR to effectively direct financial resources towards social needs. Public policy specialist Akanksha Sharma highlights the need for post-pandemic impact investments in infrastructure alternations, especially for key areas of human development.[56] Geeta Goel, country director of the Michael & Susan Dell Foundation, points to the current need for impact investing in India to proceed beyond the ‘goodwill’ phase towards codifying sector-wide norms of social responsibility.[57] In a recent Union budget, finance minister Nirmala Sitharaman suggested the establishment of a social stock exchange. This suggestion led in turn to a dedicated working group, composed of representative individuals from B-Corps, social businesses, cooperatives, and other producer organisations[58]—there may also be a role for those focusing on philosophical and religious ethics. The ambiguous and novel frameworks underlying current discussions of impact investing, [59] in India and worldwide, pose a challenge as well as an opportunity, especially for financial ethics. While the management of each fund and design of each financial product inevitably involves much more detailed work, the multiple approaches outlined above remind us of why a broad view of ethical finance remains significant. Such financial practices are likely to maintain an element of consequentialist impact assessment. Consequentialism, well and alive, is no problem;[60] but this essay is an invitation to a broader and more multidimensional approach to ‘blended value.’

[1] Desai, Mihir. The wisdom of finance: Discovering humanity in the world of risk and return. Houghton Mifflin Harcourt, 2017, 11.

[2] Höchstädter, Anna Katharina, and Barbara Scheck. “What’s in a name: An analysis of impact investing understandings by academics and practitioners.” Journal of Business Ethics 132.2 (2015): 449-475.

Kish, Zenia Yaroslava. “Investing for impact: Philanthrocapitalism and the rise of ethical finance.” PhD diss., New York University, 2015. 9-10

[3] Bugg-Levine, Antony, and Jed Emerson. “Impact investing: Transforming how we make money while making a difference.” Innovations: Technology, Governance, Globalization 6.3 (2011): 9-18.

[4] Viviers, Suzette, Tamzin Ractliffe, and Dean Hand. “From philanthropy to impact investing: Shifting mindsets in South Africa.” Corporate Ownership and Control 8.3-1 (2011): 25-43.

[5] Paul, Karen, and Dominic A. Aquila. “Political consequences of ethical investing: The case of South Africa.” Journal of Business Ethics 7.9 (1988): 691-697.

[6] Combs, Kristi. “More than just a trend: The importance of impact investing.” Corporate Finance Review 18.6 (2014): 12.

[7] Gangi, Francesco, and Carmen Trotta. “The ethical finance as a response to the financial crises: an empirical survey of European SRFs performance.” Journal of Management & Governance 19.2 (2015): 371-394.

[8] Foroohar, Rana. Makers and takers: The rise of finance and the fall of American business. Crown Books, 2016.

[9] Abt, Wendy. “Almost everything you know about impact investing is wrong.” Stanford Social Innovation Review, 2018.

[10] See Tan Bhala, Kara. “The philosophical foundations of financial ethics.” Research Handbook on Law and Ethics in Banking and Finance. Edward Elgar Publishing, 2019.

[11] Cohen, Marc A., and Dean Peterson. “The Implicit Morality of the Market is Consequentialist.” Business Ethics Journal Review 8.1 (2020): 1-7.

[12] Gustafson, Andrew. “Consequentialism and non-consequentialism.” The Routledge Companion to Business Ethics. Routledge, 2018. 79-95. 79

[13] Gustafson, Andrew. “In defense of a utilitarian business ethic.” Business and Society Review 118.3 (2013): 325-360.

[14] Reeder, Neil, et al. “Measuring impact in impact investing: An analysis of the predominant strength that is also its greatest weakness.” Journal of Sustainable Finance & Investment 5.3 (2015): 136-154.

[15] Avram, Costin Daniel. “The social responsibility and the deontology of the banking profession under the conditions of the global financial crisis.” Finante-provocarile viitorului (Finance-Challenges of the Future) 1.11 (2010): 289-296.

[16] Heybrock, Jonathan Mitchell. “Doing Well Through Doing Good: Is The Ethical Investment Movement Truly ‘Ethical’?.” Master’s thesis, Leiden University, 2019. 5-7. See also Mildenberger, Carl David. “Investing and Intentions in Financial Markets.” European journal of analytic philosophy 15.1 (2019): 71-94.

[17] Etzioni, Amitai. “Toward a Kantian socio-economics.” Review of social Economy 45.1 (1987): 37-47.

[18] Howarth, Richard B. “Sustainability under uncertainty: a deontological approach.” Land economics (1995): 417-427.

[19] Micewski, Edwin R., and Carmelita Troy. “Business ethics–deontologically revisited.” Journal of Business Ethics 72.1 (2007): 17-25.

[20] Buijs, A., et al. “Is responsible investing ethical?.” South African Journal of Business Management 39.1 (2008): 15-25.

[21] Van Staveren, Irene. “Beyond utilitarianism and deontology: Ethics in economics.” Review of Political Economy 19.1 (2007): 21-35.

[22] Koehn, Daryl. “A role for virtue ethics in the analysis of business practice.” Business Ethics Quarterly (1995): 533-539.

[23] Klein, Sherwin. “Platonic virtue theory and business ethics.” Business & Professional Ethics Journal (1989): 59-82.

[24] Chakrabarty, Subrata, and A. Erin Bass. “Comparing virtue, consequentialist, and deontological ethics-based corporate social responsibility: Mitigating microfinance risk in institutional voids.” Journal of Business Ethics 126.3 (2015): 487-512.

[25] Sison, Alejo José G., Ignacio Ferrero, and Gregorio Guitián. “Characterizing virtues in finance.” Journal of Business Ethics 155.4 (2019): 995-1007.

[26] Moore, Geoff. “Humanizing business: A modern virtue ethics approach.” Business ethics quarterly (2005): 237-255. 

[27] Wyma, Keith D. “The case for investment advising as a virtue-based practice.” Journal of Business Ethics 127.1 (2015): 231-249.

[28] For one ‘tripartite’ approach that integrates virtue, consequentialist and deontological ethics in business, see Whetstone, J. Thomas. “How virtue fits within business ethics.” Journal of Business Ethics 33.2 (2001): 101-114.

[29] Bertland, Alexander. “Virtue ethics in business and the capabilities approach.” Journal of Business Ethics 84.1 (2009): 25-32.

[30] “Restoring Virtue to Finance.” Aspen Ideas Festival, https://www.aspenideas.org/sessions/restoring-virtue-to-finance.

[31] Pinto-Garay, Javier. “Virtue Ethics in Business: Scale and Scope.” Business Ethics (Business and Society 360, Volume 3). Emerald Publishing Limited (2019): 67-86.

[32] Louche, Céline, Daniel Arenas, and Katinka C. Van Cranenburgh. “From preaching to investing: Attitudes of religious organisations towards responsible investment.” Journal of business ethics 110.3 (2012): 301-320.

[33] The Catholic church becomes an impact investor. The Economist, 2017.

[34] Shah, Atul K., and Aidan Rankin. Jainism and ethical finance: a timeless business model. Taylor & Francis, 2017, “Introduction.”

[35] Roundy, Philip T. “Regional differences in impact investment: A theory of impact investing ecosystems.” Social Responsibility Journal (2019).

[36] Asher, Anthony, and Tracy Wilcox. “Virtue and risk culture in finance.” Institute of Actuaries of Australia, Aug. 2015, https://web.actuaries.ie/sites/default/files/erm-resources/220_Virtue%20and%20Risk%20Culture%20in%20Finance.pdf.

[37] Naughton, Shahnaz, and Tony Naughton. “Religion, ethics and stock trading: The case of an Islamic equities market.” Journal of Business Ethics 23.2 (2000): 145-159.

[38] Hassan, Abul. “Impact of ethical screening on investment performance: the case of the Dow Jones Islamic Index.” Islamic Economic Studies 12 (2005). On the performance of Islamic funds, see Nainggolan, Yunieta, Janice How, and Peter Verhoeven. “Ethical screening and financial performance: The case of Islamic equity funds.” Journal of Business Ethics 137.1 (2016): 83-99.

[39] See Mirakhor, Abbas, Adam Ng, and Mansor H. Ibrahim. Social capital and risk sharing: An Islamic finance paradigm. Springer, 2015.

[40] Cattelan, Valentino. “From the concept of haqq to the prohibitions of riba, gharar and maysir in Islamic finance.” International Journal of Monetary Economics and Finance 2.3-4 (2009): 384-397.

[41] Hadad-Zervos, Faris. “Malaysia launches the world’s first green Islamic bond.” World Bank Blogs, 31 Jul. 2017, https://blogs.worldbank.org/eastasiapacific/malaysia-launches-the-worlds-first-green-islamic-bond.

[42] Ministry of Finance, Republic of Indonesia. “Indonesia’s Green Bond & Green Sukuk Initiative.” 2018.

[43] “Turkey Issues its First Sustainable Sukuk.” Global Islamic Finance and Impact Investing Platform, 10 Jun. 2020, http://www.gifiip.org/turkey-issues-its-first-sustainable-sukuk/.

[44] Moghul, Umar. “A Landmark Impact Investment.” Next Billion, 17 Jun. 2019, https://nextbillion.net/impact-investment-islamic-finance/.

[45] Wright, Chris. “Impact banking: Putting the impact back into Islamic finance.” Euromoney, 19 Sept. 2018, https://www.euromoney.com/article/b19zzgy0hljjvg/impact-banking-putting-the-impact-back-into-islamic-finance?copyrightInfo=true.

[46] Sheng, Andrew. “Islamic finance as social impact investing.” Finance Issue Brief 2013 8 (2013); Barom, Mohd Nizam. “Understanding socially responsible investing and its implications for Islamic investment industry.” Journal of Emerging Economies and Islamic Research 7.1 (2019): 1-13.

[47] See Ibrahim, Mohammed El Youssofi Oulad. “Funding Social Business: a recognition of Islamic Finance.” Master’s thesis, Utrecht University, 2014.

[48] Simon, John, and Julia Barmeler. More than money: Impact investing for development. No. id: 3299. 2010. Center for Global Development. 

[49] Schwartz, Mark S. “The” ethics” of ethical investing.” Journal of business ethics 43.3 (2003): 195-213.

[50] Sandberg, Joakim. “Ethical Investment.” International Encyclopedia of Ethics (2013).

[51] Sandberg, Joakim, and Jonas Nilsson. “Do ethical investors want purity or effectiveness? An exploratory study on the ethical preferences of mutual fund investors.” Journal of Financial Services Marketing 20.1 (2015): 34-45; Derry, Robbin, and Ronald M. Green. “Ethical theory in business ethics: A critical assessment.” Journal of Business Ethics 8.7 (1989): 521-533.

[52] Meyer, Julia, Annette Krauss, and Kremena Bachmann. “Drivers of Investor Motivations for Impact Investments: The Case of Microfinance.” Available at SSRN 3395275 (2019).

[53] Mohamad, Saadiah, Othmar Manfred Lehner, and Aly Khorshid. “A case for an Islamic social impact bond.” Available at SSRN 2702507 (2015); Bennett, Michael S., and Zamir Iqbal. “How socially responsible investing can help bridge the gap between Islamic and conventional financial markets.” International Journal of Islamic and Middle Eastern Finance and Management (2013).

[54] Taylor, Douglas FP. “Defining ubuntu for business ethics–A deontological approach.” South African Journal of Philosophy 33.3 (2014): 331-345.

[55] Bowie, Norman E. “A Kantian approach to business ethics.” A companion to business ethics (2002): 3-16.

[56] Sharma, Akanksha. “Is impact investing the road ahead for CSR In India?.” Observer Research Foundation, 30 Jul. 2020, https://www.orfonline.org/expert-speak/is-impact-investing-the-road-ahead-for-csr-in-india/.

[57] Banerjee, Jasodhara. “How Covid-19 will affect impact investing in India.” Forbes India, 3 Aug. 2020, https://www.forbesindia.com/article/real-issue/how-covid19-will-affect-impact-investing-in-india/61321/1.

[58] Sarin, Ankur, and M.S. Sriram. “How India can boost social impact investing.” livemint, 14 Aug. 2020, https://www.livemint.com/market/stock-market-news/how-india-can-boost-social-impact-investing-11597327728761.html.

[59] Borpuzari, Pranbihanga. “India can’t afford to depend upon the 2% CSR contributions to fuel social innovation: Sterlite Tech’s Akanksha Sharma.” The Economic Times, 26 Aug. 2020,  https://economictimes.indiatimes.com/small-biz/sme-sector/india-cant-afford-to-depend-upon-the-2-csr-contributions-to-fuel-social-innovation-sterlite-techs-akanksha-sharma/articleshow/77756229.cms?utm_source=contentofinterest&utm_medium=text&utm_campaign=cppst.

[60] See, for example, Peterson, Martin. The dimensions of consequentialism: Ethics, equality and risk. Cambridge University Press, 2013.