Environmental, Social, and Governance (ESG) goals have become a major focus around the world, and China is no exception. However, even as global investors are increasingly interested in putting their money into companies with serious ESG goals, at the country level, there are major ESG issues. Due to the insufficient institutionalization of ESG measures and unique cultural practices, Chinese companies often lag behind their peers in these areas.
When it comes to environmental goals, China continues to use coal to generate electricity since it has extensive resources in this commodity. Chinese banks also financed several coal-fired projects in the five years between 2016 and 2020 in the Belt and Road countries. As a result of extensive coal use and a rising population, the nation remains the largest emitter of greenhouse gases.
However, China is trying to become carbon neutral by 2060. It is increasing the use of renewable energy, and China is a leader in the production of related equipment. China also launched a national emissions trading scheme in 2021, which reveals the country’s desire to improve its environmental outlook. Regulations gradually promoted the use of renewable energy and suppressed pollution. Recently, several types of Chinese environmental impact companies have been asked to disclose environmental information, which will help improve transparency in a traditionally opaque region.
Social interests are a mixed bag. As has been well publicized thus far, China has a poor human rights record, with many allegations of abuses against Uyghur Muslims in Xinjiang. inequality is high; The Chinese Gini coefficient is 0.47, which is higher than what is considered a sufficient equality of 0.3-0.4. On the other hand, the government is working to improve labor rights standards and eradicate extreme poverty. To these ends, China’s Supreme Court recently banned the 9-9-6 work week, which has become infamous in the tech sector for forcing employees to work extremely long hours (from 9am to 9pm, six days a week). The Poverty Alleviation Program has reduced poverty among 800 million people, which has been promoted worldwide as one of the most successful poverty reduction programs in history.
Governance presents particular challenges for fixed income investors whose investments reflect the country’s actions in the area of environmental, social and institutional governance. China’s government is communist and authoritarian, and suppresses freedom of expression. If one invests in the country primarily through government backing bonds, the governance aspect is not overly positive. Corporate governance may differ from the assessment of state governance, but it remains lower in China due to the continued presence of state-owned enterprises. However, there are some bright spots in this area. Corporate governance is improving in some industries, such as the technology sector. There has also been an increase in companies producing ESG reports.
The companies reflect the backward institutional structure of environmental, social and corporate governance in China. Although environmental policies have curbed some of the most polluting companies, many companies fail to disclose emissions, and those that do may be vulnerable to fraudulently representing their emissions. It also found that Chinese companies have fewer safety measures, which contributes to poor working conditions. Some companies have also been linked to forced labor taking place in Xinjiang.
The new Uyghur Prevention of Forced Labor Act introduced in the United States attempts to enforce socio-environmental, social, and institutional requirements that these Chinese companies have been unable or unwilling to address. The law prohibits the import into the United States of goods made in or associated with Xinjiang Action Programs
Corporate governance is improving, but it remains an issue when it comes to board independence. Many companies do not have an independent majority of directors and may even have a controlling shareholder. In addition, fraud and misconduct still plagues some companies.
In general, we can say that Chinese companies are moving in the right direction, but they lag behind Western companies that must follow ESG’s goals in order to compete. Regulation is the thing to watch out for in China, as the company’s business is largely driven by the new rules. Rules pushing for more transparency are on the rise and will force some previously hidden environmental, social and governance issues into the open.
In some areas, notably in state governance and human rights, China is likely to continue to stagnate, but companies may be able to overcome such challenges if they have the will. This will depend on the requirements of domestic and foreign investors and consumers, as well as the leadership of the company. The next few years will reveal how well Chinese companies can implement ESG’s goals.