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Enabling Conditions for Environmental Sustainability:Private and Public Roles

Kathryn Gordon

OECD Directorate for Financial, Fiscal and Enterprise Affairs

Draft background paper for discussion at session V.1 of the OECD Global Forum onSustainable Development: Conference on Financing Environmental Dimension

of Sustainable Development

OECD, Paris, 24-26 April 2002

The views expressed in this paper are those of the author and do not necessarily reflect those of OECDor its Member countries. The work on this paper is still in progress and the author would welcomeyour comments to kathryn.gordon@oecd.org.

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Executive Summary

1. Host and home governments are moving beyond traditional investment facilitation --they now embrace a broader set of policies designed to enhance the contribution of investment toeconomic, social and environmental welfare. This broad set of policies is called the “enablingframework”. The present paper focuses on the steps taken by the business sector to act in harmonywith this framework and the new approaches adopted by governments to improve the “fit” betweenprivate action and public policy.

2. The principal findings of this paper are as follows:

Significant progress in business practice. A recent OECD Study, using databases coveringover two thousand organisations in thirty countries, shows that over the last fifteen years or so,principles and management methods have emerged that allow businesses to address ethical issuesabout which they would have been incapable of organising any systematic response even as recently astwo decades ago.

�� Global phenomenon. OECD research suggests that most major multinational enterpriseshave participated in this trend. For example, nearly all of the top 100 multinationalenterprises publish material outlining the principles and management techniques they useto control environmental, health or safety outcomes or in the area of labour relations .The study of policy statements -- or codes of conduct -- suggests that companies, oftenworking in business associations, have formulated an impressive array of concepts andprinciples for thinking about sustainable development issues.

�� Emerging principles for business conduct. Businesses and business associations,through their published policy statements, have given serious consideration to many ofthe ethical challenges they face and, in particular, to how they can contribute to thesustainable development agenda. The policy statements -- or codes of conduct -- studiedcover a vast array of issues including labour relations, environment, human rights,information disclosure, the fight against corruption and consumer protection. However,although these policy statements often represent serious reflections on the challengesfacing business, they do not, viewed as a whole, constitute a uniform standard ofbusiness conduct in any area. This suggests that, in areas where a uniform standard ofbehaviour is desirable, there may be a need for inputs from governments, internationalorganisations, or civil society.

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�� Growing expertise. A new pool of international management expertise has been created.This new cadre of managers combines knowledge of regulatory and legal compliancewith management control expertise. The accumulation of expertise has been especiallystrong in the environmental field.

�� Emerging standards. Standards in support of improved non-financial accountability andperformance have been developed and these are now being used, refined and testedthrough day-to-day use by companies. For example, about two-thirds of the highenvironmental impact companies examined in this paper use a standard environmentalmanagement system (either ISO 14001 or EMAS). Other examples of standardisationare the Global Reporting Initiative for corporate reporting in support of sustainabledevelopment and the Voluntary Principles on Security and Human Rights.

Effective corporate action in support of sustainable development requires an effectiveenabling environment. The progress cited above is a response to market pressures (the “businesscase” for corporate responsibility, the need to manage legal and regulatory compliance and to “softer”pressures not written down in law books. Thus, although these initiatives are essentially private, theyare influenced in various ways by the broader environment -- economic, cultural, social, legal andpolitical -- from which they emerge. The immediate implication of this is that, if broader environmentis not functioning well, the business sector will not be able to do its job either. Societies provideessential influences and inputs that promote appropriate business conduct in subtle ways (for example,through informal enforcement stemming from peer pressure -- so-called “voluntary compliance’).Media also play a role. But in order for these influences to work, basic rights -- human, political, civiland labour -- need to be respected.

New approaches to regulation are emerging. New approaches to law and regulation try touse private managerial capacity to advance sustainable development goals. The OECD study showsthat a co-operative form of regulation is gradually emerging that attempts to induce companies to usetheir private compliance expertise to advance public enforcement objectives. For example, OECDgovernments have integrated private compliance efforts into their regulatory and law enforcementstrategies in such areas as environment, competition, anti-money laundering and food safety.Although they are often referred to as co-operative regulation, these new approaches rely on more thanjust trust and good faith. They can create powerful incentives for companies to adopt initiatives insupport of corporate responsibility while allowing them the flexibility they need to adapt theirmanagement system to their own business situation.

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TABLE OF CONTENTS

Enabling conditions for Environmental sustainability: Private and public roles..........................1

Executive Summary ...................................................................................................................3I. Introduction.........................................................................................................................6II. Thinking about the Business Contribution to Sustainable Development............................7III. Growing Managerial Capacity ........................................................................................9IV. Societies’ Contributions -- Values and Partnership.......................................................14

BIBLIOGRAPHY........................................................................................................................20

Boxes

Box 1. Selected Private Standards -- Association or Group Initiatives...................................17Box 2 -- The OECD Guidelines for Multinational Enterprises...............................................18Box 3 -- The IFC Guidelines for Multinational Enterprises ...................................................19

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I. Introduction

The challenge of creating aneffective investment environmenttouches upon virtually all policyareas. Companies contribute tothe effectiveness of thisenvironment through theirmanagement decisions.

An effective enabling environment for investment is one thatallows societies to achieve higher levels of economic, social andenvironmental welfare. The challenge of creating an effectiveinvestment environment touches upon virtually all policy areas --fiscal, public sector management, competition, environment, labourand so forth. Improving policy in all these areas helps countriesreap the full benefits of foreign direct investment. Governmentshave also attempted to enlist the support of the business communityin improving the effectiveness of their policies and companies havemade progress in responding to this co-operative effort.

Firms have been responding tothese concerns and challengeswith managerial innovations,including codes of conduct andassociated management systems.

Firms have contributed in various ways to the sustainabledevelopment agenda, including its environmental dimension.Some twenty years ago, firms began formulating policy statements-- or codes of conduct. These set forth their commitments invarious areas of business ethics and legal compliance. Another stepwas the development of management systems designed to helpthem comply with these commitments and the development ofstandardised management systems. A new management disciplinehas emerged involving professionals that specialise in regulatory,legal and ethical compliance. More recently, steps have been takento formulate standards providing guidance for business reporting onnon-financial performance.

The practice of issuing codes is arelatively recent development.

These private initiatives are a prominent recent developmentin international business. OECD research shows that well over 95per cent of the top 100 multinational enterprises (surveyed in 2001)have issued policy statements or codes in such areas as labourrelations and environment, health and safety (EHS). Thecompliance tools now used routinely in international businesshardly existed three decades ago. The now - widespread practice ofissuing codes of conduct dates roughly to twenty-five years ago.

Firms have not developed thesemanagement innovations on theirown. Business associations, NGOsand governments have also playedimportant roles.

Companies have not acted alone in making theseinnovations. They have consulted with local communities, NGOsand with employees. They have also co-operated with othercompanies. Business associations have undertaken many initiativesto help their members have played important and varied roles.Governments also have influenced the shape of these initiatives invarious ways. In particular, many have incorporated them into theirregulatory and law enforcement strategies, giving rise to hybridsystems involving both public and private action.

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II. Thinking about the Business Contribution to Sustainable Development

All aspects of thesustainable development agenda --environment, anti-corruption,human rights, technology etc --are covered in this inventory ofcodes.

One way that businesses communicate their views on theirroles in and obligations to society is through the publication ofpolicy statements or codes of conduct. Viewed as a whole, thecorporate policy statements or codes of conduct surveyed by theOECD cover a broad range of issues and cover each of theeconomic, social and environmental “pillars” of the sustainabledevelopment agenda. They address such issues as environmentalmanagement, human rights, labour standards, anti-corruption,consumer protection and information disclosure, competition andscience and technology (Figure 1). The most common issue areasaddressed in the inventory are labour standards and environmentalstewardship. Tables 1shows the frequency of mention ofcompanies’environmental commitments.

Compliance with law is one of themost common commitments madein the code.

Compliance with law is a prominent concern in theenvironmental policy statements (Table 1) and nearly allcommitments to it apply to both home and host countries.However, none of the 246 codes in the inventory could be read as apure “legal compliance” text. All codes citing legal compliancealso cite broader commitments in the areas they cover.

Individual companies’ approachesto commitment show widedivergences. They do notconstitute a de facto standard ofbehaviour.

A look at the commitments made by individual companies innarrowly defined issues in relation to a particular activity (e.g.extractive industries) shows that the codes vary widely in theirapproach to ethical commitment. The extractive industry codes --all produced by large companies -- show wide divergences ofcommitment. Most deal with the environment, but treatment ofother issues (human rights, corruption) is sporadic and the conceptsused vary widely among companies. OECD (2001) shows thatsimilar divergences exist in relation to the fight against corruptionand core labour standards. These divergences may reflectdifferences in individual companies’ business situations.Nevertheless, they also suggest that the codes do not generallyconstitute a de facto standard of commitments in the areas theycover. One exception to this finding are the association codes,where groups of companies, NGOs and banks, work together toestablish a private standard. Business activity in standards settinghas been a major feature of business activity, especially in theenvironment. Box 1 reviews selected initiatives.

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Figure 1. Issues addressed in codes of corporate conduct(number of codes mentioning issue; out of 246 codes)

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Table 1. Environmental Policy Statements -- Commitments

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III. Growing Managerial Capacity

Accumulation of managerialexpertise -- especially inenvironmental management -- hasbeen impressive

Accumulation of expertise in the area of environmentalmanagement among major companies has been impressive. Thissection suggests that this accumulation is global, but that rates ofuptake are uneven among business communities of differentnationalities. It also suggests that the uptake of environmentalmanagement standards -- which allow companies to economise onthe development costs of environmental management systems and,possibly, to increase their credibility and effectiveness as well --has been significant.

Implementing complianceprogrammes can be a formidabletask. This section looks atcompanies’ environmentalpractices.

Implementing legal and ethical compliance programmes canbe a formidable task requiring considerable managerial know-how.Normally all aspects of the firm’s operations will be affected --structure of responsibilities, hiring, record keeping, incentivesystems, external communications, training, production, legalservices, emergency preparedness, etc. This section looks at howcommon such practices among European, Japanese and non-member Asian companies. It sheds light on the frequency ofadoption of various environmental management and reportingpractices and compares practices across countries and sectors ofactivities.

The data sets used here include adatabase covering over 1600European companies and 100non-member Asian companies. Adifferent data set on Japanesecompanies’ environmentalpractices is also presented.

The information on European companies comes fromSecretariat aggregations of data from an existing database oncorporate environmental practices -- the database of the EthicalInvestment Research Service (EIRIS) covering over 1600companies. This discussion focuses on the more than 400 firms inthis database that operate in “high environmental impact” (HEI)sectors such as chemicals, air transport and forestry. The Secretariathas also duplicated the EIRIS methodology and created anotherdatabase on a matched set of non-OECD Asian companies in highenvironmental impact sectors. The Secretariat has also aggregatedsurvey data on corporate environmental practices in Japan compiledby the Asahi Foundation. All three databases cover firms’environmental commitments, management practices and reporting.

The analysis suggests that 75% ofthe high impact firms in thesample publish environmentalstatements.

The statistical results for the HEI firms in Europe are shownby country and by environmental practice (statement ofenvironmental commitment; formal environmental managementsystem; reporting). Seventy-five per cent of the HEI firms in theEIRIS sample publish a formal “environmental policy statement”(i.e. a type of detailed code of conduct setting forth the company’scommitments for its environmental performance). The equivalentfigure for all firms (high and low impact) is 42%. All HEIcompanies from Sweden, Belgium and Norway issue policystatements, whereas less than 30% of the Greek HEI companies do(Figure 2).

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Firms sometimes use formalenvironmental managementsystems. Use of such systems isextremely high in northernEurope, but low in some otherparts of Europe.

Companies sometimes use formal environmentalmanagement systems to help achieve their environmentalcommitments. Fifty-two per cent of the HEI firms have such asystem (Figure 2). The data point to wide differences amongcountries in the rate of implementation of such systems. Countrieswhose HEI companies have high rates of EMS implementation areSweden (93% of HEI companies), Finland (89%), and Germany(82%). Countries whose high environmental impact companieshave relatively low rates of adoption include Greece (7%) andIreland (10%).

Standard environmentalmanagement systems areavailable. Many Europeancompanies use such standards, buta third of them use tailor-madesystems.

An important development in this area in recent years is themarked progress made in standardisation of environmentalmanagement systems (EMS). Two main EMS standards areavailable -- ISO 14001 and European Union’s Eco-Managementand Audit Scheme (EMAS). The purpose of managementstandards is to lower the cost of implementation for companies(since they can take a management system “off the shelf”) and toincrease the credibility to external stakeholders of firms’ efforts toachieve appropriate environmental standards (since theirenvironmental practices are then recognised as being standard). Thedisadvantage of a standard is that it may not be well suited to afirm’s individual management problems or style. The data showthat the majority of European firms using an EMS use an EMSstandard (ISO or EMAS), while 34% use only tailor-made systems(Figure 3).

Environmental reporting is theleast common environmentalpractice.

Environmental reporting is the least common among thethree main practices studied. Forty-one per cent of the HEI firmspublish a stand-alone report on their environmental performance.Figure 2 suggests that significant differences exist betweencountries in the area of environmental reporting by HEI companies.Countries whose HEI companies are likely to publish stand-alonereports include Sweden (64%), Finland (56%) and Switzerland(50%). In Ireland and Greece, none of the HEI firms producestand-alone reports.

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Figure 2. The environmental practices of European companies:Policy, management systems and reporting

(Percentage of firms adopting practice and operating in high environmental impact sectors)

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Figure 3. Standardised EMAS and ISO 14001 versus Tailor-made EMSs in Europe(As a percentage of all companies with EMSs)

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The EIRIS methodology has beenduplicated for a sample of 100publicly traded non-member Asiancompanies. The results showquite advanced environmentalmanagement practices in somecases.

OECD-based companies are not the only firms involved inthe adoption of advanced environmental management practices.The Secretariat duplicated the EIRIS methodology for a matchedsample of 100 high environmental impact companies based in fivenon-member Asia companies (Indonesia, Malaysia, Philippines,Chinese Taipei and Thailand). Note that, as with the EIRISdatabase, the nationality of a company depends on the stockexchange where its shares are quoted (in both cases, foreignownership is often high). The results show reasonably high rates ofadoption of such practices, especially in Chinese Taipei andThailand for EMS adoption (Figure 4). These numbers place therate of corporate adoption of formal EMSs in those two countries atonly slightly lower than in the United Kingdom and France. Aninteresting difference between the Asian and European samples isthe much higher reliance of Asian firms on standardisedenvironmental management systems. All of the firms with an EMSin the Asian sample are certified for ISO 14001 (that is, none of theAsian firms use a tailor-made system).

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Figure 4. Environmental management practices of non-member Asian companies(percentage of firms adopting practice and operating in high environmental impact sectors)

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A survey-based data sourcesuggests that Japanese companieshave high rates of adoption ofadvanced environmentalmanagement and reportingpractices.

The Secretariat has also looked at the environmentalpractices of Japanese companies by aggregating survey datacompiled by Asahi Foundation. The methodology underpinningthis data is quite different than that of the two studies reportedabove (see OECD 2001) and so comparisons should be made withcaution. However, the data suggests that Japanese companies havevery high rates of adoption of advanced environmentalmanagement practices: 78% of the companies publish a statementof environmental policy, 58% have one or more units certified forISO 14001 and 54% publish information on their environmentalperformance. The Japanese data -- viewed along with the Europeanand non-member Asian data -- suggests that there are importantinternational differences in styles of environmental management(e.g. in the use of standardised management systems). There arealso differences in the degree to which advanced managementpractices are adopted. Nevertheless such practices have become animportant part of business practice in a very diverse array ofcountries.

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IV. Societies’ Contributions -- Values and Partnership

Companies need the inputs andinfluences from surroundingsocieties. These take the form oflaw, regulation and “softer”pressures.

Corporate initiatives are only meaningful if they aresuccessful in helping companies conform more closely to society’svalues and aspirations and the preceding discussion shows that theyhave acquired expertise that helps them to do this. But in order tomake good use of this expertise, they necessarily rely on inputsfrom surrounding societies. These inputs are communicated tobusiness via law, regulation and less formal pressures. Thesecommunicate society’s answers to some fundamental questions.For example, many EHS regulatory and compliance decisionshinge on answers to a question that only society can provide --How much is it willing to spend to avoid the loss of a human life?The successful creation of these inputs is closely linked to broaderframeworks of political, economic and social institutions. Basicinstitutions such police and judicial systems and respect offundamental rights needed to function effectively if society is to besuccessful in communicating its values and aspirations in anysphere, including the environment.

Societal inputs are also necessaryto allow law and regulation to beenforced in a cost-effectivemanner.

Societal inputs are also important for other reasons. The roleof informal institutions in supporting the enabling framework --especially in enforcing law and regulation -- is not sufficientlyrecognised. If laws and regulation are to be successful, they haveto benefit from “voluntary compliance” (a major concept amongthe enforcement practitioners) stemming from highly diffuse,individual actions, each of which draws on society’s traditions,norms and beliefs (Slemrod 1998). This means that, quite apartfrom formal enforcement or compliance efforts, people choose tocomply with law or regulation based on personal convictions or dueto peer pressures. Voluntary compliance enters in the manysituations where formal enforcement cannot do the whole job --where it would be too expensive to put a policeman on every cornerand an inspector in every factory. Protection of basic rights --human, labour, political and civil -- is a pre-condition for allowingthis “informal enforcement” to take place.

One of the most important waysthat governments have promotedvoluntary initiatives is by explicitlyincorporating them into theirregulatory enforcement strategies.

Within the OECD area, the design of law and regulation hasshifted to reflect the collective nature of the regulatory process --that is, to recognise that companies are as important asgovernments in determining the effectiveness of law andregulation. Governments have sought to do this is by explicitlyincorporating corporate actions into their regulatory strategies(OECD 1997). This approach recognises that firms and theiremployees are often best placed to identify non-compliance withregulation (Punch 1996). Under this approach, incentives arecreated to encourage firms to participate and to become, in effect,the first line of enforcement of public policy. Examples include theEuropean Union’s environmental enforcement strategy (involvingEMAS) and the United States’ co-operative programme in

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occupational health and safety. Other examples have been noted infood safety and truth in advertising (see OECD 1997) and inreduction of toxic chemical releases.

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They also use them in theirenforcement of corporate criminallaw.

A closely related development can be found in enforcementof corporate criminal law (Scholz 1997). Several OECD membershave explicitly incorporated consideration of companies’compliance and risk management practices into their approaches topunishing and correcting illegal corporate activity. Some countriesrefer to corporate compliance practices in their sentencingguidelines for corporate crime. A company that can show itexercised due care in avoiding criminal misconduct by itsemployees may receive less severe punishment than a company thatcannot show it took reasonable measures to discourage misconduct.Examples are found in Australia and Canada (competition law), andthe United States (Federal Sentencing Guidelines). Tort law in theUnited States a similar effect. These create powerful incentives forfirms to implement formal compliance practices and managementsystems of the type discussed in this paper.

Governments have alsocontributed to the development ofintangible capital -- mainlyexpertise and standards -- that arecrucial to these private initiatives.

Governments also have contributed to the accumulation ofintangible capital that is important in this area. They havecontributed to the development of management and reportingstandards (e.g. they contributed expertise when the ISO 14000series of environmental standards was being developed). Theyhave promoted the accumulation of human capital through theirsystems of higher education which now offer special course workand degree programmes in various field of corporate ethics andcompliance. They have contributed to broader thinking in this areaby promoting specific initiatives (e.g. the Ethical Trading Initiativein the United Kingdom) and by creating information servicesdesigned to promote “best practice” (e.g. in the European Union,Australia and Canada).

International organisations--notably the OECD and the IFC --have also contributed to thedevelopment of expertise andstandards.

Finally, international organisations have been active in thisarea as well. The OECD member countries, as well as six non-members, have adhered to the OECD Guidelines for MultinationalEnterprises, a comprehensive code of conduct for internationalbusiness covering 10 areas of business ethics (see Box 2). TheInternational Finance Corporation (IFC) has issued a series ofenvironmental and social policies and environmental, health andsafety guidelines for projects it finances. The environmental,health and safety guidelines provide examples of best practices anddetailed guidance on pollution reduction techniques and targets fora whole range of industrial sectors. As such, the IFC guidelinesrepresent a benchmark for good environmental managementpractices that can and have been applied by business throughout thedeveloping world, in the absence of or in addition to nationallegislation (see Box 3).

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Box 1. Selected Private Standards -- Association or Group Initiatives

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Box 2 -- The OECD Guidelines for Multinational Enterprises

The OECD Guidelines for Multinational Enterprises are recommendations addressed by 36 (OECDand non-OECD) governments to multinational enterprises operating in and from their countries. Theyprovide voluntary principles and standards for responsible business conduct in areas such as productsafety, environment, labour management, supply chain responsibilities, disclosure of major risks andcompetition. The recommendations express the shared values of the nations that are the source of mostof the world’s direct investment flows and home to most multinational enterprises.

A key value added of the Guidelines resides in the unique follow-up procedures created bygovernments and business. Governments of the 36 adhering countries have established a system ofNational Contact Points to promote the observance of the Guidelines by multinational enterprisesoperating “in or from” their territories.

Evidence so far suggests that the Guidelines are making a difference. Many companies have publiclyacknowledged that they use the Guidelines as a benchmark for good behaviour. The Guidelines arebeing used to help prevent misunderstandings and promote mutual confidence and predictabilitybetween the business community and home and host societies. About twenty specific instances wherethere are questions about whether or not a company has observed the Guidelines in a particularbusiness situation, have been considered so far.

The Guidelines are part of a broader instrument -- the OECD Declaration on International Investmentand Multinational Enterprises. The Declaration promotes a comprehensive and balanced approach forgovernments’ fair treatment of foreign direct investment and for corporate responsibility.

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Box 3 -- The IFC Guidelines for Multinational Enterprises

The International Finance Corporation (IFC) applies its policies and guidelines to projects it finances,requiring on-going compliance as a condition of financing. Other commercial lenders and financialservice companies use IFC’s guidelines, making compliance a condition of financing or using it as abenchmark of best practice in the sector that can be realistically applied in developing countries.

IFC is evolving its focus to help its private sector clients understand the business case for sustainabledevelopment and structure their business to achieve sustainable operations. IFC is introducing a“sustainable development framework” for projects it finances to better assess a given project’senvironmental, social and corporate governance impacts. The framework provides guidance onspecific initiatives to achieve better sustainability outcomes from projects and provides an objective,comparable, and credible basis for assessing these initiatives and their long-term contribution to aproject’s sustainability. The framework will be made public in the near future with the hope that itwill provide a valuable tool not only for IFC and other financiers but the broader business communityin analysing and improving businesses’ sustainable development performance.

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