The Price of Things
‘In the field of quantum physics, there’s a strange scientific phenomenon where the act of observing an electron can change how it behaves called “the observer effect.
In International Living Futures Institute Green Buildings challenge, for tenants, building dashboard that displays day-to-day energy use can help empower tenants to participate in building efficiency strategies. This practice proved to be very helpful in reducing water and electricity consumption. The more the tenants watch the gauges on utility consumption it gives them agency adjusts their use. This is based on a classic case of study of identical homes that has the water and electricity usage readers in the basement consumed 30% utilities than the homes which had the water and electricity usage reader information on the first floor.
In 1986 the US government required that every factory releasing hazardous air pollutants report those emissions publicly. Suddenly everyone could find out precisely what was coming out of the smokestacks in town. There was no law against those emissions, no fines, no determination of "safe" levels, just information. But by 1990 emissions dropped 40 percent. One chemical company that found itself on the Top Ten Polluters list reduced its emissions by 90 percent, just to "get off that list." Missing feedback is a common cause of system malfunction. Adding or rerouting information can be a powerful intervention, usually easier and cheaper than rebuilding physical structure.
Since then, several Countries enacted regulations that require companies to report on the financial risks associated with Climate change on their operations. The European Sustainability Reporting Standard enacted in 2024 requires all 27 European Union Countries to enact regulations to force publicly listed companies to report on climate risks in accordance with the recommendations of the Taskforce on Climate Financial Disclosure (TCFD). Similarly, the U.S. Securities and Exchange Commission (SEC) adopted climate related disclosure rules in March 6, 2024. Since then, dozens of parties filed petitions for review across different appellate courts. The Judicial Panel on Multidistrict Litigation selected the Eighth Circuit of the Supreme Court to hear all challenges to the SEC's rules, and the SEC voluntarily stayed the rules on April 4, 2024. Since then, litigation has proceeded and continues to expand with interest groups, trade associations, and 43 states (and D.C.) participating in legal challenges on both sides.
This shows how much information flow is important and how strong this leverage point is. The summary is interest groups, trade associations, and state governments do not want the public and particularly the investors to know the climate-related risks that is faced by publicly traded companies! The inability to understand the climate-related risks that companies face is a missing feedback loop. That creates perverse feedback-lack of externalities pricing of climate-related risk eliminates any incentive for the real and costly transition out of fossil fuels consumption- a positive loop that leads to collapse. It's important that the missing feedback be restored to the right place and in compelling form, letting the SEC have its March 6, 2024 ruling is a step in the right direction. This is not to mention that this ruling is much watered down version of original draft by SEC that was issued for comment since 2022.
Transparency creates symmetry between parties. When the two parties to a transaction have different access to information, the outcome can unfairly favor the party with the information advantage. Economists call this phenomenon information asymmetry. Financial reporting serves to mitigate the information asymmetry between portfolio managers and their investors. The idea of transparency suggests, transparency in financial reporting results in better reinvestment and resource-utilization actions on behalf of companies’ major stakeholders (such as employees, regulators, governments, investors, communities, and consumers), even when the stakeholders can impose no penalty or confer no reward on the manager. The evidence strongly suggests that the real value of financial reporting is how it plays on management’s deeply held need to be perceived by major stakeholders as moral and fair. Even when the stakeholders can confer no reward on the manager for a desirable action, nor exact any cost or penalty upon the manager for an undesirable action, management will still work in the best interests of the stakeholders, simply because they desire to be seen as moral. That's why freedom of information acts as a strong deterrent to government's abuse of its power.
The transparency of the reporting actuates the moral sentiment of management who deeply cares about the major stakeholders’ moral evaluation of them. Observation, then, really does change the outcome of the experiment. If we know that someone is watching what we do, we will behave in ways that others perceive as moral and praiseworthy. Financial reporting serves to mitigate the information asymmetry between Managers and their stakeholders.
