Aquanow DigitalDives: Crypto and ESG… Let’s Make a Splash — Vol. 5

Is crypto’s environmental impact a bellyflop?

When considering the ecological influence of digital assets, we should start at the mining process. Without getting into the technical nuances, the two most common consensus mechanisms for blockchains today are Proof of Work (PoW) and Proof of Stake (PoS). If you’d like to read about alternative algorithms, then this is a handy document. Currently, both Bitcoin & Ethereum use PoW to secure their networks, which requires the use of computational methods to solve complex mathematical puzzles. The difficulty increases over time and the energy consumption is non-trivial.

Social and Governance issues are making a splash, but…

Like traditional finance, conversations about crypto & ESG tend to focus on the environment, but there are important social and governance considerations too. A common criticism of digital assets’ impact on society is that some of their features are attractive for criminal activities. However, as Chainalysis notes, while total crypto transactions were up 567% in 2021, illicit volumes only increased 79% year-over-year. This brought the share of questionable usage to its lowest on record:

Let’s consider the big picture and swim together

It’s not hard to find web3 detractors. As Richard Brown comments, “Stephen Diehl’s ‘take no prisoners’ posts are a good place to start. Or you could look here, here, here, here or here.” By contrast, there appears to be a powerful movement underway, so it seems unwise to shutdown digital assets altogether. We can again borrow from the experience of traditional asset management to get an idea of why. In the very early days of socially responsible investing, a common approach to portfolio construction was to screen for malfeasors and exclude their securities. As illustrated below, these strategies have seen their assets decline over the years. Conversely, allocators that choose to engage with corporates intending to influence their governance towards a more stakeholder-friendly approach have experienced AUM increases.

Balancing safety and progress

Scientific advancement and capital efficiency are important ingredients to humanity’s progression, but sometimes they come with externalities. Pix is a financial innovation in Brazil and has signed up over 100M users in a little over ONE YEAR. In a country with considerable inequality, the tech promotes financial inclusion. Incumbent banks had voiced concerns about the sector’s stability, but rather than being overly disruptive, the established institutions have been onboarding some of the Pix success stories. On the other hand…

“Show me the incentive and I will show you the outcome”

Tariq Fancy was the CIO of Sustainable Investing at the world’s largest asset manager. He wrote a three-part essay criticizing the current approaches to ESG and suggested some alternatives. This missive is especially worth a read for anyone interested in sustainable investing and governance as they relate to traditional or digital markets. At its simplest, we need superior enticements at the micro & macro levels if we hope to effect change.



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