Insurance and Risk Management for
Disruptions in Social, Economic and
Environmental Systems
EMERALD STUDIES IN FINANCE,
INSURANCE, AND RISK MANAGEMENT
Series editors: Ercan Özen and Simon Grima
Books in this series collect quantitative and qualitative studies in areas relating
to finance, insurance, and risk management. Subjects of interest may include
banking, accounting, auditing, compliance, sustainability, behavior, management
and business economics.
In the disruption of political upheaval, new technologies, climate change and
new regulations, it is more important than ever to understand risk in the financial
industry. Providing high quality academic research, this book series provides a
platform for authors to explore, analyzes and discuss current and new financial
models and theories, and engage with innovative research on an international
scale.
Previously published:
Uncertainty and Challenges in Contemporary Economic Behaviour, Ercan Özen
and Simon Grima
New Challenges for Future Sustainability and Wellbeing, Ercan Özen, Simon
Grima and Rebecca Dalli Gonzi
Insurance and Risk Management
for Disruptions in Social,
Economic and Environmental
Systems: Decision and Control
Allocations within New
Domains of Risk
EDITED BY
SIMON GRIMA
University of Malta, Malta
ERCAN ÖZEN
University of Uşak, Turkey
&
REBECCA EMILY DALLI GONZI
University of Malta, Malta
United Kingdom – North America – Japan – India – Malaysia – China
Emerald Publishing Limited
Howard House, Wagon Lane, Bingley BD16 1WA, UK
First edition 2022
Editorial matter and selection © 2022 Simon Grima, Ercan Özen and Rebecca Emily
Dalli Gonzi. Published under exclusive licence by Emerald Publishing Limited.
Individual chapters © 2022 Emerald Publishing Limited.
Reprints and permissions service
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suitability and application and disclaims any warranties, express or implied, to their use.
British Library Cataloguing in Publication Data
A catalogue record for this book is available from the British Library
ISBN: 978-1-80117-140-3 (Print)
ISBN: 978-1-80117-139-7 (Online)
ISBN: 978-1-80117-141-0 (Epub)
Contents
About the Editors
vii
About the Contributors
ix
Foreword
xix
Chapter 1 Mapping Out Cross-sectoral Collaboration and
Multi-level Governance Within Single Use Plastic Policy:
An Analysis
Clinton Cassar and Mario Thomas Vassallo
1
Chapter 2 Financial Regulation and Bank Supervision
During a Pandemic
Peterson K. Ozili
29
Chapter 3 A Study of Insurance Contracts Within the Legal
Context of a Small Island Influenced by the Commonwealth,
the European Union and the Mediterranean: The Case of
Utmost Good Faith and Insurable Interest
Ramon Mizzi, Andre Farrugia and Simon Grima
39
Chapter 4 Consumer Behavior in the New Economic Reality.
Approaches to Personalized Medicine: From Paradigms to
Challenges
Artiom Jucov, Liliana Staver and Larisa Mistrean
67
Chapter 5 Determination of the Sensitivity of Stock Index
to Macroeconomic and Psychological Factors by MARS Method
Münevvere Yıldız and Letife Özdemir
81
vi
Contents
Chapter 6 Enterprise Risk Management Assessment of
Romanian Listed Companies for Sustainable Development
Camelia-Daniela Hategan, Nicoleta Sirghi and
Ruxandra Pitorac
107
Chapter 7 The Effects of Capital Structure Decisions on
Financial Risk and Failure: A Research on BIST Food Companies
Serdar Yaman and Turhan Korkmaz
117
Chapter 8 Global Impasses in Public Services Provision
Due to Covid-19 in G20 Countries
Sevilay Ece Gümüş Özuyar
149
Chapter 9 Implementation of Sustainability
Özlem Tuna
185
Chapter 10 Sustainability Risk Management: A Survey of
the Literature
Oya Korkmaz
207
Chapter 11 Financial Institutions’ Governance Innovation and
Credibility Strategy
Tjaša Štrukelj, Sabina Taškar Beloglavec, Daniel Zdolšek
and Vita Jagrič233
Chapter 12 CSR 4.0 Dimensions in Relation to the Advantages
of Industry 4.0
Anca Băndoi, Cătălina Sitnikov, Anca Tănasie and Ionut Riza
257
Chapter 13 European Insurance Market Development under
the Economic Welfare: Advanced Econometric Approaches
Mirela Cristea, Grațiela Georgiana Noja, Silviu-Valentin Cârstina,
and Elena Sorina Caragiani
277
Index
291
About the Editors
Simon Grima, PhD (Melit.), MSc (Lond), MSc (BCU), BCom (Hons) (Melit.),
FFA, FAIA (Acad), is the Head of the Department of Insurance, in charge of the
Bachelor of Commerce in Insurance, the Bachelor of Commerce (Honours) and
Master’s degrees in Insurance and Risk Management and an Associate Professor
at the University of Malta. He set up the Insurance Department in 2015 and
started and coordinates the MA and MSc Insurance and Risk Management
degrees. He served as the President of the Malta Association of Risk Management
(MARM) between 2013 and 2015, and President of the Malta Association of
Compliance Officers (MACO) between 2016 and 2018. Moreover, he is among
the first Certified Risk Management Professional (FERMA), is the Chairman of
the Scientific Education Committee of the Public Risk Management Organization
(PRIMO) and a member of the curriculum development team of Professional
Risk Managers’ International Association (PRMIA) in 2014. His research focus
and consultancy is on Governance, Regulations and Internal Controls (i.e., risk
management, internal audit and compliance) and has over 30 years of experience
varied between financial services and with public entities in academia, internal
controls, investments and IT. He acts as an Independent Director for Financial
Services Firms, sits on Risk, Compliance, Procurement, Investment and Audit
Committees and carries out duties as a Compliance Officer, Internal Auditor and
Risk Manager.
He has acted as Co-chair and is a Member of the scientific program committee
on some international conferences and is a Chief Editor, Editor and Review
Editor of some Journals and Book Series. He has been awarded outstanding
reviewer for Journal of Financial Regulation and Compliance in the 2017 Emerald
Literati Awards.
Dr Ercan Özen, received his BSc in Public Finance (1994), MSc in BusinessAccounting (1997), PhD in Business Finance (2008) from University of Afyon
Kocatepe. Now he is Associate Professor of Finance in Department of Banking
and Finance, School of Applied Sciences, “University of Uşak, Turkey.” His
current research interests include different aspects of Finance. He has (co-)
authored five book chapters and more than 40 papers, more than 30 conferences
participation, member in International Program Committee of three conferences
and workshops. He is Chair of International Applied Social Sciences Congress.
He is also the Certificated Accountant, Member of Agean Finance Association
and member of Turkey Combating Soil Erosion, for Reforestation and the
Protection of Natural Resources Foundation (TEMA).
viii
About the Editors
Rebecca Emily Dalli Gonzi, PhD (Glasg), MSc (Edin), BE & A., (Melit) (Hons), A.
& C.E., A.L.C.M. (Lond), is an Architect, Project Coordinator and Lecturer. She
is a Registered and Certified Civil Engineer by the Chamber of Architects Malta,
and a Registered Chartered Member of the Royal Institute for British Architects
London. She has worked in the private and public sector, both in Malta and in
Scotland. She is a Resident Academic at the University of Malta lecturing project
management in the Department of Construction and Property Management and
within the Department of Insurance, in Geopolitical and Environmental Risk,
and Business continuity Management. She lectures Project Development at the
Institute for Sustainable Energy. She founded the DALI Model, which is a tool
for assessing organizational risk, which can be used when firms require a recovery
response due to a crisis. This model has been presented as an empirically tested
model in a specific setting for managing organizational risk so that firms achieve
their goals with minimal setbacks. Her book entitled Change and Continuity
Management in the Public Sector, which presents the research underlying this
model, reinforces the idea that good governance requires the right decisiontaking methods if any organization is to succeed. Areas in her portfolio of
research include organizational management, strategic project management and
construction management.
About the Contributors
Anca Băndoi, currently Dean of Faculty of Economics and Business Administration,
University of Craiova, is PhD Associate Professor at the Faculty of Economics
and Business Administration. She holds a Doctorate in Cybernetics and
Economic Statistics since 2002 and a postdoctoral degree in the field of Financial
Modeling from the European Structural Funds through the University of
Craiova since 2014. She has been teaching Undergraduate and Master students
since 1995. Her main research areas include Macroeconomics, Microeconomics,
Financial Modeling, Financial Analysis, Financial Forecasting and Evaluation
of Real Estate Properties. Her research has resulted in the publication of four
books as a single author and co-author and more than 30 articles in important
specialized journals. In the last 11 years, she was part of the management team of
the University of Craiova in charge of Education Quality Assurance.
Mag. Sabina Taškar Beloglavec is a Senior Lecturer in the field of Finance at
the Faculty of Economics and Business of the University of Maribor, Slovenia,
Department for Finance and a Researcher at the Institute for Finance and
Artificial Intelligence. She concluded her graduate and postgraduate studies at
the University of Maribor. Her main research interests are post-Covid-19 bank
digitalization and business model change, ethical and socially responsible banks’
activities, non-financial reporting in financial institutions and international
taxation. She has published several articles in national and international
journals, parts of monographs and has attended several international scientific
conferences. She is also active in other fields, for example, a Member of Union
Supervisory Board, Educates Primary School Pupils on financial knowledge and
was a Member of Curriculum Development Group and Supervision of Secondary
Schools at the National Education Institute of the Republic of Slovenia.
Elena Sorina Caragiani is a PhD Student at the Doctoral School of Economic
Sciences, field of Economics, University of Craiova. She graduated the Faculty
of Economics and Business Administration and the Faculty of Law (bachelor
degrees), and she has a master degree in the Management of Human Resources.
At present, she works at the General Directorate of Social Assistance from
Craiova, as Head of Office, for the Service of Strategies, Programs and Projects
in the field of social assistance and the relationship with the associations and
foundations. She is also an Affiliate Member of the Center for Economic,
Banking and Financial Research (CEBAFI) within the University of Craiova,
x
About the Contributors
and a Member of several European-funded projects implemented at the level of
the institution. Her main research directions are social inclusion, poverty and
sustainable development.
Silviu-Valentin Cârstina is a Lecturer at the University of Craiova (Romania),
Faculty of Economics and Business Administration, Department of Finance,
Banking and Economic Analysis. He obtained the scientific title of PhD in
Finance in 2015. He is the Author of numerous research papers on: risk analysis
of economic entities, analysis of economic and financial performance, evaluation
of assets, asset management, as well as topics of macroeconomic nature, focused
on the insurance market and the labor market. During his career, he deployed
mobility internships in Spain, at the University of Rioja, and in Croatia, at the
University of Croatia (Zagreb), which resulted in numerous research published
papers. He was included as Team Member in several projects with European
funding, having as responsibilities the elaboration of cost-benefit analysis, impact
analysis and budget execution.
Clinton Cassar is a Visiting Lecturer at the Department of Public Policy,
University of Malta. In 2008, he was awarded a Bachelor of Arts (Hons) degree
in Geography with first-class honors, followed by a Postgraduate Certificate
in Education a year after. In 2015, he was awarded a Master in Education for
Sustainable Development with distinction. He has published original research in
the areas pertaining to governance, education and sustainability both in local and
international journals. Throughout the years, he also provided his expertise as a
Trainer and Consultant with various private and public entities.
Mirela Cristea is a Professor at the University of Craiova (Romania), Faculty
of Economics and Business Administration, Department of Finance, Banking
and Economic Analysis, Center for Economic, Banking and Financial Research
(CEBAFI). Her main research directions and teaching activities are insurance
and private pension funds, banking administration, interdisciplinary research in
economics. She obtained the scientific title of PhD in Economics at the University
of Craiova, and graduated the Postdoctoral School in Economics and Applied
Sciences in Economics at the Romanian Academy from Bucharest, on the subject
of private pension system in Romania. She received two awards from the Faculties
on Economics Association from Romania, in 2007 and 2013, for two books on life
insurance and pension system subjects. In addition, she is a Reviewer and Member of
the scientific and organizational committees for numerous journals and conferences.
Andre Farrugia commenced his professional career working in the insurance
industry before moving to training during which he occupied the post of Director
of Studies. He is currently part of the academic staff within the Insurance
Department at the University of Malta. He has achieved the Fellowship of the
Chartered Insurance Institute (FCII-UK) and the Fellowship of the Institute
of Risk Management (CFIRM-UK). He has completed an MSc in Risk
Management with the Glasgow-based University of Caledonian and is currently
About the Contributors
xi
reading for a PhD with the University of Malta. During his professional career,
he has contributed to the industry through the publication of articles and papers
and has delivered various lectures in renowned Universities in Latvia, Serbia and
Kosovo. He also sat on a number of insurance boards and industry associations.
Simon Grima, is an Associate Professor, heading the Department of Insurance,
within the Faculty of Economics, Management and Accountancy at the University
of Malta. He is a Visiting Professor at UNICATT Milan and the University of
Latvia. Moreover, he served as the President of the Malta Association of Risk
Management, the Malta Association of Compliance Officers, is a Board Member
of the Federation of European Risk Managers and the Public Risk Management
Association. His research focus and consultancy is on Governance, Finance,
Risk Management and Internal Controls and has over 25 years of experience in
various private and public entities.
Camelia-Daniela Hategan is a Professor PhD habil. of Accounting, at Faculty
of Economics and Business Administration, West University of Timisoara,
Accounting and Auditing Department. The author’s areas of interest in research
include financial accounting, international financial reporting standards,
financial audit and entrepreneurship in the accounting profession and corporate
social responsibility. She is a member of professional accounting association,
the Chamber of Financial Auditors of Romania (CAFR), being IFAC member.
She published and presented numerous papers in this field in scientific journals
indexed in Web of Science or other relevant databases and conference proceedings.
She has reviewed many articles for relevant journals, for example, Sage Open,
Economic Research, Sustainability, Education, International Journal of Financial
Studies, and conferences, for example, International Business Information
Management Association (IBIMA).
Dr. Vita Jagrič is an Assistant Professor of Finance at University of Maribor,
Slovenia, Faculty of Economics and Business (EPF), Department for Finance
and a Researcher and Consultant at the Institute for Finance and Artificial
Intelligence. Her background is in economics and law. Her PhD thesis was
exploring banks’ quantitative risk management methods in credit risk. She was a
Speaker at European convention in quantitative methods and risk management
at University of Hull (UK), and at European Actuarial Academy’s Seminar:
Capturing Risks in Insurance Premiums. Her research interest comprises risk
management and insurance, public finance and taxation, financial regulation and
supervision. She has published several articles as (co)author in (inter)national
journals and monographic units. Recently, her research also includes health
policy and health economics, exploring the economic impact and architecture of
the healthcare sector on national, regional and local level.
Assoc. Prof Dr Artiom Jucov has a PhD in Social Medicine and Management,
MA in Policy and Public Services and is a Member of the Family Medicine
Department of the USMF “Nicolae Testemitanu” and Assis. Prof at the
xii
About the Contributors
University of Physical Education and Sports from Moldova. Since 2015 he has
served at the National Anti-doping Agency of Moldova as Anti-doping Officer
and in the period of 2019–2020 as Director of the Agency. Since 2020 he is the
Project Director and Principal Investigator of the Moldovan state research
program “Phenomenon of youth doping from the medical and bioethical aspect”
(2020–2023). However, he is the postdoctoral student in project “Streamline of
the management of personalized medicine based on the behavioral study of
patients” within the Academy of Economic Studies of Moldova. He is the Author
of 46 scientific papers in the field of Social Medicine, Personalized Medicine,
Management, Family Medicine and Antidoping.
Oya Korkmaz received her PhD degree in 2011 upon completing the doctoral
study program of the Business Administration Department of Zonguldak Bülent
Ecevit University Graduate School of Social Sciences in Turkey. She worked as
an Assistant Professor at Zonguldak Bulent Ecevit University Vocational School
between 2011 and 2013, and at Tarsus University School of Applied Technology
and Management between 2013 and 2017 in Turkey. She became an Associate
Professor in the field of Management and Strategy Science in 2017. The scope
of her research covers the fields of organizational behavior, human resources
and strategic management. She has published several articles in peer-reviewed
journals, presented papers in international conferences and served as a referee in
international journals in her field.
Turhan Korkmaz is a Professor of Finance at Mersin University, Turkey. He also
served 14 years as a Faculty Member at Zonguldak Bulent Ecevit University,
Turkey. He is the Author and Co-author of nine books, 16 edited volumes, over
90 research articles in leading journals, and presented dozens of papers in the
field of finance at national and international conferences. He has made several
important research contributions in corporate finance, capital markets, portfolio
management, international asset allocation and risk management. He has
completed his first degree in business administration at Bursa Uludag University,
Turkey and he also holds MBA and PhD degrees in finance from Chicago Illinois
Institute of Technology, USA.
Larisa Mistrean has more than 28 years of scientific-didactic and research
experience in the area of economics. She is an Associate Professor at the
Academy of Economic Studies of Moldova, Investments and Banking Activity
Department. Her research focuses in the area of banking management and
marketing, corporate governance, monetary policy has more than 70 papers.
She is the Project Director and Principal Investigator of the Moldovan state
research project “Behavioral evolutions of consumers of financial-banking
services in the new economic configuration” (2021–2024).
She is a MC Member in COST ACTION 19103 – LGBTI + Social and
Economic (in)equalities and MC Substitute in COST ACTION 17125 – Public
Value Capture of Increasing Property Values; an Editorial Member and Member
of committee of Reviewers of the International and National Journals of Finance
About the Contributors
xiii
and Banking Research; Member of Scientific Committee; and Member of
Organizing Committee of the International Scientific Conferences organized in
Moldova, Turkey and Romania.
Ramon Mizzi started his insurance career in 1985 and was elected Associate of
the Chartered Insurance Institute in 1989. In 1992 he graduated as Bachelor
of Arts (Socio-Legal Studies) at the University of Malta. He has a particular
interest in the legal aspect of the insurance profession. He recently completed
his Masters in Insurance & Risk Management at the University of Malta. He
has been involved in practically all classes of insurance business in Malta and
has held various senior executive positions within the Maltese Insurance. He is
a Visiting Lecturer at the Department of Insurance at the University of Malta.
Grațiela Georgiana Noja is an Associate Professor at the West University of
Timisoara (Romania), Faculty of Economics and Business Administration,
Department of Marketing and International Economic Relations. She
completed her studies at the West University of Timisoara, PhD habilitation and
PhD in Economics, Master in Management and European integration, BA in
International Economic Relations. In addition, she developed several national
and international projects has a wide membership in various educational
organizations, research networks, scientific and review committees of top tier
journals and international conferences. Her main research and teaching activities
are developed within the framework of Economics and International Business
area, with a focus on world economy, globalization and European economic
integration.
Letife Özdemir is an Associate Professor of Finance in Department of Logistics
Management, School of Applied Sciences, “University of Afyon Kocatepe,”
Turkey. She received her BSc in Business (2002), MSc in Business (2005), PhD
in Business Finance (2011) from University of Afyon Kocatepe. Her current
research interests include different aspects of finance. She has authored three book
chapters, 19 papers and 15 conferences participation. She has been involved in two
scientific projects and has awarded third prize in the 21st Finance Symposium.
She is a Member of Turkey Combating Soil Erosion, for Reforestation and the
Protection of Natural Resources Foundation).
Peterson K. Ozili is an Economist, affiliated with the Central Bank of Nigeria.
His works are extensively in Academia and Policy-making. He has experience
in economic policy, financial inclusion, financial stability, financial innovation,
banking regulation and supervision.
His areas of specialization are: financial economics, international development,
accounting, development finance, the economics of financial markets, banking
and financial reporting.
He has published extensively in many accounting and finance journals such
as the British Accounting Review, Journal of Applied Accounting Research, Journal
of Accounting in Emerging Economies, International Journal of Managerial
xiv
About the Contributors
Finance, European Journal of Finance, Research in International Business and
Finance, etc.
Sevilay Ece Gümüş Özuyar is an Assistant Professor of Public Finance working as
a Full-time Member of Staff in Public Finance Department at Necmettin Erbakan
University. She earned two bachelor degrees in Economics and International
Relations at Gazi University, MA Degree in Finance at Drexel University and
PhD degree in Public Finance at Hacettepe University. Her research interests
include public policy, public economics, public goods, economic security and
terrorism. She has two books, “Welfare Economics, Public Goods and Life
Satisfaction: A New Perspective” and “On Terror and Terrorism: An Evaluation
of Causes and Results Specific to PKK,” and several book chapters, articles and
editorial books on public economics. She formerly served as a Vice-coordinator
of the International Office at Usak University. She is currently an Editor of the
Journal of Necmettin Erbakan University Faculty of Politics and an Editorial
Board Member of Journal of Sosyoekonomi indexed in e-SCI.
Ruxandra Pitorac is a Lecturer in the Department of Economics and Economic
Modeling, at the Faculty of Economics and Business Administration, West
University of Timisoara, Romania, where she teaches in the area of microeconomics,
macroeconomics and European integration. She is a Member of the Editorial
Board of Timisoara Journal of Economics and Business (TJEB) and Reviewer for
many international journals and conferences. She is the Author of several articles in
academic journals and received two awards for research results given by the Ministry
of National Education. Also, she was in the organizing committee of several
national and international conferences and participated in grants, as a Member
or as a Director. Her current research interests are at the microeconomic level on
financial performance–sustainability relationship and at the macroeconomic level on
sustainable development, labor market and international migration.
Ionuț Riza obtanined their bachelor degree in Economics, specializing in
Business Informatics (2007), with a master degree in Business Administration
(2009). Since 2019 he completed his PhD in Management. He is currently
pursuing the postdoctoral studies program at the University of Craiova.
The main objective of the postdoctoral research project is to analyze the
management of human resources skills from the perspective of risk management
at organizational and cyber level. The research is based on assessing the skills
needed by employees whose activities influence the security of any organization.
This includes both the regular employee, who uses the internet or computer
network of the organization, and IT security professionals. Another objective
is to implement the proposed model of cybersecurity skills based on minimum
general knowledge, skills and abilities in the field of computers, software,
information and communications, so that any employee masters the essential
requirements to successfully perform tasks. During the study program he has
written several scientific papers presented at international conferences, some of
which were published in professional journals. Since 2007, he had been working
About the Contributors
xv
as Marketing Manager for a consulting firm in Occupational Safety and Health.
He is a Risk Assessor and an Auditor in Occupational Safety and Health, as
well as a Professional Qualification Trainer.
Nicoleta Sirghi is a Professor PhD habil. of Economics at the Faculty of Economics
and Business Administration, West University of Timisoara, Romania. The
current research field is related to study the oligopolistic market and the game
theory with applications in economics. She has published in the International
Journal of Bifurcation and Chaos (IJBC), Sustainability, Transformations in
Business and Economics (TBE), Journal of Economic Computation and Economic
Cybernetics Studies and Research (ECECSR), etc. Recent publications include
articles on corporate social responsibility. She is a Member of the Editorial
Board of Timisoara Journal of Economics and Business (TJEB) and Reviewer for
many international journals and conferences: Sustainability, British Journal of
Economics, Management & Trade, British Journal of Mathematics & Computer
Science and IBIMA Conferences. She is a Member of professional economics
associations: Regional Science Association International (RSAI), Association
Internationale des Economistes de Langue Française (AIELF) and Reseau Pays
du Groupe de Vysegrad (PGV).
Cătălina Sitnikov is a PhD Professor at the University of Craiova in Romania, at
the Faculty of Economics and Business Administration. She holds a doctorate in
Management since 2000, Habilitation title in Management since 2014 and since
February 2015 she has been a PhD supervisor in Management. She was for three
years a Visiting Lecturer at Helsinki University of Technology, Lahti Center in
Finland. Since 1995, she has been teaching undergraduate, master and PhD students.
She teaches Quality Management, Total Quality Management and Management.
Her main research areas include management, strategic management, and mostly
quality management, instruments and models specific to the stages of quality
planning, control and improvement, quality management strategies, ISO standards,
CSR from the perspective of specific standards and instruments.
Liliana Staver is a PhD candidate in Marketing and Logistics. Her main
research fields of interest are: international business, logistics and supply chain
management, inter-, trans- and multidisciplinary research and neuromarketing.
She is a Chief Editor of the International Journal “Working Papers” indexed in
three international databases (CEEOL, DOAJ and RePEc). She has presented
various papers at international conferences and she has published more than
30 articles and papers in national and international journals.
She is a MC Member in COST ACTION 18214 – The Geography of New
Working Spaces and the Impact on the Periphery; and MC Substitute in COST
ACTIONS: 18232 – Mathematical models for interacting dynamics on networks
and 18126 – Writing Urban Places. New Narratives of the European City.
Moreover, she is a Team Leader Expert in international Erasmus projects, as
MINERVA – Strengthening Research Management and Open Science Capacities
of HEIS in Moldova and Armenia.
xvi
About the Contributors
Dr Tjaša Štrukelj is an Associate Professor of Governance and Strategic
Management at the University of Maribor, Faculty of Economics and Business
(EPF), Department of Strategic Management and Company Policy, Institute for
Corporate Governance and Strategic Management. She is the (Co) author of
articles in various (inter) national journals, monographs and conferences (http://
www.cobiss.si/, 16338). She was (2015–2018; 2016–2017 and 2018–2019) and is
(2019–2021) a Member of the International Research Team, leads the Faculty
part of Erasmus+ project Economic of Sustainability (2019–2022) and bilateral
international research project (2019–2021), actively participates in the research
program Entrepreneurship for Innovative Society (2016–), is a Member of the
Program Committee of the journals Oeconomica Jadertina, Croatia (2017–),
Journal of Research and Innovation for Sustainable Society, Romania (2019),
Acta Economica, Bosnia and Herzegovina (2020–), is a Certified Leader for
Social Responsibility and Sustainable Development (2019–) and Path to Integrity
Community Leader for Slovenia (2020–).
Anca Tănasie is an Associate Professor PhD at University of Craiova, Romania –
the Faculty of Economics and Business Administration and Invited Lecturer at
Bifrost University, Iceland. She has held the PhD degree in International Business
and Economics since 2007. Main research areas include: European economics,
regional development, European monetary integration, sustainable development,
education, quality assessment and transversal skills in higher education. She is
the Author and Co-author of several scientific papers published in international
journals and/or presented at international conferences, books and chapters in
books and she is also a Reviewer for international ISI scientific journals.
Özlem Tuna is an Associate Professor of Management and Strategy at Afyon
Health Sciences University, Faculty of Health Sciences. She has a doctorate degree
in the Business Administration. She formalized in her PhD (2014) on Corporate
Sustainability. She has managerial experience in the private sector between 1997 and
2002, she has been working in university since 2002. Her research focuses on the field
of corporate sustainability, other strategic management issues and organizational
behavior.She has published many articles in national and international journals
and is the author of chapters in books in the field of strategic management. She
is sensitive to environmental and social issues and actively takes part in projects
in this direction.
Mario Thomas Vassallo, PhD (Sheffield), MA (European Studies) (Melit.), BA
(Honours) (Melit), is the Head of the Department of Public Policy, University
of Malta. His research interests include multilevel governance, civil society,
Europeanization, politics in arts and literature and evidence-based policy. He was
invited to deliver international programs, including Tanzania (1997), Swaziland
(2004), Corsica (2016) and Mauritius (2020). Between 2016 and 2020, he served
as Rector’s Delegate to the Institute for Public Services. He is the Co-editor of the
book series Public Life in Malta, and his research works have been published by
Palgrave Macmillan, Routledge, Emerald and other publishing houses.
About the Contributors
xvii
Serdar Yaman is currently working as an Assistant Professor at Sirnak University,
Faculty of Economics and Administrative Sciences, Department of Business
Administration. He received his bachelor’s degree in Business Administration
from Sirnak University in 2014. He received his master’s and PhD degrees in
Business Administration (Finance) from Mersin University in 2016 and 2020,
respectively. He gives lectures in the field of finance and accounting since 2017.
He does researches in financial management, corporate finance, portfolio
management, behavioral finance, financial econometrics and financial modeling.
He has participated in numerous international congress and symposiums. He has
published papers in both national and international journals.
Münevvere Yıldız is an Assistant Professor at the Afyon Kocatepe University,
Bolvadin School of Applied Sciences, Department of Banking and Insurence.
She received her BSc and MSc degrees in the Department of Statistics at Ege
University and at Afyon Kocatepe University, Turkey, respectively, in 2006
and 2009. She received her PhD in 2013 at the same department of Anadolu
University, Eskisehir, Turkey. She has published papers and international and
national conference papers in her research areas. Her research interests include
statistical modeling, econometric methods, non-parametric regression and many
other statistical technics.
Mag. Daniel Zdolšek is a Senior Lecturer of Accounting and Auditing at the
University of Maribor, Slovenia, Faculty of Economics and Business. His
research mostly focuses on the field of auditing, internal auditing, accounting,
taxation and also interdisciplinary topics. Recently, he started to research
sustainability issues in relation to non-financial reporting and standard setting.
He has published in journals Economic Research-Ekonomska Istraživanja, Journal
of East European Management Studies, Actual Problems of Economics, etc. He
has professional experience and serves as a Member of the Experts Council at the
Slovenian Institute of Auditors, Member of the Board at the Chapter of Forensic
Accountants at the Association of Accountants, Treasurers and Auditors of
Slovenia. Previously he was Member of the Internal Auditors Committee at
the Slovenian Institute of Auditors. He cooperates with the Slovenian Institute
of Auditors and trains prospective experts in the field on internal control and
auditing.
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Foreword
Is the world sleepwalking into a crisis? Global risks are intensifying but the
collective will to tackle them and to collect on opportunities appears to be
available but are we lacking in our response? The world may be moving into a new
phase of state-centered politics as noted in the Global Risks Report (2019, 14th
Edition – http://www3.weforum.org/docs/WEF_Global_Risks_Report_2019.
pdf). The idea of “taking back control” – whether domestically from political
rivals or externally from multilateral or supranational organizations – resonates
across many countries and many issues. The energy now being expended on
consolidating or recovering national control risks and weakening collective
responses to emerging global challenges. We are drifting deeper into global
problems from which we may struggle to extricate ourselves.
A new, highly complex and destabilized “domain of risk” is emerging.
This includes the risk of a collapse in key social, environmental and economic
systems, at local and potentially even global levels. This new risk domain affects
virtually all areas of policy and politics, and it is doubtful that societies around
the world are adequately prepared to manage this risk.
Financial structure decisions have evolved, from treating profitability as
given, to acknowledging that human actions affect profitability, to recognizing
that value depends on the allocation of decisions or control.
Therefore, as noted above the focus of this book series is on five areas of
concern, highlighted in the Global Risks Perception Survey, which frame
much of the analysis in subsequent chapters: (1) economic vulnerabilities;
(2) geopolitical tensions; (3) societal and political strains; (4) environmental
fragilities; and (5) technological instabilities. This in the end all lead to financial
distress and in turn societal problems.
In this book series we argue that the decision or control approach is useful,
even though it is at an early stage of development, and that the approach has
some empirical content. It can throw light on the structure of capital contracts
and the reasons for the diversity of objectives.
Hence, this Emerald book series: “Emerald studies in Finance Insurance
and Risk Management Edition Volume 03” brings together in one volume 13
chapter/studies about Insurance and Risk Management responses to disruptions
caused by social, economic and environmental challenges to try an stabilize the
economy in an effort to ensure sustainability.
xx
Foreword
Challenges destabilize the norm and create distresses and disruptions in, for
example, the culture, the technology, regulations, the environmental, etc., that
influence the pace of finance and economic activities since it requires a change
to the norm.
Professor Simon Grima
Chapter 1
Mapping Out Cross-sectoral Collaboration
and Multi-level Governance Within Single
Use Plastic Policy: An Analysis
Clinton Cassar and Mario Thomas Vassallo
Abstract
Undeniably, plastic usage is predominant in our daily lives, featuring in
an endless list of items such as bottles, disposables, packaging and fabric.
At prima facie, plastic disposal causes irreversible damage to the natural
environment, especially oceans. However, it also impacts human health and
wellbeing, especially since its toxins or microplastics find themselves in the
food chain. Since plastic causes a myriad of negative effects on the natural
environment and human health, the urgency to ban it has been addressed
by international organizations and the European Union (EU). Being the
smallest member state within the EU, Malta presents an insightful case
study of how different levels of governance and a plethora of state and nonstate actors engage in a game-like interaction. To this effect, this chapter
sheds light on the implications of plastic pollution vis-á-vis sustainability
and wellbeing, addressed through multi-level governance. The research
core revolves around an investigation on the institutional intricacies
in addressing the wicked problem of single-use plastic by mapping out
the different layers of policy-making mechanisms that are involved,
ranging from local to European and international governance, and from
governmental to civil society centric strategies. A positivist ontology is
activated to underpin the exploratory nature of this study. Through the
application of content analysis of selected documentation, the extent of
coordination and synergies among the different policy actors across a
multi-layered governance platform is put under scrutiny. Quantitative
findings are utilized to validate or contradict the original set of hypotheses
and to propose a number of policy and governance recommendations that
Insurance and Risk Management for Disruptions in Social, Economic and Environmental
Systems: Decision and Control Allocations within New Domains of Risk, 1–28
Copyright © 2022 by Emerald Publishing Limited
All rights of reproduction in any form reserved
doi:10.1108/978-1-80117-139-720211001
2
Clinton Cassar and Mario Thomas Vassallo
are useful to researchers and practitioners in the fields of public policy,
politics, environmental science, public health and wellbeing, as well as
insurance and risk management.
Keywords: Plastic; sustainability; network governance; multi-level governance;
cross-sectoral collaboration; Malta
Introduction
The etymology of the word “plastics,” a term which essentially encompasses a
number of polymers, stems from the Greek word “plastikos” signifying “fit for
molding” (Richardson & Lokensgard, 2004). This appropriately describes the
item, which includes the conversion of natural products or synthesis from oil,
coal or gas (Morris, 1986; Thompson, Swan, Moore, & vom Saal, 2009 as cited
in Hammer, Kraak, & Parsons, 2012). It is touted as a widely held axiom that
single-use plastic has been a necessity throughout the years, used in a plethora of
products. In fact, 300 million tons of plastic are produced annually, 50% of which
are single-use products such as plastic bags, cutlery, straws and drinking bottles
(Nerland, Halsband, Allan, & Thomas, 2014). The popularity of this product
is attributed due to positive characteristics such as its low cost, versatility, light
weight and formability (Andrady, 2015). However, it indeed has a darker side to
it and is subject to loathing by many.
At prima facie, it seems a burgeoning problem, described appropriately by
Landon-Lane (2018) as a “wicked” multiplicity of challenges. This is because as
Ten Brink, Schweitzer, Watkins, and Howe (2016) outline, throughout its extraction,
transportation, manufacturing, use and disposal, plastic impacts injuriously not
only the environment but also human health. This is done directly and indirectly
via ingestion, inhalation and skin contact (Center for International Environmental Law (CIEL) , 2019). Plastics are derived from fossil fuels, and the associated
activities involved with its extraction, disposal and incineration, cause the emission
of various pollutants, which cause climate change.
Also, plastic fragments find themselves in the food chain, and as a result of
biomagnification and bioaccumulation, are transferred from one organism to
another until they are finally consumed by humans. In fact, Van Cauwenberghe
and Janssen (2014 as cited in Morrissey, 2019) estimated that up to 11,000 microplastic particles per year are ingested by individuals in European countries with
high shellfish consumption, whereas an average of 1,800 microplastics per year
are ingested by people in European countries with low shellfish consumption.
In response to an awakening in addressing this problem, the notion of
sustainable development, albeit at times obvious and trite, has never been
befitting to the situation. Time and again, a myriad of strategies or measures were
designed to address this challenge. Cross-sectoral collaboration (CSC) through
the engagement of a plethora of actors and policy mechanisms is crucial to
bring about a paradigm shift within the institutional framework and attitudinal
Analysis of CSC and MLG Within Single Use Plastic Policy
3
formation to combat plastic pollution. Implementing sustainability through
multi-level governance (MLG), starting from minute structures at the local level
to transnational ones at a global level, is deemed a must to address this problem
in an effective manner.
Research Scope
Many researchers among them Peng, Wang, and Cai (2017), Rochman, Hoh,
Kurobe, and Teh (2013), Vergara and Tchobanoglous (2012 as cited in Nielsen,
Hasselbalch, Holmberg, & Stripple, 2019) postulate that the need for more studies
in plastic governance is required, especially vis-á-vis public health (Mederake &
Knoblauch, 2019). Hence, the significance of this study is pertinent not only to
the international and European level but also to the institutional capacity of
nation states.
Research is marshaled from the perspective of Malta, the European Union’s
(EU) smallest member state, whose population has moved beyond half a million
for the very first time (The Malta Independent, 2020) in a microarea of 316 square
kilometres (NSO, 2014). The study seeks to expose the institutional intricacies in
addressing the reduction of single-use plastic by mapping out the different layers
of policy-making mechanisms that are involved, ranging from local to European
and international governance, and from state- to non-state-centric strategies. To
achieve its scope, this research inquiry rests on the theoretical underpinnings
proposed by the concepts of MLG and CSC. Rooted in the selected documents
regulating the fight against single-use plastic, six hypotheses lie at the core of this
exploratory research, namely:
I. There is a correlation between state and non-state actors.
II. There is a correlation between local and international levels of governance.
III. There is a correlation between lowest strands of MLG (i.e., local) and the
multi-actor scenarios (i.e., citizen).
IV. There is a correlation between CSC and MLG.
V. There is a correlation between MLG and stakeholders.
VI. There is a correlation between Maltese plastic governance and international
regulatory regimes.
This chapter is divided into five parts. The first part focuses on the historical
setting to understand the evolutionary process of the plastic narrative since its
inception after World War II. The focus will then turn to the legal and regulatory
frameworks that were gradually developed over the multi-layered platform
of global, regional and domestic governance to tackle waste management, in
particular single-use plastic. The theoretical parameters resulting from MLG and
CSC are presented next, followed by the methodological strategy. The fourth
section rolls out the findings resulting from a scientific inquiry stemming from
content analysis of selected documents. The testing of the original hypotheses
is reserved to the concluding part, together with a set of policy and governance
recommendations.
4
Clinton Cassar and Mario Thomas Vassallo
Historical Setting
The study starts by tracing the evolutionary narrative of the plastic problem to
facilitate a better understanding of the contextual, legal and theoretical underpinnings in later sections. Lasswell (1971, p. 9) promotes the “policy history”
approach because
the significance of contemporary developments is illuminated
when we take a long view of the past … if the past is approached
contextually, it is possible to achieve novel perspectives on the
configuration of all events.
Policy histories are particularly useful in studying multiple stakeholders using an
evidence-based, longitudinal approach (Effland, 2012, p. 192). This enhances the
prospects of acquiring an even “more in-depth assessment of actors’ preferences”
(Dür & De Bièvre, 2007, p. 8). To this effect, a timeline of critical junctures as a
corollary of international events, multilateral regulatory regimes, market dynamics,
unilateral actions and the rise of the global green movement is presented in Fig. 1.
In 1945, after a prolonged, widespread austerity during the Great Depression
and World War II, the growing plastics industry embraced a message to “buy
more” (Freinkel, 2011). After three decades of mass production and consumption
driven by neoliberal economies, in the mid-1970s, packaging companies started
urging municipalities to run taxpayer-funded recycling programs to avoid
criticism stemming from the rise of environmental awareness. After 20 years
since pioneering recycled plants, in the 1990s the transnational packaging
industries pursued with their agenda to fight restrictions on disposables, while they
continued to promote municipal-funded recycling (Schlosberg, 2019). In the midst
Fig. 1. Critical Junctures in the History of Plastics.
Source: Authors.
Analysis of CSC and MLG Within Single Use Plastic Policy
5
of international developments triggered by unilateral actions by states, the United
Nations (UN) and its agencies opted to become global regulatory protagonists by
releasing international frameworks and conventions to control the ever-growing
plastic plague. Such an advent of multi-dimensional global and regional governing
regimes is discussed at greater length in the section that follows.
At the turn of the new millennium, the “fast-moving consumer goods” industry experienced slowing growth for the first time and triggered aggressive marketing to the rapidly-developing middle class in the Global South where people
started shifting from fresh foods to processed food; hence leading to the “pandemic of obesity” and single-use packaging (Popkin, Adair, & Wen Ng, 2012;
Schlosberg, 2019).1 This global reach by the transnational industries intensified
over the next few years, particularly when the 2008 financial crisis led to the collapse of the banking sector, market failures and massive deficits in public finance
in the USA and the EU. Consequentially, the plastic emergency became global
as now both developed and developing countries were entrenched within a “consumerist psyche which shifts and warps from the desire to become to the desire
to have; thus prolonging environmental damage at the expense of materialistic
gratification” (Wolff, 2013, p. 328).
The next critical juncture occurred around 2016, when in response to the global
plastic crisis, a civil society movement was incubated and started to grow very fast.
Equipped with evidence-based data, concerned citizens and groups started the
#BREAKFREEFROMPLASTIC (BFFP)2 movement, which over a span of few
years, encapsulated 2,600 organizations (BFFP, 2020). This new set-up of public
activists postulates that sporadic clean-up initiatives are not the solution, unless
the international community, states and local authorities address the roots of the
problem. Groups that have been sporadically fighting against particular segments
of the fossil fuels economy became committed to form alliances, thus transforming themselves into a global movement that looks at the whole chain of damage
from resource extraction to waste incinerators (Carpenter, 2019; Freinkel, 2011).
Given the inexorable concerns on climate change and the proliferation of plastic
polluted mountains, rivers and oceans, together with more intense acid rain and
toxic air, Pope Francis (2015) does not mince his words when he condemned,
Economic power [that] continues to justify the current and global
system where priority tends to be given to speculation and the
pursuit of financial gain. As a result, whatever is fragile, like the
environment, is defenceless before the interests of deified markets
which become the only rule. (p. 56)
1
According to the World Bank, ‘the Global South’ embrace Asia (with the exception
of Japan, Hong Kong, Macau, Singapore, South Korea and Taiwan), Central America,
South America, Mexico, Africa and the Middle East (with the exception of Israel).
2
The core of the Break Free from Plastic strives to bring systemic change through
a holistic approach tackling plastic pollution across the whole plastics value chain,
focusing on prevention rather than cure and providing effective solutions (BFFP, 2020).
6
Clinton Cassar and Mario Thomas Vassallo
Both the Vatican and the global green movement are in tandem when advocating
that solutions must be designed at MLG, so as the principle of subsidiarity can
marshal the whole process to ensure that local authorities are participatory in
decisions and projects pioneered by national and global authorities.
The year 2020 brought about an unprecedented global calamity – the Covid19 pandemic – resulting in epoch economic and social transformations. Freedom
of movement in public spaces was massively restricted to contain the spread of
the coronavirus, as new rules for social distancing, public transport, mass events
and traveling have had drastic effects not only on people’s lifestyles but also on
economic performance and political leadership. Despite the catastrophic economic effect that has been termed as “having no parallel in the recent past” by
the UN Secretary General (BBC News, 2020), the pandemic did bring hope of a
“new normal” in environmental affairs. Even though human health might have
benefited from decreased air pollution levels, all this falls short in relation to the
plastic footprint during this pandemic. In fact, many waste management policies and bans have been reversed or temporarily postponed (Prata, Silva, Walker,
Duarte, & Rocha-Santos, 2020) to give precedence to human health, causing an
increase in the use of gloves, masks and hand sanitizer bottles. Indeed, Prata et al.
(2020) estimate that 129 billion face masks and 65 billion gloves are used monthly
around the globe during such extraordinary times. Even though single-use plastic
may be deemed essential in combating COVID-19, it might however pave the way
for future environmental problems.
Dealing with such situations requires the urgency of serious commitment for
a multi-level and multi-actor synchronized approach toward re-assessing a new
plastic governance model based on a green and circular economy. The latter may
hold the key to circumvent the fragility and volatile nature of traditional economies based on mass tourism, excessive construction and insatiable consumerism
(Kechichian & Mahmoud, 2020).
Given that the major critical junctures in the 75-year history of plastics have
been chronologically plotted and analyzed, the next section will turn its attention
to the plethora of legal and regulatory frameworks that have been formulated
over the decades to limit the devastating consequences of the “miracle invention
that now threatens our planet” (Dodwell, 2018).
Multi-dimensional Regulatory Context
Being an ubiquitous problem which weaves across environmental, economic,
cultural and political boundaries, single-use plastic is enmeshed in multi-faceted
interdependencies. This involves a complex array of state and non-state actors
across different layers of governance ranging from local structures (Armitage,
2007; Ostrom et al., 2002) up to the global ones (Vince & Hardesty, 2018); thus
necessitating new understandings, processes and tools (Conklin, 2005). Such tools
embrace various regulatory approaches utilized to reduce plastic pollution, which
can either be binding – meaning that they are verifiable and enforceable – or nonbinding signifying that they are non-enforceable (D’Agostino & Lisciandra, 2018).
In the past three decades there has been momentum for this legal approach, with
Analysis of CSC and MLG Within Single Use Plastic Policy
7
binding frameworks such as the UN Convention on the Law of the Sea (UNCLOS),
the Basel Convention and MARPOL forming the foundations of international
regulation (Nielsen et al., 2019). The formulation of these frameworks share similarities and differences, often surfacing inconsistencies in the way they tackle the
problem of plastic pollution. A case in point is The International Convention for
the Prevention of Pollution from Ships (MARPOL) in 1973 and the UNCLOS
(1994). While the former lacks to pinpoint unintentional losses of waste (including
plastic) and the precautions needed (Gold, Mika, Horowitz, Herzog, & Leitner,
2013, p. 13), the latter covers a vast range of pollution sources, without highlighting the utilization of adequate instruments and rules. Similarly the Basel
Convention (1992) omits reference to plastics, despite focusing on the prohibition
of the trade of hazardous waste. However, its recent amendment in 2019 aims
to increase transparency and tighten the conditions at which plastic is exported
(Nielsen et al., 2019). Unlike other regulations, the London Convention (1975)
introduced a “reverse list” highlighting items that can be disposed at sea, but lack
effective compliance just like UNCLOS (1994). Overall, in all these regulatory
frameworks, reference to waste is quite generic, contrasting The Stockholm Convention (2001) which emphasizes the prohibition of plastics containing persistent
organic pollutants.
At a regional level the EU has also been vociferous, with its most recent milestone
being its Strategy for Plastics in a Circular Economy (2018). It aims at promoting a
new vision how plastics are designed, produced, used and recycled through a circular economy. Emphasis is placed on this term, which is an arduous task to achieve,
since it requires a shift in worldview from a linear model, colloquially referred to as
the “take-make-waste” economy substituting bountiful resources to a circular model
based on “the design-use-reuse” model (Akenji et al., 2019). Moreover, the EU directive 2019/904 promotes non-toxic re-usable items and the reduction of plastic waste
generation (Environment Resource Authority (ERA), 2019).
The marine convention “Our Ocean 2017” held in Malta served as a springboard to initiate national action toward the abolishment of single-use plastic. In
fact, this led to the formulation of the Single Use Plastic Strategy 2020–2030,
which aims at reducing single-use plastic in Malta, while increasing recycling
options for plastic, in view of protecting human health and the natural environment (ERA, 2019).
Other non-binding frameworks, but equally important, include The Global
Action Programme for the Protection of the Marine Environment from Land
Based Activities (GAP) (1995). It aims at reducing land-based marine pollution
through national, regional and international collaboration. It did not foresee a
compliance mechanism, nor did it provide sufficient funding for the implementation of the objectives in developing countries (Meier-Wehren, 2013). In parallel,
the Honolulu Strategy (2011) did not provide any measurable targets or timelines,
even though it delineated monitoring and progress evaluation on marine litter,
strengthened through a Global Partnership on Marine Litter at the UN Conference
on Sustainable Development (2012).
Other important milestones include the Ocean Charter (2018) by G7 which
addressed remedial actions, education, research and outreach. Furthermore,
8
Clinton Cassar and Mario Thomas Vassallo
The 2030 Agenda for Sustainable Development (2015) encompasses 17
­Sustainable Development Goals (SDGs) and 169 targets, out of which at least 12
target plastic waste and marine litter (Löhr et al., 2017), especially SDG 14 – Life
Below Water.
While such an exhaustive list of regulatory frameworks display the impetus
brought about by the various milestones in plastic governance, it also brought
to light its fragmented politics, mirroring its political rather than its politicized
nature, confirming that,
compared to other environmental problems, plastic stands out
for having “no one in the cockpit” (Hajer et al., 2015). There is
no centrally recognized global scientific or political authority
tasked with addressing the plastic problem … this is because there
is no common agreement on how exactly to define “the plastic
problem” – instead, there are many plastic problems, focus areas
and solutions. (Nielsen et al., 2019, p. 2)
This complexity sheds light on plastic governance as being “characterized
by fragmented authority, weak international institutions, uneven regulations,
uncoordinated policies, and business-oriented solutions” (Dauvergne,
2018, p. 22). Hence, the effectiveness of such a governing process requires
CSC across MLG, thus securing adaptability, accountability, flexibility,
responsiveness and harmonization of efforts. Nils et al., (2018, p. IV) assert
that “there is a need for significantly enhanced CSC, for substantially
boosted multi-stakeholder-driven collaborative efforts and for much closer
intergovernmental cooperation.” The theoretical exposition revolving around
CSC and MLG is presented next.
Theoretical Underpinnings
The theoretical backdrop for this empirical study stems from the conceptual
progression of “government” to “governance.” The traditional polity with its
nation state-centric model embedded in centuries-old traditions and patterns
of centralized authority (Warrington, 1994; Wettenhall & Thynne, 1994) has
morphed into more complex inter/intragovernmental networks characterized
by interdependence among state and non-state actors, as well as by game-like
interactions negotiated and agreed by network participants (Smith, 2003).
Kitsing (2020, p. 117) calls the “network governance” – based on decentralization, evidence-based decision-making and multi-stakeholder engagement – an
“utopian” model that has the potential to democratize and, thus, legitimize, public policy mechanisms. With its drive toward multi-stakeholders’ partnerships,
consensus-seeking, collective response and diverse voice promotion, “networked
governance” has the necessary political and administrative credentials to score
high on the “utopian dimensions” stipulated by the Good Governance checklist
of the World Bank, as well as the SDGs proclaimed by the UN for 2015–2030
(Bouckaert, 2020, p. 76).
Analysis of CSC and MLG Within Single Use Plastic Policy
9
One of the major dilemmas for incubating “network governance,” encompassing
both domestic political structures and supranational layers of policy and legal
architecture, is the extent to which it should retain its organic and fluid nature
and, at the same time, to what degree it should be institutionalized and regulated
by defined parameters. Formal power orbits across the multi-layered configuration of governance have tried to systematize, regulate and map-out official procedures to marshal “structured partnership” (Hamann, Sunette, Fleur, & Kranz,
2010:4). Campaigns by policy practitioners toward institutionalization, tend to
revert control to state authorities and tabulate modi operandi to secure stakeholders’
accountability and effectiveness. However, some scholars disagree with the formalization of networks because complex policy challenges – sometimes referred to as
“wicked problems” (Rittel & Webber, 1973) – require ad hoc, innovative, improvised
and organic solutions that go beyond “management capabilities” of conventional
institutions (Hage, Leroy, & Willems, 2006, p. 4).
While policy/service networks require managerial techniques calling for collaborative arrangements to be rationalized, structured and prioritized, they also
entail a great amount of trust, mutual learning, flexibility and group norms
(Dewulf & Elbers, 2018; Micallef, 2020). The Weberian bureaucratic model of
the state is not equipped to address turbulent and unpredictable environments
that generate an alarming nexus of social, economic, environmental and political
threats and opportunities (Fortin, 2013). The launching of New Public Management in the late 1980s and the eventual proliferation of civil society formations at
local, national and supranational levels rendered public administrations to become
more open to “network management” (O’Toole, 2003) and collaboration; thus
enacting “collaboratives” with a wide array of interest groups (Bardach, 1998).
The relevance and importance of interest groups to public administrations
have developed radically, as today governments are more disposed to enter into
agreements with civil society in implementing social and economic projects for
the benefit of society and the economy. Vassallo (2015) mentions a number of
such “collaboratives,” including the formation of Public Social Partnerships,
the engagement of non-elected representatives on state commissions and policy
working groups, revamped empowerment to local councils on issues involving
local/regional development, and the free/subsidized lease of government properties to voluntary organizations to transform neglected public sites into cultural,
sports and recreational complexes. Once again, the central dilemma takes the
limelight because all of these “institutionalised collaboratives” flout Abramson
and Rosenthal’s (1995 p. 1479) plea to retain collaboration as a “fluid process”
and “voluntary” in its nature. Nonetheless, these collaborative endeavors among
public, private and civil society groups – moulding and attaining the concept of
CSC – served as a catalyst for an “evolutionary change in institutional forms of
governance” (Alter & Hage, 1993, p. 12; Selsky & Parker, 2005). Bryson, Crosby,
and Stone (2015) provide a succinctly definition of CSC,
cross-sector collaboration is the voluntary linking of organisations
in two or more sectors in a common effort that involves a sharing
of information, resources, activities, and capabilities, risks and
10
Clinton Cassar and Mario Thomas Vassallo
decision-making aimed to achieve public outcome that would have
been difficult or impossible to achieve by one organisation.
Inspired by this definition, Zammit (2017) clustered the benefits of CSC into four
themes, namely (i) increasing public value through alliance formations; (ii) easier
access to resources by assets’ pooling and knowledge transfer; (iii) increased legitimacy
through the engagement of diverse stakeholders; and (iv) decreased uncertainty
through risk and information sharing. Given these advantage points, networked
governance needs CSC to lubricate its structures and processes, however the realization of a collaborative mode does not come free from organizational and procedural deficiencies. Huxham and Vangen (2005, p. 40) warn that “for every success,
there is a story of frustration,” wherein ingrained ambiguity in roles and accountability channels can thwart the matrix set-up of cross-sectoral partnerships (Seitanidi, 2010). Overenthusiasm may pave the way for lack of project planning and
absence of procedural guidelines (Grudinschi et al., 2013), insufficient human
resources (Mojir, 2018), turf wars (Wilsona, Bunn, & Savage, 2010) and power
imbalances (Van Huijstee, Francken, & Leroy, 2007).
The concept of CSC has become diffused not only within domestic polities
that went beyond rigid corporatist traditions to embrace more pluralistic models
of governance, but also across the supranational level through the formation of
regional and global regulatory regimes and the internationalization of civil society.
This scenario is particularly relevant to the EU wherein its “conceptual framework for profiling the arrangement of policy-making activity performed within
and across politico-administrative institutions located at different territorial levels”
has been termed as MLG (Stephenson, 2013, p. 817). “Fitting aptly to the complexities of political, financial and administrative relations within the multi-level,
multi-arena game of the EU “(Painter, 2003, p. 591), MLG is conducive to CSC
because it goes beyond vertical and horizontal levels of governance interaction, as it
also emphasizes fluidity between and within tiers wherein dispersion of authority is
uneven across different policy domains (Rosamond, 2003, p. 120). To this effect, Piattoni (2020) defines MLG as a diverse set of arrangements, a panoply of systems of
coordination and negotiation among formally independent but functionally interdependent entities that stand in complex relation to one another and that, through
coordination and negotiation, keep redefining the interrelations.
Piattoni’s definition encompasses an intricate web of complex collaborations
that is always in a constant state of flux. This implies that the ever evolving
“arrangements” are fluid and need flexible open methods of communication
(OMC) rather than hierarchical jurisdictions of authority. According to
Stephenson (2013, p. 824), OMC promotes “transparency via data exchange,
benchmarking and best practices both vertically between governance layers, and
horizontally across member states,” whereas hierarchical jurisdictions rest on “a
system of continuous negotiation among nested governments as a result of a
broad process of institutional creation” (Marks, 1993, p. 392). Although theorists
may have mapped out the two paradigms as mutually exclusive, they can in fact
be viewed as trajectories on the same continuum characterizing a new “politycreating process” (Hooghe & Marks, 2001, p. 124). According to Gualini (2004,
Analysis of CSC and MLG Within Single Use Plastic Policy
11
p. 36), the new polity characterizing the European integration project is based on
three basic assumptions:
⦁⦁ subnational governments are seen as governmental levels of importance next
to national and European levels;
⦁⦁ subnational empowerment is seen as a process of power dispersion in the EU
where political influence is exerted by civil society groups; and
⦁⦁ supranational institutions are seen as exerting an independent influence in policy-
making that does not derive from an alleged role as agents of state executives.
Kohler-Koch (2003) adds another assumption, this time pertaining to national
governments whose function moved away from that of authorative allocation and
regulation “from above” to the role of partner and mediator; thus opening further
impetus to CSC. This would entail the drafting of hard law and formal institutional
settings, as well as the formation of shared norms, values and processes of mutual
learning and experimentation. Given the EU has become a major venue for the
application of “new institutionalist” political science and for debates between
its main strands (Cini, 2007, p. 126), this continuum embracing both formal
and informal rules and norms encapsulates the essence of rational choice and
sociological institutionalist approaches. Despite utopian mantras of “governing
with governments” (Rhodes, 1999), small states retain “big governments” not
merely because of “economies of scales in the provision of public goods,” but as
a “reflection of the greater pressures for public spending by politicians in smaller
and more homogeneous” polities (Briguglio, Cordina, Farrugia, & Vigilance, 2008;
Lockhart, Drakakis-Smith, & Schembri, 1993; Pirotta, 1996; Remmer, 2010, p. 49)
CSC – propelled by the “utopian” network governance model – may hold
the key to formulate, implement and evaluate policy solutions to realize the
next quantum leap toward human wellbeing and environmental sustainability as
outlined in the following section. The case study – revolving around Malta – entails
the incorporation of MLG as an integral part of the conceptual framework.
The Case of Malta
Malta has been transformed in many ways with and by EU Membership (Harwood,
2014; Micallef Grimaud, 2018; Vassallo, 2015). Accession to the EU has created a
“profligacy of decision-making tiers and multiplied the tensions that exist between
different levels of governance in this small archipelago state” (Baldacchino, 2014).
According to Baldacchino, Malta has never experienced such pluralism in its multimillennial history, and this is particularly applicable to wicked policy choices, such
as the ones involving waste management and plastic reduction.
The top tier of Maltese governance is characterized by the national government,
responsible for the formulation of policies and strategies. The implementation
of regulatory frameworks need to be followed up by ministries, primarily the
Ministry for the Environment, Climate Change and Planning, which liaises with
the ERA and Wasteserv Ltd. by means of campaigns such as “Don’t Waste Waste”
(2016), “Sort it Out” (2018) and “Saving Our Blue” (2019). The Government also
12
Clinton Cassar and Mario Thomas Vassallo
cooperates with the Local Councils and The Local Council Association to make
sure that kerbside collection of waste and recycling through bring-in sites function
appropriately and efficiently. Other important entities include non-governmental
organizations (NGOs) and private companies. Examples of the former include
Nature Trust, Flimkien għall-Ambjent Aħjar, Friends of the Earth and Żibel who,
in collaboration with the Cleansing Services Directorate and ERA, carry out
educative campaigns and clean-ups (ERA, 2019), whereas the latter comprises
GreenPak and Green MT, which aim at recycling and recovering waste.
Moreover, sustainable waste management also features in the National
Strategy for the Environment, which serves as a framework for the protection of
environmental issues up till 2050. Through “a holistic, cross-sectoral approach”
(ERA, 2020) a Vision for 2050 was adopted, stressing on strategic alignment across
government entities which looks beyond economic measures of success for improved
quality of life (ERA, 2020). In this respect, the first step toward sustainable waste
management is banning the importation of single-use items as from January 1, 2021
and prohibiting their sales as from January 1, 2022 (Times of Malta, 2020).
While the regulatory framework demonstrates that the Maltese Islands is at the
forefront of eradicating single-use plastic, it still lags behind in reaching national
and international targets, partly due to inadequate infrastructure, inefficient
separation and contaminated material. In fact, in 2019, only 1% of plastic waste
in the Maltese Islands was recycled while 58% of plastic waste was landfilled
(Times of Malta, 2021). This clearly indicates that while single-use plastic policy
demonstrates a rather robust framework, this does not translate into the desired
outcomes. Therefore, more action should be taken in this regard, so that the
country can reach the targets it aims to achieve, thus implementing sustainability.
Having mapped out the intricacies of the policy environment and the multiplicity of stakeholders within the various layers of governance, the next step is to
introduce the methodological design adopted for this research.
Methodology
Content analysis of official documentation was employed as the data collection
tool of choice to test the six original hypothesis. This tool allowed the investigation to identify, qualify and map-out the different elements at play for a deeper
understanding of the political phenomenon under investigation (Bryman, 2008,
p. 700). To this effect, a positivist ontology is activated to underpin the exploratory
nature of this study; thus securing limited interference by the researchers.
Through the application of content analysis, the extent of coordination and
synergies among the different policy actors across a multi-layered governance
platform has been quantified and assessed. Hypotheses are then validated or contradicted through statistical test computations. The scientific process started with
the identification of 14 legal and policy documents, consisting of nine at the international level, two at the supraregional level, one at the national level, one at the
subnational level and two commissioned by the Catholic Church and NGOs. The
comprehensive list of selected documents is exhibited in Table 1. The choice of
documents was intentionally made to incorporate the impetus of international,
supraregional, national and local authorities, as well as state and non-state actors.
Analysis of CSC and MLG Within Single Use Plastic Policy
13
Table 1. Official Documents Selected for Content Analysis.
Document Title
Document Type
Commissioned by
Year
London Convention
Convention
International Maritime
Organisation
1972
MARPOL
Convention
International Maritime
Organisation
1973
The Basel Convention
Convention
UN
1992
UNCLOS Law of the
Sea
Convention
UN
1994
Global Programme of
Action
Action-oriented
program
UN Environment
Programme
1995
The Stockholm
Convention
Convention
UN Environment
Programme
2001
Honolulu Strategy
Framework
document
UN Environment
Programme
2011
National Oceanic and
Atmospheric Administration
(NOAA) Marine Debris
program
2030 Agenda
for Sustainable
Development
Agenda
UN
2015
Laudato Si
Encyclical
La Santa Sede (The
Vatican)
2015
G7 Ocean Charter
Charter
G7
2018
A European Strategy
for Plastics in a
Circular Economy
Communication European Commission
from European
Commission
2018
The Role of Local
Action plan
Councils in Sustainable
Waste Management
Maltese Local Government 2018
The Single-use Plastic
Products Strategy for
Malta (2020–2030)
Public
consultation
document
Environment and Resources 2019
Authority, Malta
Plastic and Health:
The Hidden Costs of a
Plastic Planet
Research report
Centre for International
Environmental Law in
conjunction with various
NGOsa
2019
Source: Authors.
a
Namely, Earthworks, Global Alliance for Incinerator Alternatives, IPEN, Healthy Future,
UPSTREAM,Texas Environmental Justice Advocacy Services (t.e.j.a.s) and #breakfreefromplastic.
14
Clinton Cassar and Mario Thomas Vassallo
On the basis of the conceptual scaffolding composed of policy history,
contextual analysis and theoretical frameworks, three themes, namely MLG, CSC
and Stakeholders, and 13 related codes have been identified a priori, as exhibited
in Table 2. Eventually, an inductive process was employed to single out alternate
or similar vocabulary that can be regarded as synonyms to the core coding set.
For example, the term “subsidiarity” is used in EU, Malta and Catholic Church
texts, but other international organizations use different wording, like “shared
responsibilities,” “partnership” and “involvement.” Some documents make reference
to “local,” others use such terms as “municipal,” “city” or “parish.” The full list of
synonyms is provided in Table 2.
Table 2. Themes, Codes, Synonyms and Contextual Derivatives.
Themes
Codes
Synonyms and Contextual Derivatives
Cross-sectoral Collaboration Cooperation, coordination, alliance, consultation,
Collaboration
collective, negotiate, cross-border, multi, liaison
Multi-level
Governance
Synergy
Participation, consensus, harmonise, mutual,
effort, empowerment, united, consent
Partnership
Partners, sharing, interconnectivity, integration,
cohesion, engagement, interlinkages, exchange,
pledge, covenant, involvement, intercomparable,
transfer
Dialogue
Agree, support, acceptance, approval, ratification,
accession, in accordance, endorse, conform,
comply, in conjunction
International Global, world, UN, World Trade Organization
(WTO), World Health Organisation (WHO),
Regional Fisheries Management Organisations
(RFMO), G7, G20, Paris Agreement,
intergovernmental, multilateral, bilateral,
organisation, multilevel governance, at all/
different/various levels of governance
Supraregional Continental, European Union, Europe, member
states, Mediterranean, European Council,
European Parliament, European Commission,
Council of Europe, MLG, at all/different/various
levels of governance
National
State, Malta, Maltese, country, Wasteserv,
Environment Resource Authority (ERA),
Malta Tourism Authority (MTA) Malta Hotel
and Restaurants Association (MHRA), Malta
Competition and Consumer Affairs Authority
(MCCAA), Malta International Airport (MIA),
institution, organisation, MLG, at all/different/
various levels of governance
Analysis of CSC and MLG Within Single Use Plastic Policy
15
Table 2. (Continued)
Themes
Stakeholders
Codes
Synonyms and Contextual Derivatives
Subregional
Boundaries, territory, MLG, regional, North,
South, East, West, Gozo, organisation, MLG, at
all/different/various levels of governance
Local
Local authorities/governments, local councils,
municipality, subsidiarity, parish, MLG, levels
of government, mayors, councillors, city, MLG,
at all/different/various levels of governance
Business
Industry, companies, producer, supermarkets,
establishment, hotel, hostel, restaurant, retailer,
importers, manufacturers, street market, shops,
guesthouses, shoppers, customer, private sector/
entities, manufacturers, company, consumer,
markets, owners, commercial outlets, generators,
exporters
State actor
Entity, parties, agency, body, Government,
consultants, academia , education
Non-state
actors
NGO, civil society, citizen engagement,
philanthropy, scientific community, social
partners, community-based approaches/
participation, organized community
Citizens
Society, community, humanity, volunteering,
people, actors, stakeholders, women, girls, boys,
men, children, infants, youth, older persons,
adult, mothers, residents, tenants, refugees,
displaced persons, farmers, indigenous/remote
community, fenceline communities, poor,
marginalised, people living with HIV/AIDS,
vulnerable people, least educated, workforce,
worker
Source: Authors.
Results
The ground work delineated in the methodology chapter led to the attainment of
descriptive statistics that explain and quantify usage frequency of the 13 selected
codes. To this effect, Table 3 provides the count of occurrences, together with the
highest and lowest incidences of usage. This facilitates comparability as it eliminates variability based purely on the number of pages, given that the selected
documents ranged from four-page strategies to legal frameworks with more than
440 pages.
1972
1973
1992
1994
1995
2001
2011
2015
London Convention
MARPOL
The Basel Convention
UNCLOS Law of the
Sea
Global Programme of
Action
2030 Agenda
for Sustainable
Development
1.17
1.46
0.86
0.68
41
48
43
34
60
0.42
0.18
Honolulu Strategy
50
32
14
76
30
0.50
67
1.12
103
0.50
95
0.42
0.03
0.46
41
0.05
0.01
3
24
The Stockholm
Convention
60
208
Collaboration
98
Synergies
5
Partnership
440
2.24
92
0.32
16
0.53
40
0.50
30
0.55
115
0.28
27
0.38
169
Dialogue
2.90
119
0.80
40
2.72
207
1.78
107
3.07
638
1.44
141
2
860
6.95
285
1.62
81
1.00
76
3.80
228
2.51
522
1.76
172
1.15
508
1.16
29
Intern­ational
77
0.98
40
0.34
17
0.47
36
2.52
151
0.74
154
0.22
22
0.05
21
0
0
Supra­regional
3.08
5.44
223
0.46
23
1.00
76
3.10
186
6.65
1383
2.33
228
0.62
273
0.48
12
National
9
4
1.68
1.02
42
0.80
0.26
0.14
11
0.42
25
0.05
10
1.07
44
1.08
54
0.11
8
0.88
53
0.55
114
0.66
0.02
0.05
23
65
40
69
3
0.12
2
0.03
11
0.16
13
0.59
45
0.28
17
0.08
16
0.04
4
0.14
60
1
14
Sub­regional
0.36
Local
17
Business
0.68
1.07
44
0.46
23
1.95
148
1.50
90
6.62
1376
1.97
193
0.75
332
6.68
167
State Actor
14
Stakeholders
0
6
315
7.68
0.41
0.52
26
0.29
22
0.10
17
0.30
14
0.05
4
0.25
15
10
0.05
4
0.26
0.02
0.02
25
0
2
0
0
1
1
0.04
0
Non-state
Actor
0.56
Multi-level Governance
Citizen
25
Publi- Number
cation
of
Year Pages
Document
Title
Cross-sectoral Collaboration
Coding Resulting from Context Analysis.
Table 3.
16
Clinton Cassar and Mario Thomas Vassallo
2018
2018
2018
2019
2019
G7 Ocean Charter
A European Strategy
for Plastics in a Circular
Economy
The Role of Local
Councils in Sustainable
Waste Management
The Single-use Plastic
Products Strategy for
Malta
Plastic and Health:
The Hidden Costs of a
Plastic Planet
74
36
10
18
4
184
8
0.11
7
0.09
2
0.06
6
0.20
0.10
0.17
2
0.67
0.56
1
12
10
3
0.75
3
0.75
65
0.35
8
0.04
18
52
0.09
0.24
18
0
7
4
0
0.20
2
2.50
45
1.25
5
0.28
0
0.20
2
0.72
13
1
4
0.10
272
2.32
172
0.28
0.66
49
1.61
58
0.20
0
10
2
8.44
152
0.25
0.61
45
2.97
107
2.10
21
1.11
20
2
8
0
1
16
0.09
0
0
2.83
51
3.50
14
1.48
Black box indicates the highest incidence of usage; Bold and underlined indicates lowest incidence of usage.
Source: Authors.
2015
Laudato Si
18
28
0.15
11
0
2
2.00
20
0.72
13
1.76
130
0.28
10
6.50
65
0.22
4
2
0.5
0
0.15
1
0.10
49
1.53
113
4.89
176
1.00
10
3.17
57
3.75
15
0.27
12
0.55
41
0.44
16
3.00
30
0.56
10
1.25
5
0.07
44
106
0.12
9
0.06
2
0.10
2.43
180
0.28
10
2.40
24
0.50
0.06
1
9
2.75
11
0.58
1
0.25
1
0.10
Analysis of CSC and MLG Within Single Use Plastic Policy
17
18
Clinton Cassar and Mario Thomas Vassallo
Table 4. The Highest Number of Incidences of Usage.
Code
Policy Document
Incidence of Usage
Supraregional level A European Strategy for Plastics
in a Circular Economy (2018)
8.44
Citizen
2030 Agenda for Sustainable
Development (2015)
7.68
State actor
London Convention (1972)
6.68
National level
UNCLOS Law of the Sea (1994)
6.65
Local level
The Role of Local Councils in
Sustainable Waste Management
(2018)
6.50
Table 4 shows that the theme “multi-level governance” has the most number
of highest incidence of usage since the codes “supraregional,” “national” and
“local” featured the most, followed by the theme “stakeholders” since the codes
“citizen” and “state actor” recorded incidence of usage as well. No highest incidence of usage featured from the theme “cross-sectoral collaboration.” Interesting to note that the codes “local” and “supraregional” reflect the nature of their
policy document. This is because, “local” originates from a Maltese policy document while “supraregional” is derived from a EU policy document. Similarly,
the code “citizens” featured in the 2030 Agenda for Sustainable Development
because the document stresses on the importance of citizens to achieve sustainable development.
Table 5 displays codes that did not feature in any of the policy documents.
Furthermore, “Non-state actor” was not recorded in two policy documents
whereas “The Single Use Plastic Products Strategy for Malta” featured three
codes with no incidences. While the theme “Cross-sectoral collaboration” did
not feature in Table 4, in Table 5 all three themes (MLG, CSC and stakeholders) generated the same amounts of codes with 0 incidence of usage. Also, from
a longitudinal point of view, with the exception of the London Convention
(1972) and MARPOL (1973), the rest of the lowest incidences of usage originate from policy documents formulated in the twenty-first century, precisely
since the year 2015.
Table 6 shows that the theme “Multi-level governance” has generated the top
rank of total highest incidence of usage while “stakeholders” have registered the
top rank for “total number of lowest incidence of usage.” On the other hand,
“Cross-sectoral collaboration” has scored both the lowest total number of highest incidence and lowest incidence of usage altogether.
The observed patterns and trends resulting from the usage frequency analysis
sets the parameters toward the scientific testing of correlations’ significance pertaining to the six original hypothesis, computed in the next section.
Analysis of CSC and MLG Within Single Use Plastic Policy
19
Table 5. The Lowest Number of Incidences of Usage.
Code
Non-state actor
Policy Document
Incidence of Usage
London Convention (1972)
0
MARPOL (1973)
A European Strategy for Plastics in a
Circular Economy (2018)
Citizens
MARPOL (1973)
0
Supraregional level Laudato Si’ (2015)
0
Subregional level
0
G7 Ocean Charter (2018)
The Single Use Plastic Products
Strategy for Malta (2020–2030) (2019)
International level
The Role of Local Councils in
Sustainable Waste Management (2018)
0
Partnership
The Single Use Plastic Products
Strategy for Malta (2020–2030) (2019)
0
Dialogue
The Single Use Plastic Products
Strategy for Malta (2020–2030) (2019)
0
Table 6. Total Incidence of Usage for the Three Themes.
Cross-sectoral
Collaboration
Multi-level
Governance
Stakeholders
Total highest
incidence of usage
2
7
5
Total lowest
incidence of usage
4
6
9
Hypotheses Testing
Prior to testing the hypotheses, the Shapiro Wilk’s test was performed to examine
if variables are normally distributed, determining whether a parametric or nonparametric test needs to be carried out. As seen in Table 7, those variables having
a low p-value, which is less than the 0.05 level of significance, obtain high results
of skewness and kurtosis, indicating that they are not normally distributed. This
is inversed when the p-value exceeds the 0.05 level of significance, demonstrating
normal distribution.
20
Clinton Cassar and Mario Thomas Vassallo
Table 7. The Shapiro Wilk Test to Determine Normal Distribution.
Hypothesis
Variable
W
Mean Median
SD Skewness Kurtosis
State
0.732 0.0008
1.91
1.16
2.15
1.74
2.08
Non-state
0.855 0.0257
0.12
0.08
0.13
1.11
0.26
Local
0.519 0.000008
0.86
0.25
1.70
3.27
11.26
International
0.879 0.056
2.17
1.69
1.77
1.55
3.37
Citizen
0.636 0.000087
1.28
0.40
2.08
2.55
7.20
Cross-sectoral
collaboration
0.928 0.203
3.03
3.21
2.10
0.55
0.44
Multi-level
governance
0.899 0.108
6.75
5.32
4.54
0.79
−0.47
Stakeholders
0.949 0.649
4.69
4.46
2.82
0.38
−0.68
p
Table 8. Testing H1–H5.
Hypothesis
Shapiro Spearman’s Pearson’s p-Value Correlation
Wilk’sTest Correlation Correlation
(p-value)
1. There is a
0.0008,
correlation
0.0257
between state and
non-state actors
−0.420
2. There is a
0.000008,
correlation
0.056
between local and
international levels
of governance
0.160
3. There is a
correlation
between lowest
strands of MLG
(local) and multiactors (citizen)
0.727
0.000008,
0.000087
0.135 Statistically
not
significant
−0.2283
0.584 Statistically
0.4330 not
significant
0.0032 Statistically
significant
4. There is a
0.203,
correlation between 0.108
CSC and MLG
0.536
0.048 Statistically
significant
5. There is a correlation 0.108,0.649
between MLG and
stakeholders
0.613
0.020 Statistically
significant
Analysis of CSC and MLG Within Single Use Plastic Policy
21
Table 8 shows which parametric test was utilized for each hypothesis. If the
p-values of the Shapiro Wilk test exceed the 0.05 level of significance, then the
normality assumption is satisfied and the Pearson’s correlation test was used, as
in the case of H4 and H5. On the other hand, the normality assumption was
violated when the p-values are under the 0.05 level of significance, as seen in H1
and H3. In that case, the Spearman’s correlation test was utilized.
H3–H5 are statistically significant since the p-values are less than the 0.05 level
of significance, unlike H1 and H2. This means that in the latter hypothesis, there
is no correlation between variables. With the exception of the H1, all other correlations are positive. Therefore, in the case of positive correlations (H2–H5), it
can be generalized that high levels in one variable will result in high levels in the
other. The strengths of the correlations vary, with the weakest being H2 (0.16)
whereas the strongest correlation is the H3 (0.727). The remaining hypotheses
demonstrate moderate relationships.
Interesting to note that both the Spearman’s correlation test and the Pearson’s
correlation test were used for H2. Although the Spearman’s test yields a negative
correlation coefficient and the Pearson’s test displays a positive correlation coefficient, the two correlation coefficients are not significantly different from 0 since
both p-values (0.584, 0.433) exceed the 0.05 level of significance. Hence, there is
no relationship between the two variables.
Whereas the first five hypotheses involved the correlation between variables, hypothesis six seeks to approve or negate association between two variables. More specifically it focuses on the level of synchronization between
Maltese policy documents and international regulatory regimes. To determine the association between the variables, the chi-squared test was used
(Table 9).
The test shows that there is a significant association between the two categorical variables since the p-value is 0.040. In fact, CSC is prevalent in international
policy documents while MLG and stakeholders are predominant in Maltese
policy documents.
Table 9. Testing H6.
Cross-sectional Multi-level
Collaboration Governance
Stakeholders
Total
Maltese Policy Count
Documents
Percentage
1
16
12
29
3.4
55.2
41.4
100.0
International
Policy
Documents
Count
42
79
53
174
Percentage
24.1
45.4
30.5
100.0
Total
Count
43
95
65
203
Percentage
21.2
46.8
32.0
100.0
χ2(2) = 6.456, p = 0.040.
22
Clinton Cassar and Mario Thomas Vassallo
Conclusion
This study has set out to explore to what extent the concepts of MLG and CSC
are diffused in the fight against single-use plastic. Relying on the fertile landscape of regulatory and policy documents, this study has marshaled a content
inquiry to investigate the correlation between state and non-state actors, as well as
between local and international levels of governance in their endeavors to address
environmental concerns. Besides the international and European arenas, this
research also examined the extent to which plastic governance in Malta is aligned
to supranational regulatory regimes, thus calculating the degree to which MLG
and CSC are being practiced in the EU’s smallest member state. The hypotheses
testing exercise yielded a set of unequivocal results, namely:
I.
There is no significant correlation between state and non-state actors, meaning that governments are more predominant than business and civil society
in the fight against single-use plastic.
II. There is no significant correlation between local and international levels of
governance, indicating that community authorities are low-key protagonists
when compared to supranational regulatory regimes.
III. There is a significant correlation between the lowest strands of MLG and
multi-actor scenarios, demonstrating that the attitudes and initiatives of
individual citizens toward plastic reduction is a key element in sustaining
local governance.
IV. There is a significant correlation between CSC and MLG, signifying that
plastic governance is influenced by a synchronized multi-actor and multilevel approach.
V. There is a correlation between MLG and stakeholders, suggesting that the
impetus of state actors, businesses, civil society groups and citizens forms
part of a collective regulatory effort across the different platforms of political
authority.
VI. There is a correlation between Maltese plastic governance and international regulatory regimes, exhibiting an interdependent and coordinated
approach between plastic governance in Malta and supranational regulatory
frameworks.
These results attest that the transformation needed from a conceptual
progression of government to governance is indeed happening, thus smoothing
the transition from Weberian approaches to “game-like interactions negotiated
and agreed by network participants.” The verification of four out of six hypotheses
confirms that the solutions for the wicked problem of plastic reduction are being
designed, implemented and monitored by an array of different actors that are
operating at the various levels of political action. Moreover, the statistical findings
in this study suggest that not all actors and not all platforms are equally significant
in policy formulation and regulatory design. Some are more predominant than
others since they lack voice, influence or initiative. Others find it difficult to insert
themselves into formal and rigid structures, as they prefer to be engaged in more
Analysis of CSC and MLG Within Single Use Plastic Policy
23
fluid, improvised and organic drives. The role of national governments is still
more prevalent than that of other actors, yet governments are increasingly sharing
their space and power with an accelerating plethora of stakeholders that are active
across different orbits of power. These results, coined with the fragmented global
plastic governance, require a “structured transformation more than ever before. It
has to start at the local and national level and requires strengthening bottom-up
governance and governance coherence” (Adams et al., 2019). In view of this
transformation, the authors recommend four action points, namely:
1.
2.
3.
4.
Given that CSC has scored the lowest incidence of usage in policy/regulatory documents, policy-makers should be more proactive to promote it by
renewing their plea for alliance formation, resource and knowledge pooling,
and greater engagement for the legitimization of regulation. As the primary
lubricant of networked governance, CSC needs to be continually refueled
within, among and beyond state entities.
Given that governments are more predominant than business and civil
society in the fight against single-use plastic, more effort should be exerted to
enact less formalized “collaboratives” within this multi-actor phenomenon.
Consequently, new actors will be willing to join in and contribute their
share toward plastic reduction. Such ad hoc collaborations require a greater
amount of trust and flexibility among state and non-state actors as they rest
on mutual agreed norms rather than on crystallized legislative clauses.
Given that local authorities are the least prevalent in plastic governance discourse, international regimes should be more vigilant to trickle down their
regulatory frameworks through the involvement of municipalities. Likewise,
local governance structures should take greater advantage from subnational
regional formations to enhance voice, merge resources and embark on more
effective schemes designed for plastic reduction.
Given the microsize of Malta, researchers and policy-makers can use it as
a case study to investigate how small states are able to develop and implement new policies and more complex forms of governance in a fast changing
global environment. Given the positive correlation between Maltese plastic governance and supranational regulatory regimes, one can suggest that
large states can draw lessons from smaller ones where the latter serve as pilot
grounds prior to large-scale policy/regulatory interventions.
Based on the aforementioned, it is evident that “a simple software update
is not enough – we have to revisit and reshape the hardware of sustainable
development at all levels” (Adams et al., 2019). The way forward proposed
through these recommendations demands a transformation through MLG and
CSC, where one needs to rethink, reshape and redesign plastic governance to
generate opportunities through shared responsibility and innovative circular
economy models. Further research is required to map out the implications of
these policy suggestions and lead to more detailed guidelines that ease diffusion
and implementation, for the well-being of not only the present but also future
generations.
24
Clinton Cassar and Mario Thomas Vassallo
Acknowledgments
The authors wish to thank Prof Liberato Camilleri for his assistance in the statistical test
computations utilized in this research.
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Chapter 2
Financial Regulation and Bank
Supervision During a Pandemic
Peterson K. Ozili
Abstract
Purpose: Pandemics lead to a sudden decline in the level of economic
activities. Lending institutions reduce credit supply to businesses due to
fears of rising bad debts during a pandemic. This chapter highlights some
approach to financial regulation and bank supervision during a pandemic
such as the SARS and COVID-19 pandemic.
Methodology: This chapter uses discourse analysis based on the literature
on banking regulation and supervision.
Findings: The author shows that financial regulation during a pandemic
can be enhanced by diversifying the financial system, maintaining adequate liquidity in the financial system, stimulating financial institutions
to provide more credit, delaying the recognition of significant increase in
credit risk, lowering the reference interest rate to encourage more lending,
and providing stimulus packages to financial institutions in the economy.
The author also suggest measures to improve bank supervision during a
pandemic which include adopting a flexible supervisory framework, modifying bank supervisory examinations, using ad hoc stress tests, releasing
the countercyclical capital buffer to banks, and increase the use of regulatory forbearance.
Implications: The implication of these approaches to coping with a pandemic
is that these measures can help to ensure the survival of small and large businesses and financial institutions. It can also help to preserve jobs and help to
reduce the long-term damage to the economy caused by the pandemic.
Originality: Prior studies have not examined the effect of COVID-19 pandemic
on bank supervision and financial regulation.
Insurance and Risk Management for Disruptions in Social, Economic and Environmental
Systems: Decision and Control Allocations within New Domains of Risk, 29–37
Copyright © 2022 by Emerald Publishing Limited
All rights of reproduction in any form reserved
doi:10.1108/978-1-80117-139-720211002
30
Peterson K. Ozili
Keywords: Pandemic; COVID-19; coronavirus; SARS; banks; bank
supervision; financial regulation
JEL classifications: G21; G28
1. Introduction
This chapter highlights some approach to financial regulation and bank supervision during a pandemic.
The outbreak of Severe Acute Respiratory Syndrome (SARS) in 2003 and the
more recent coronavirus COVID-19 pandemic in 2020 have one thing in common
which is that they threatened short-term growth prospects in the global economy.
The downward revision in global growth forecasts by the World Bank and the International Monetary Fund showed that the pandemic – which is primarily a health
problem – had spillover effects to many sectors of the economy (Ozili & Arun,
2020). During the COVID-19 pandemic, the downward revision in global growth
forecast was caused majorly by nationwide lockdown restrictions in some countries
and strict social distancing policy measures in other countries (Chudik, Mohaddes,
Pesaran, Raissi, & Rebucci, 2020; König & Winkler, 2020; Ozili, 2020a).
Apart from lockdowns, the other important channel through which pandemics affect the level of economic activities is through abnormal cuts in credit supply to the real sector by financial institutions. Financial institutions often reduce
lending to businesses during a pandemic or lend at high interest rates to businesses in need of working capital during a pandemic due to rising credit risk concerns. During the 2020 COVID-19 pandemic, bank credit declined significantly
(Ari, Chen, & Ratnovski, 2020; Jing, 2020; Ozili, 2020b; Ozili & Arun, 2020).
There are many studies on the impact of a pandemic on financial institutions and
financial markets (e.g., Li, Strahan, & Zhang, 2020; Ozili & Arun, 2020; Topcu &
Gulal, 2020; Zhang, Hu, & Ji, 2020). Only few studies examine how a pandemic
affects financial regulation and bank supervision.
The discussion in this chpater contributes to the emerging literature on the
policy response of governments to a pandemic such as the coronavirus crisis. This
chapter also contributes to studies that examine the efforts of financial regulators
in helping financial institutions to withstand the negative effects of the pandemic
on their balance sheets.
The rest of the chapter is structured in the following way. Section 2 presents
the literature review. Section 3 highlights and discuss some approaches to financial regulation. Section 4 highlights and discuss some approaches to bank supervision. Section 5 concludes.
2. Literature Review
Some studies examine the impact of a pandemic on a country’s financial and
economic system, and suggest some recommendations.
Financial Regulation and Bank Supervision During a Pandemic
31
Fan (2003) highlights the channels through which the impact of the SARS
pandemic was felt. Fan (2003) show that (i) the SARS pandemic of 2003 affected
economic growth by reducing demand which led to a significant reduction in
private consumption spending as consumer confidence dramatically declined in
many economies; (ii) the overall level of investment reduced due to heightened
uncertainties and increased risks; (iii) foreign investment inflow was delayed
or reduced in reaction to SARS; and (iv) government spending to mitigate the
impact of SARs on the economy was limited.
During the coronavirus COVID-19 pandemic, Ozili and Arun (2020) show
that the spread of the virus encouraged social distancing which led to the shutdown of financial markets, corporate offices, businesses and events. The exponential rate at which the virus was spreading, and the heightened uncertainty about
how bad the situation could get, led to flight to safety in consumption and investment among consumers, investors and international trade partners. Ozili and
Arun (2020) draw on real-world observations in assessing the restrictive measures,
monetary policy measures, fiscal policy measures and the public health measures
that were adopted during the period, and show that the increasing number of
lockdown days, monetary policy decisions and international travel restrictions
severely affected the level of economic activities as well as the closing, opening,
lowest and highest stock price of major stock market indices.
Schularick, Steffen, and Tröger (2020) in their analysis of the possible impact
of COVID-19 using several scenarios, estimate a capital shortfall of up to 600
billion euro in European banks in a severe scenario, and a capital shortfall of
around 143 billion euro in a moderate scenario. They then propose a precautionary recapitalization of European banks that would safeguard financial stability,
and position the Eurozone for a quick recovery from the pandemic. Giese and
Haldane (2020) compare and contrast the resilience of the financial system during the 2008 global financial crisis and 2020 COVID-19 pandemic. They show
that banks are part of the solution for coping with a pandemic rather than part
of the problem as was the case during the 2008 global financial crisis.
Li et al. (2020) show that banks faced the largest increase in liquidity
demands at the peak of the COVID-19 pandemic in March 2020. Firms drew
funds on a massive scale from pre-existing credit lines in anticipation of cash
flow and financial disruptions caused by the COVID-19 crisis. The increase in
liquidity demands was concentrated at the largest banks who serve the largest
firms. Also, the inflow of funds from both the Federal Reserve’s liquidity injection programs and depositors, along with strong bank capital, explain why US
banks were able to accommodate these liquidity demands during the COVID19 pandemic.
Demirguc-Kunt, Pedraza, and Ruiz-Ortega (2020) examine the role of financial sector policy announcements on the performance of bank stocks, and show
that measures of liquidity support, borrower assistance and monetary easing
reduced the adverse impact of the COVID-19 crisis on some banks not all banks.
Meagher (2020), in his analysis of microfinance providers (MFPs), calls for an
approach that is empathetic toward vulnerable clients, attuned to the specific
risks of microfinance services, and open to communication and consultation
32
Peterson K. Ozili
with the industry. He suggests that regulators should enable MFPs to operate
safely, provide relief to microfinance clients, make additional liquidity available
to MFPs, defer non-critical supervisory processes, and restructure or liquidate
troubled MFPs.
World Economic Forum (2020) suggests that policy-makers should ensure
that the financial system remains capable of safely meeting the public’s need for
financial services through digital channels, and that regulators and central banks
should continue to coordinate policy on a global level to help maintain financial
stability while issuing clear and consistent policy guidance. Didier, Huneeus, Larrain, and Schmukler (2020) suggest ways to finance firms during the COVID-19
pandemic. They suggest that firms should hibernate their activities to the barest
minimum by using the minimum cash necessary to withstand the pandemic while
using credit to remain alive until the crisis subdues.
3. Approach to Financial Regulation During a Pandemic
3.1. Diversify the Financial System
There is need to diversify the financial system much early before a pandemic
comes. Recently, financial institutions have become too similar to each other, and
this can make financial crises more likely and frequent (Goodhart & Wagner,
2012). Investment banks now offer the same products and services that commercial banks offer. Mortgage companies offer loans which banks offer, and banks
offer mortgage loans too. Large financial institutions now operate in the same
global financial markets, undertake very similar activities, and are exposed to the
same funding risks – and this has made their survival very intertwined and interconnected (Goodhart & Wagner, 2012).
We need a regulatory approach that would encourage greater diversity in the
financial system to reduce the interconnectedness of large financial institutions.
Such regulatory approach should be introduced and adopted long before a pandemic begins, so that it can help to mitigate possible contagion risks that may
arise from a pandemic. One idea to diversify the financial system is for policymakers to introduce many small financial institutions that specialize in specific
activities. Such specialization can help to reduce the contribution of each financial system to systemic risk which may be amplified during a pandemic.
3.2. Maintain Adequate Liquidity in the Financial System
Financial regulation should focus on the ability of market makers to provide
liquidity to the market during a pandemic. Heightened uncertainty in financial
markets caused by a pandemic can lead to liquidity hoarding, and create a situation where fund managers are constantly seeking liquidity when the capacity of
markets to provide liquidity has diminished significantly. This can lead to forced
asset sales and may amplify adverse market dynamics.
Financial regulators should also be ready to provide emergency liquidity to
the markets to reduce liquidity risk during a pandemic. Financial regulators,
Financial Regulation and Bank Supervision During a Pandemic
33
such as central banks, have two options to provide liquidity to the markets during a pandemic. They can either provide liquidity directly to non-banks, or they
can purchase large quantities of illiquid assets in the market. This can help to
stabilize the markets, address the issue of illiquidity, instill confidence and reduce
systemic stress in the markets.
3.3. Stimulate Financial Institutions to Provide More Credit
Financial institutions are often reluctant to increase lending during a
pandemic. To encourage financial institutions to increasing lending during
a pandemic, financial regulators need to use several incentives to stimulate
financial institutions to increase lending, such as offering implicit guarantees
to liquidity providers; providing capital relief to troubled financial institutions;
lowering the interest rate at which financial institutions borrow from the
central bank; providing differentiated financial support to distressed financial
institutions; launch asset purchase programs to purchase illiquid assets from
corporations; postponing counterparty debt repayment; release a large portion
of cash reserve ratio to banks; and offering credit guarantees to lenders. These
incentives can go a long way to encourage financial institutions to increase
lending during a pandemic.
3.4. Delay the Recognition of Significant Increase in Credit Risk
Financial regulators should allow financial institutions, especially banks, to formally delay the recognition of any significant increase in credit risk on their loan
exposures. Banks should be allowed to take a long time to fully recognize rising
non-performing loans (NPLs) because if they recognize the actual level of NPLs
during the pandemic, the reported NPL could result in excess loan loss provisioning which may erode bank profit and affect bank stability in the short term.
For this reason, it makes sense for regulators to allow banks to revise their NPL
projections and delay the recognition of large NPLs in order to help them cope
with the impact of an economic downturn caused by a pandemic. But this should
not be an excuse to banks for failing to have in place strict loan deterioration
monitoring and management strategies to identify credit risk at an early stage.
Bank supervisors should ensure that banks proactively identify and engage with
potentially distressed borrowers.
3.5. Lower the Reference Interest Rate to Boost Economic Activities
A reference interest rate is an interest rate used as a benchmark to set other
interest rates. In some developed countries, the reference rate is usually the
London Inter Bank Offering Rate (LIBOR) or some other interbank rate. In
many other countries, the reference rate is usually the central bank’s lending rate.
During a pandemic, a low interest rate by the central bank will mean cheaper
federal funds for banks to borrow, and cheaper bank loans for businesses and
households.
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Peterson K. Ozili
3.6. Provide Stimulus Packages to the General Economy
Financial regulators should provide stimulus packages to the general economy.
They can do this by, for example, reducing the amount of capital that banks need
to set against risky lending during the pandemic so that banks can expand lending
to businesses and households in such times. Two, financial regulators, especially
central banks, can support large firms by offering them cash for their corporate
debt. This can help large firms to keep paying wages to employees and pay their
suppliers even if they have serious cash flow problems. Three, they can provide
short-term funding as transfers to individuals and small and medium scale enterprises. This can help to support business and consumer confidence during the
pandemic, improve the cash flow of businesses and households, reduce the cost
of finance and improve the availability of finance.
4. Approach to Bank Supervision During a Pandemic
4.1. Adopt a Flexible Supervisory Framework
Bank supervisors should promote soundness and stability of the financial system
at all times during a pandemic. Bank supervisors will need to employ the flexibility embedded in the bank supervisory framework while striving to maintain
internationally agreed minimum regulatory standards and supervisory principles. Unlike developed countries, bank supervisors in developing countries have
fewer policy options at their disposal, and may lower their prudential standards
below the internationally agreed minimum regulatory standards due to limited
policy buffers, weaker implementation capacity and less-sophisticated regulatory
frameworks (Adrian & Pazarbasioglu, 2020). The problem with lowering prudential ratios below the minimum standards is that such policy move or action
could sow the seeds of destruction that may destabilize the financial system in the
future or in the long term.
4.2. Modify Bank Supervisory Examinations
Bank supervisory examinations will change during a pandemic. Bank supervisors
should ensure that how bank supervisory examinations are conducted during a
pandemic differs from their pre-pandemic routine. For example, bank supervisory examinations may be conducted offsite. Also, a streamlined approach can be
used for the examination of low-risk banks and moderate-risk banks so that more
supervisory resources can be focused on the examination of high-risk banks.
Regardless of the riskiness of each bank, bank supervisory staff should
continue to monitor the safety and soundness of all banks. More importantly,
bank supervisors should communicate to banks in clear terms that banks will
not be penalized for dealing with their borrowers who are having financial
difficulties associated with the pandemic. Such communication between bank
supervisors and bank management is vital to help supervisors understand the
unique challenges that each bank is facing during the pandemic as well as the
long-term effects the pandemic will have on all banks.
Financial Regulation and Bank Supervision During a Pandemic
35
4.3. Use Ad Hoc Stress Tests
Bank supervisors should adjust their routine stress test process during a pandemic.
Supervisors should perform non-routine ad hoc exercises to assess the vulnerability of the banking sector as a whole to the pandemic. The ad hoc exercises will be
different from the regular stress tests in terms of the objectives, design, scenarios,
methodologies and communication (Baudino, 2020). Such ad hoc stress tests should
support the assessment of the impact of the pandemic on the entire banking sector.
Also, an ad hoc approach to stress test can allow the authorities to further adjust
their stress tests from time to time as the pandemic evolves from low severity to high
severity. Furthermore, an ad hoc approach to stress tests during a pandemic can
help authorities to achieve the necessary balance between keeping banks safe, and
ensuring an adequate flow of credit to the real economy (Baudino, 2020).
4.4. Release the Countercyclical Capital Buffer to Banks
Another measure to support banks in providing credit to the economy is to temporarily release the countercyclical capital buffer to banks. Financial regulators
can do this by reducing the countercyclical capital buffer rate from say 2.5% to
0% of banks’ exposures to borrowers during a pandemic. The released countercyclical capital buffer can provide sufficient liquidity to banks which can then
be extended as loans to meet the needs of businesses and households during the
temporary disruption caused by a pandemic. The countercyclical capital buffer
can then be increased after the pandemic is over.
4.5. Increased Use of Regulatory Forbearance
Bank supervisors can use regulatory forbearance as a tool to reduce the regulatory burden on regulated financial institutions especially banks during a pandemic.
Regulatory forbearance occurs when regulators give some banks, or all banks, an
extended period of time during which they have to comply with specific regulatory
requirements. It reflects the unwillingness of regulators to take disciplinary action
against banks that fail to comply with certain regulations over a period of time.
Regulatory forbearance may take the form of freezing the classification status
of some or all credit exposures prior to the pandemic; extending the number of
days past – due after which a loan is considered to be non-performing; allowing
banks to postpone adequate provisioning which encourages under-provisioning;
or completely suspending the provisioning requirements for loans covered by
moratoria. These measures offer short-term relief to banks in coping with a pandemic even though these measures also undermine sound credit risk management
in banks and may expose the banking system to significant credit risk in the long
term (IMF-World Bank, 2020).
5. Conclusion
This chapter highlighted and discussed some approach to financial regulation
and bank supervision during a pandemic. The author offered some financial
36
Peterson K. Ozili
regulation suggestions for coping with the negative effect of a pandemic on the
financial sector such as the need to diversify the financial system, maintaining
adequate liquidity in the financial system, stimulating financial institutions to
provide more credit, delaying the recognition of significant increase in credit
risk, lowering the reference interest rate to encourage more lending and providing stimulus packages to the general economy. Also, some suggested measures
of bank supervision during a pandemic were provided. They include: adopting
a flexible supervisory framework, modifying bank supervisory examinations,
using ad hoc stress tests, releasing the countercyclical capital buffer to banks and
increased the use of regulatory forbearance.
The implication of these approaches to coping with a pandemic is that these
measures can help to ensure the survival of small and large businesses and financial institutions. It can also help to preserve jobs and to reduce the long-term
damage to the economy caused by the pandemic.
One limitation of using these approaches to cope with a pandemic in all countries is that it may be difficult to adopt in all countries due to country-specific
differences in bank supervisory capacity, financial regulatory standards, few
financial resources, structure of the banking system and the level of financial
development.
Future studies can examine whether the financial regulatory tools used to survive the 2008 global financial crisis are also effective in mitigating the negative
effect of a pandemic on the financial sector. Future studies can also identify other
monetary policy tools that are effective in dealing with a crisis other than those
mentioned in this chapter.
References
Adrian, T., & Pazarbasioglu, C. (2020). Combating COVID-19: How should banking
supervisors respond? World Bank Blogs, June 15. Retrieved from https://blogs.
worldbank.org/voices/combating-covid-19-how-should-banking-supervisorsrespond
Ari, A., Chen, S., & Ratnovski, L. (2020). COVID-19 and non-performing loans: lessons
from past crises. Retrieved from https://ssrn.com/abstract=3632272 or http://dx.doi.
org/10.2139/ssrn.3632272
Baudino, P. (2020, October 12). Stress-testing banks during the Covid-19 pandemic.
Financial Stability Institute (FSI) Briefs No. 11, pp. 1–7. Retrieved from https://
www.bis.org/fsi/fsibriefs11.pdf
Chudik, A., Mohaddes, K., Pesaran, M. H., Raissi, M., & Rebucci, A. (2020). A
counterfactual economic analysis of Covid-19 using a threshold augmented multi-country
model (No. w27855). Cambridge, MA: National Bureau of Economic Research.
Demirguc-Kunt, A., Pedraza, A., & Ruiz-Ortega, C. (2020). Banking Sector Performance
During the COVID-19 Crisis. World Bank Policy Research Working Paper, 9363.
Didier, T., Huneeus, F., Larrain, M., & Schmukler, S. L. (2020). Financing firms in
hibernation during the COVID-19 pandemic. Journal of Financial Stability, 53,
100–837.
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Fan, E. X. (2003). SARS: Economic impacts and implications. Asian Development Bank
ERD Policy Brief Series No. 15, May, Philippines.
Giese, J., & Haldane, A. (2020). COVID-19 and the financial system: A tale of two crises.
Oxford Review of Economic Policy, 36(Supplement 1), S200–S214.
Goodhart, C., & Wagner, W. (2012). Regulators should encourage more diversity in
the financial system. VOX EU CEPR, April 12. Media Report. Retrieved from
https://voxeu.org/article/regulators-should-encourage-more-diversity-financialsystem?keepThis=true&TB_iframe=true&height=650&width=850&caption=e urope
IMF-World Bank. (2020). COVID-19: The regulatory and supervisory implications for
the banking sector. A Joint IMF-World Bank Staff Position Note. International
Monetary Fund and World Bank, Washington. https://doi.org/10.1596/33793
Jing, E. (2020). Impact of high non-performing loan ratios on bank lending trends and
profitability. Retrieved from https://ssrn.com/abstract=3670002
König, M., & Winkler, A. (2020). COVID-19 and economic growth: Does good government
performance pay off ? Intereconomics, 55(4), 224–231.
Li, L., Strahan, P. E., & Zhang, S. (2020). Banks as lenders of first resort: Evidence from
the COVID-19 crisis. The Review of Corporate Finance Studies, 9(3), 472–500.
Meagher, P. (2020, June). Microfinance in the COVID-19 crisis: A framework for regulatory
responses. Insights for Inclusive Finance. CGAP, Washington, DC.
Ozili, P. (2020a). COVID-19 in Africa: Socio-economic impact, policy response and
opportunities. International Journal of Sociology and Social Policy. https://doi.
org/10.1108/IJSSP-05-2020-0171
Ozili, P. K. (2020b). COVID-19 pandemic and economic crisis: The Nigerian experience
and structural causes. Journal of Economic and Administrative Sciences.
Ozili, P. K., & Arun, T. (2020). Spillover of COVID-19: Impact on the global economy.
Retrieved from https://ssrn.com/abstract=3562570
Schularick, M., Steffen, S., & Tröger, T. H. (2020). Bank capital and the European
recovery from the COVID-19 crisis. SAFE White Paper, No. 69, Leibniz Institute
for Financial Research SAFE, Frankfurt a. M.
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World Economic Forum. (2020, April). Impact of COVID-19 on the global financial system:
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Chapter 3
A Study of Insurance Contracts Within the
Legal Context of a Small Island Influenced
by the Commonwealth, the European
Union and the Mediterranean: The Case of
Utmost Good Faith and Insurable Interest
Ramon Mizzi, Andre Farrugia and Simon Grima
Abstract
Insurance in Malta has been very largely influenced by English practice
and law. The influence of the English market insurance practice and law
not only shaped the Maltese market but practically that of all common law
jurisdictions in former members of the British empire. Since the London
insurance market continues to be a very dominant force globally until
today, the connection has undoubtedly served Malta well.
The origins of UK insurance principles of utmost good faith and insurable
interest under contract law, date back to times which were very different
from today and the need to revise the laws has now been felt in the UK as
well as in other jurisdictions which were influenced by its law and practice.
In Malta, minimal legislative intervention and the Maltese courts were
and continue to be mostly guided by English case law, some of which
has now been superseded by the updated statute law which was recently
introduced in the UK by virtue of the Consumer Insurance (Disclosure
and Representations) Act (2012) and Insurance Act (2015).
We herein lay out a case study of the development of utmost good faith and
insurable interest in insurance contracts within the Maltese legal context,
based on empirical literature findings and semi-structured interviews
Insurance and Risk Management for Disruptions in Social, Economic and Environmental
Systems: Decision and Control Allocations within New Domains of Risk, 39–65
Copyright © 2022 by Emerald Publishing Limited
All rights of reproduction in any form reserved
doi:10.1108/978-1-80117-139-720211003
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together with several legal experts who are specialized in the field and
experienced insurance professionals.
Keywords: Insurance; Malta; utmost good faith; insurable interest; insurance
contract; small Island
1. Introduction
Although insurance has undoubtedly become a very widely recognized necessity
for the Maltese society in general, as it has in all other developed countries, be it
for private individuals and corporate entities of all types, there is almost no specific legislation at all in Malta to regulate insurance contracts.
The oldest insurance contract, which is known to exist today, is a marine insurance policy which was found in Genoa. It was issued in February of 1343 and
with its very strong maritime history, the origins of insurance contracts which have
been traced in Malta date back to the same era. The oldest records of an insurance
policy found in Malta are dated to just less 200 years later (Zammit, 2017).
During the almost 200 British rule in Malta, the Maltese insurance market
developed almost exclusively under the influence of English law and practice. The
wordings most commonly used in the market until today almost exclusively originated in the British insurance market and it was in English case law that the Maltese
courts mostly turned when interpreting these contracts and the cases, which they
were brought before the courts over the years. The situation persists until today.
Although insurance has therefore been practised in Malta for all these centuries, the legislative provisions, which specifically relate to insurance contracts are
very sparse. Baring the archaic provisions of the Commercial Code (Cap 16 of
the Laws of Malta) on Marine Insurance and the much more recent provisions
introduced in the Civil Code (Cap 11 of the Laws of Malta) in relation to insurable interest in Life policies, there is very little else which practitioners can go by
in terms of the Maltese legal provisions.
There is of course a very complex and extensive set of legislation and regulations which regulate the authorization and operation of all types of insurance
providers in Malta. There is a very high degree of regulation by the EU of the
insurance market and it is, therefore, no surprise that such legislation has been
developed in Malta especially since the country’s EU accession in 2004. This legislation and regulation know its origins to the enactment of the Insurance Business Act (1981) and it is subject to consistent review because of the fast-paced
changes which are promulgated for the regulation of the insurance and other
financial services markets within the EU.
Prior to the enactment of the Insurance Business Act (1981), the Maltese insurance market was for many years dominated by British insurers which used to set
up agencies in the countries of the Commonwealth and Malta was no exception.
Till this day, the London insurance market continues to be the market of choice
for the Maltese insurance brokers when placing all the risks which the indigenous
A Study of Insurance Contracts
41
insurers do not have the capacity or the appetite for. It, therefore, comes as no
surprise that insurance practice in Malta was very strongly influenced by British
insurance practice and the policy wordings are till today, almost entirely based on
the wording of policies used in the British insurance market.
1.1 Aims and Research Questions
The authors argue that Maltese practice is based on principles as they were
applied in the UK many years ago. These principles particularly those of utmost
good faith and insurable interest have now been reviewed in the UK as well as in
the countries, which like Malta, adopted them from the UK. However, no such
review has yet been carried out in Malta.
Therefore, through this study the authors aim to address these research questions:
1.11
1.12
1.13
Should Malta wait for the EU to harmonize insurance principles of
utmost good faith and insurable interest under contract law practice?
Should Malta analyze the influence of English law practice and establish
whether it should continue to be guided by English law and practice especially now given the departure of the UK from the EU?
Should Malta consider whether the principle of utmost good faith and
insurable interest be done away with?
1.2 EU Harmonization
While the laws which provide for the supervision of insurance market players are
wholly harmonized within the EU, there appears to be a low probability of reaching much harmonization within the EU with respect to other areas of insurance
practice. It has been recognized that the insurance principles of utmost good faith
and insurable interest under contract law, and the corresponding practices applicable in the different EU member states, is an impediment to the single market in
the EU for insurance products.
Although desirable, the difficulties with harmonization are mainly attributable
to the different legal systems of the EU member states. The authors analyze the
possibility of having the harmonization of insurance practice of utmost good
faith and insurable interest applicable to all insurance contracts in the EU. With
the implementation of Insurance Distribution Directive (2016), for example, considerable progress has been made to bring about a level of harmonization in so
far as insurance consumer protection measures are concerned. However, from a
Maltese perspective, this has not alleviated the need for a substantive insurance
operational change and the traditional principles of utmost good faith and insurable interest principles persist.
1.3 Utmost Good Faith
Because of the absence of Maltese legislation, which regulates contracts of
insurance issued in Malta, the Maltese courts, when resolving insurance-related
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litigation, have consistently referred to English law and case law. The doctrine
of utmost good faith is one important example and obliges both parties entering into an insurance contract to do so with a high degree of good faith through
the disclosure of all material information, which is relevant to the risks being
insured. The principle applies to both parties to the insurance contract; however,
it is generally the insurer and not the insured, which invokes this principle seeking to avoid the contract based on the non-disclosure or misrepresentation of a
material fact.
The implementation of the principle of utmost good faith in the UK as was
outlined in the Marine Insurance Act (1906) came under a lot of pressure for
many years since it was deemed by many to give a high degree of latitude to
insurers at the expense of policyholders even in cases of innocent non-disclosure
or misrepresentation at the proposal stage. It was regarded by the Reform Commission which was setup to review the law, that the 1906 Act was “significantly
out of line with best practice in the modern insurance market” especially since it
was considered to have failed to keep pace with the developments in the sphere of
consumer legislation.
With the extensive reform of insurance interest principles of utmost good
faith and insurable interest under contract law carried out in the UK, the law
now treats consumer transactions differently to commercial transactions. In this
regard, two pieces of legislation were enacted specifically. The Consumer Insurance (Disclosure and Representations) Act (2012) applies to consumer insurance
contracts and the Insurance Act (2015) applies to commercial (non-consumer)
insurance policies.
It therefore follows that the legal principles, which have been adopted by the
Maltese courts from English case law over the years, have now been superseded
with the said recent legislative developments and it is now very unclear where the
Maltese courts will go in the absence of any local ad hoc legislative intervention.
For such intervention to take place in Malta, a serious analysis will have to be
made of the laws which would be appropriate to regulate insurance contracts even
so as these have to conform with EU legislation in so far as it could be applicable.
With the rapid development of the Maltese insurance market, even with its
very international dimension, together with the setting up of the Office of the
Arbiter for Financial Services, the number of insurance contract disputes is very
likely to increase. Disputes will likely become more complex in the years to come
and ad hoc legislation for the regulation of insurance contracts such as in the
application of the principle of utmost good faith has now become necessary.
1.4 Insurable Interest
The Maltese courts have consistently recognized that insurable interest is an
essential ingredient of an insurance contract even though there are no provisions
in the Maltese laws to this effect. The case of Camilleri Bertu v. Bartoli Harold Et
Nomine (2003) is one such example.
The need for the implementation of this principle in insurance contracts was
to combat moral hazard and to distinguish insurance from gambling. In the past
A Study of Insurance Contracts
43
few decades, the doctrine has been the subject of some considerable debate and
it is recognized now in the UK that the law relating to the doctrine needs to be
modernized and clarified since it is recognized that the situation today is very different than it was when the principle was first introduced with the enactment of
the Marine Insurance Act (1906).
1.5 Significance and Originality of the Research
This study examines two of the main insurance principles which have an important bearing on the smooth running of insurance businesses and in the harmonization of contracts and market practices among different market players. It will
also serve as insight to policy-makers who may benefit from the social, operational and regulatory findings and the corresponding impact. This would enable
the incorporation of these perspectives and traits into insurance policies and their
respective practices. The study is useful to the international insurance industry in
the pursuance of understanding the need to harmonize insurance contracts.
The findings will also serve as a literature base for the possible restructuring
of the insurance market practice and regulation. It will present a platform for
further studies by looking into other changes in regulation and operational practices with the intention of understanding how these would impact the indigenous
scenario and beyond. This is especially relevant to similar small commonwealth
jurisdictions, which like Malta, have been influenced by UK insurance principles,
contract wording and practices.
Moreover, the research moves in the direction of instigating change and development. As societies develop and practices change, insurers must be ready to
respond to these changes and respond to changing times. This work will serve to
build upon, change, reject or confirm practices, principles and policies, which have
had a varying impact on insurance practice and which prepares insurance market players to respond to modern circumstances fairly and effectively. It will also
serve as insight to regulators and stakeholders in the understanding of adapting
and adopting to such changes at the most optimum time in the light of changing
consumer behavior, consumer rights and consumer needs.
This research seeks to fill in a gap in literature in the field of insurance since
there has been no known literature delving deep in exploring the impact of changing practices by analyzing utmost good faith and insurable interest as country
case studies serving as a model for this purpose.
From an academic stance, scholars will find the results of this work useful for
the study of other insurance principles or the study of factors relating to contract
wording in others industries.
2. Literature Review
The scope of this chapter is to set the background to the subject of insurance
principles of utmost good faith and insurable interest in insurance contracts in
Malta by highlighting the literature which will be analyzed and referenced as part
of this study.
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Ramon Mizzi et al.
2.1 Utmost Good Faith
All contracts of any type should always be subject to good faith between the parties
but because of the speculative nature of the insurance contract, a higher level of
good faith is required. The common law duty of disclosure in insurance contracts
knows its origins to the famous Carter v. Boehm (1766) judgment which related to
a claim for damages to a fort in Sumatra which had been insured by the Governor.
The doctrine of utmost good faith requires that both parties to the insurance
contract are open and honest to each from before the contract is concluded and
throughout the duration of the contract (Parsons, 2016).
The principle of utmost good faith has been upheld in numerous cases appearing in the Maltese courts. In Spiteri Angelo v. Citadel Insurance plc (2004) the
court stated that the proposal and its acceptance create the consensus ad idem and
therefore the insurance contract is considered as one of uberrima fides (utmost
good faith), and thus the contracting parties should have the maximum good faith
when they sign. In this case, the proposer had indicated in the proposal form, that
his speedboat was, while in commission, going to be moored in a particular bay
in the south of the island and the court held that the insurers were within their
rights to repudiate a claim for theft of the vessel which had been stolen. This is
because it had been moored in another bay which was a short distance away from
the one which had been indicated by the insured but which from an underwriter’s
perspective, changed significantly the risk proposed.
The duty of disclosure is a reciprocal one “it has long been said that the requirement of utmost good faith applies to both parties to the insurance contract, in as
much as it imposes a duty of disclosure on the insurer as much as on the insured”
(Birds, 2013). In Camilleri Bertu v. Bartoli Harold Et Nomine (2003) the court held
that an insurer cannot question the validity in terms of whether the claimant was
actually in possession of the stolen stocks after its representatives had visited the
insured premises and did not question at all whether the insured was in possession
of the full value of the stocks which he subsequently claimed as having been stolen.
With the coming of the internet age of communication, the way insurers
gather, share and store information has changed considerably (Morozovaite,
2017) since the time of the 1766 judgment. In view of this the utmost good faith
principle has been questioned and the law in the UK has now been changed with
the introduction of the Consumer Insurance (Disclosure and Representations)
Act (2012) and the Insurance Act (2015).
The Maltese judiciary has throughout the years adopted the doctrine of
utmost good faith as developed in the UK when deciding disputes while making
reference to English case law and authors on the subject and continue to do so.
However, the Maltese laws only refer to the subject in Section 385 of the Commercial Code (CAP 16 of the Laws of Malta) in relation to Marine insurance.
The section provides:
1.
Any concealment, or any misrepresentation by the assured, or any discrepancy between the contract of insurance and the bill of lading, shall render
the contract of insurance void, if such concealment, misrepresentation, or
A Study of Insurance Contracts
2.
45
discrepancy is such as to lessen the estimate of the risk, or to change the
subject matter thereof.
The insurance shall be void even if the concealment, misrepresentation, or
discrepancy shall have had no effect upon the damage or loss of the things
insured.
The principle of utmost good faith obliges both parties entering into an insurance contract to do so with a high degree of good faith through the disclosure of
all material information, which is relevant to the risks being insured. Although
the principle applies to both parties to the insurance contract, it is generally the
insurer and not the insured which invokes this principle seeking to avoid the contract, generally following the submission of a claim, based on the non-disclosure
of a material fact.
With the extensive reform of insurance principles of utmost good faith and
insurable interest under contract law carried out in the UK, the law now treats
consumer transactions differently to commercial transactions. In this regard, two
pieces of legislation were enacted specifically. The Consumer Insurance (Disclosure and Representations) Act (2012) applies to consumer insurance contracts
and the Insurance Act (2015) applies to commercial (non-consumer) insurance
policies.
It, therefore, follows that the legal principles which have been adopted by the
Maltese courts from English case law over the years, have now been superseded
with the said recent legislative developments and it is now very unclear where the
Maltese courts will go in the absence of any local ad hoc legislative intervention.
For such intervention to take place in Malta, a serious analysis will have to be
made of the laws which would be appropriate to regulate the current application
of the utmost good faith and insurable interest principles in the framework of
changing EU legislation and regulation.
With the rapid development of the Maltese insurance market, even with its very
international dimension, together with the setting up of the Office of the Arbiter
for Financial Services, the number of insurance contract disputes is very likely to
increase. It is also very likely that disputes will become more complex in the years to
come and legislation for the regulation of insurance contracts, such as in the application of the principle of utmost good faith has now become necessary.
2.2 Insurable Interest
Insurable interest has for centuries been considered as an essential ingredient
of any contract of insurance unless, as Birds (2013), outlines it can be, and is,
lawfully waived. An important definition of insurable interest appears in what
is arguably one of the most important pieces of codifying legislation insurance
history, the Marine Insurance Act (1906), which is in relation to marine risks only
and provides that:
every person has an insurable interest who is interested in a marine
adventure.
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Ramon Mizzi et al.
It adds that a person is interested in a marine adventure where he stands in
any legal or equitable relation to the adventure or any insurable property at risk
therein, in consequence of which he may benefit by the safety or due arrival of
insurable property, or may be prejudiced by its loss, or by damage thereto, or by
the detention thereof, or may incur liability in respect thereof.
To have an insurable interest, a person must have a “relation in fact” to the
subject matter of the insurance giving rise to economic interest and a “legal or
equitable relation” (Clarke, 2014). The interest need not be one of ownership.
The principle of insurable interest has been wholly adopted by the Maltese
courts. In Deguara Victor v. George Bonnici et pro et noe (2013) the court stated
that one need not be the owner of a particular object to be in a position to take
out an insurance cover on it. The court continued to give an outline of what
would constitute a valid interest. This is equivalent to the interest which the same
insured has in the subject being insured and, in the prejudice, or loss that it could
suffer if the subject matter insured is lost, damaged or destructed.
We know that the origins of the concept of insurable interest stemmed from
the abolition of life insurance policies issued without an insurable interest to put a
stop to the practice of what effectively was wagering on the lives of kings or other
prominent individuals and those were at a higher risk of death like soldiers and
terminally ill persons.
The Maltese courts have on many occasions followed English case law and confirmed that insurable interest is a necessary ingredient of an insurance contract.
One such example was in Camilleri Bertu v. Bartoli Harold Et Nomine (2003)
where the court explained the principle by quoting Macgivallary and said that
insurable interest exists when the insured “may be said to benefit by the continued
existence of the property or life insured and will suffer a loss because of its damage or destruction” and that there is this interest
where the assured is so situated that the happening of the event
on which the insurance money is to become payable, would, as a
proximate cause, involve the assured in a loss or diminution of any
right recognised by law or in any legal liability.
An interesting case in which the Maltese courts have upheld the requirement of
insurable interest was Elmo Insurance Services Ltd noe. v. Edwin Pace et (2019).
The court of Appeal upheld a judgment of the court of the first instance in which
the insurers sought to recover their outlay after paying a claim and instituted proceedings on behalf of a natural person to whom the claim was paid. It, however,
turned out that the vehicle was owned by a legal entity of which the same natural
person was a shareholder. The court held that the insurers should not have indemnified the natural person since he did not have an insurable interest in the vehicle
and they consequently could not by way of subrogation recover their outlay.
The interest which has to be considered in the link between the insured person
and the subject matter of the contract of insurance in a way that it is not the
object itself which is being insured but the relationship of the insured with the
particular object. The said link could be an interest of the insured in that the
A Study of Insurance Contracts
47
subject matter is not destroyed even if it is being enjoyed by someone else and
even if he is not the sole proprietor of it (Borg Alfio v. Fogg Insurance Agencies
Limited, 2012).
There are various authors who have come to question the validity of the principle. Chandia (2018) argues in favor of the abolition of the principle on the
grounds that it did not serve the intended purpose when it was introduced, and its
significance has become even less in today’s world.
The Maltese courts have consistently recognized that insurable interest is an
essential ingredient of an insurance contract even though there are no provisions
in the Maltese laws to this effect, other than the recent introduction of provisions
in the Maltese Civil Code (CAP 16 of the Laws of Malta) to regulate insurable
interest of life assurance. The Maltese courts have always applied the principles in
English case law and have been guided by authoritative English authors.
The need for the implementation of this principle in insurance contracts was
to combat moral hazard and to distinguish insurance from gambling. In the past
few decades, the doctrine has been the subject of some considerable debate in other
jurisdictions. It is now recognized in the UK that the law relating to the doctrine
needs to be modernized and clarified since its introduction in the Marine Insurance
Act (1745) (The Law Commission and The Scottish Law Commission, 2015).
2.3 EU Harmonization
While the laws, which provide for the supervision of insurance players are wholly
harmonized within the EU, there appears to be a low probability of reaching harmonization within the EU concerning utmost good faith and insurable interest
under insurance contract legislation despite some significant efforts in this regard.
It has been recognized that the differences in the principles of utmost good faith
and insurable interest under contract law applicable in the different EU member
states are an impediment to the single market in the EU for insurance products.
Although desirable, the difficulties with harmonization are mainly attributable to the complexity of the different treatment of contractual arrangements
given by the different legal systems of the EU member states. The authors will
analyze the possibility of having the harmonization of legislation and regulations
applicable to all insurance principles of utmost good faith and insurable interest in the EU. With the implementation of the Insurance Distribution Directive,
considerable progress has been made to bring about a level of harmonization in
so far as insurance consumer protection measures are concerned. However, from
a Maltese perspective, this has not alleviated the need for a substantive insurance
contract legislation.
3. Methodology
In this study, the authors adopted a case study approach on insurance contracts
as suggested by Yin (2009) and carried out semi-structured interviews with 13
expert practitioners (Tracy, 2020). These interviews consisted of a formal set of
13 open-ended questions as noted in the Appendix (Opie, 2004).
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Literature was used to design the questions in the questionnaire, which related
to the principles under study. In this respect the authors used secondary sources,
specifically, Maltese and English case law, technical/legal reports and journals,
judgments, white papers, articles and scholar articles, industry policies, company
information, data and field expert reports. The volume of data, which is available
concerning the subject is very large and the data were selected based on relevance
to the Maltese market.
Legal and insurance practitioners unavoidably turn to case law as an important reference point when undertaking any research on any insurance law subject.
The authors have extensively referred to UK and Maltese case law throughout
the research. The authors, delved into Maltese case law until reaching saturation.
The respondents interviewed were selected on the basis of years of experience
and expert knowledge in the insurance sector (at least 25 years of experience) either
in an underwriting/claims handling role, as insurance brokers, lawyers specializing
in insurance or as regulators of the insurance sector (non-probability sampling).
The scope of having a mix of practitioners was intended to give a more balanced
response. In fact the authors included insurance brokers and regulators, who would,
in most situations, be looking at issues from the perspective of the policyholder.
The authors considered that with the number of interviews carried out for the
size of the insurance market in Malta, saturation was reached with 13 practitioners (Glaser & Strauss, 1967). Saturation is reached when the responses do not add
value to the existing primary data.
The responses of the interviews were each transcribed on a Ms Word© document and the results analyzed using the thematic analysis approach suggested by
Braun and Clarke (2006).
4. Analysis and Results
4.1 Utmost Good Faith
4.1.1 Malta’s Wholesale Adoption of the UK Principle. The principle of
utmost good faith is arguably the insurance doctrine which the Maltese courts
have wholly adopted from English judgments in innumerable cases decided especially as the local insurance market grew and became more sophisticated in the
last decades.
The first case in Malta in which it was declared that the contract of insurance was one of good faith was Degiorgio Charles noe v. Austin Agius et (1962).
Although the judgment did not contain any references to any UK case law, it is
very evident that it was very much influenced by UK judgments. The court stated
that not only does the proposer have to give clear answers to all questions asked
in the proposal form but he is also obliged to mention every fact which he would
reasonably consider to be relevant to the insurer to know and even if not asked.
The court, in this case, held that previous undisclosed traffic offences were
material facts but the insurer could not proceed to annul the contract since it had
become cognizant of these facts at an earlier stage before a claim was submitted
and did not take any action to annul the contract at that earlier stage.
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In Briffa Saviour v. Walter Camilleri noe (2001) the insured failed to disclose
a long string of previous motor accidents, losses and claims when completing a
proposal form for a new motor insurance policy. In this case, the claimant argued
that he was not asked the questions on the proposal form which was completed by
an employee of the Company from which the claimant had bought his car. It was
also established in this case that the proposal form in question was unsigned. The
court made ample reference to Carter v. Boehm and decided in favor of the insurers. When considering how the proposal form in question had been completed,
it stated that undoubtedly it is not a justification in the circumstances which are
being advanced by the plaintiff that he was not asked to provide information of
this nature or to the extent that the person who had completed the proposal form
had not asked him any questions at all.
In Grech Paul et v. Middlesea Insurance plc et (2014) the court of Appeal
overturned the court of first instance judgment. The court found in favor of the
claimant since he had not been in breach of his duty to disclose material facts
when failing to disclose a theft which had occurred more than five years previously. The court reached this conclusion on the basis that the insured had waived
the need to disclose the previous theft since the specific question on the proposal
form referred only to thefts which occurred in the previous five years.
In Teg Industries Limited v. Gasan Insurance Agency Limited (2012) the court
went into the merits of what distinguishes non-disclosure from misrepresentation. The plaintiff, in this case, had a very colorful insurance history with previous
claims, policies being canceled for non-payment of premium and various insurers
had also declined to insure it. When completing the proposal form in question,
the proposer gave some indication of its troubled insurance history but did not
give a complete picture and the court decided that this was a case of misrepresentation. The question which arises in such cases is whether the adjudicators would
be right to put the onus wholly on the proposer to disclose fully all facts deemed
material without expecting the insurer to probe further if the answers to the questions of the form did indicate an imperfect insurance history.
In Mizzi noe v. Middle Sea Insurance Co. Ltd. (2003) the court referred to “the
decisive influence test” which was referred to on the case Pan Atlantic Insurance
Co. Ltd. and Another v. Pine Top Insurance Co. Ltd. (1993). The defendant insurers, in this case, argued that the claimants had not provided correct information
at the inception of the policy when they had submitted method statements which
described the works which were the subject of the Contractors All Risks policy
in question.
In Sammut Salvatore v. Middlesea (2003) the court of Appeal overturned the
first court judgment which found in favor of the insured on the basis that the
insured had to disclose his claims history even if not properly asked. On this
point, the court followed the reasoning which was adopted in the Briffa Saviour
v. Walter Camilleri noe (2001) judgment. In this particular case, the insurance representative completing the proposal form on behalf of the insured paraphrased
the question on the proposal form in a manner which made the question less
onerous. The court of the first instance considered that the insurers had to prove
that there had been full disclosure the insurers would have decided not to accept
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the proposal. The court of Appeal decided that if there was non-disclosure, it is
irrelevant whether the insurer would have accepted the proposal or not.
In Scicluna Alfred noe. v. Citadel Insurance plc (2016) the insurer concerned
rejected a claim for a number of payphones instaled in different parts of the
island which were damaged due to lightning strikes and argued that the policy
in question was invalid since the proposer had not properly disclosed how the
insured equipment was protected against lightning strikes. The court, quoting
the judgment in Drake Insurance plc v. Provident Insurance plc (2004) held that
for the insurer to consider the policy as being void due to non-disclosure, they
need not only prove that there was a failure to disclose material facts but that the
insurer was induced to take out the policy due to such failure.
4.1.2 The Origins of the Law as it Stood Till Recently in the UK. The UK law
of insurance contracts was developed in the eighteenth and nineteenth centuries
in and for an insurance market, which was very different from what it has now
become today. The developments in the field of communication in the world as
we know it today have significantly altered how insurance business is conducted.
When the insurance policy, which became the subject of the case Carter v. Boehm
was issued in London in May 1760 the instructions of Roger Carter had been dispatched in Sumatra nine months previously. The information which was material
to the risk being insured, with the limited means of communication which were
then available, underwriters were significantly more vulnerable than they would
be today, and needed to be protected by the law (Clarke & Soyer, 2016).
The duty of disclosure as it was applied in the UK until the last decade was
very much based on the provisions of Section 18 of the Marine Insurance Act.
This section places an onerous duty on the policyholder to disclose to the insurer
every material circumstance which the policyholder knows or ought to know before
concluding a contract. Under Section 18(2), a material circumstance was defined
as every circumstance which would influence the judgment of a prudent insurer in
fixing the premium or determining whether he will take the risk.
Even in a world where information is much more freely available to an underwriter than it was in the time of Edward Lloyds coffee house, from where the first
policy was issued in December 1720, information about a particular risk is still
very much available to the proposer and not to the insurer. Therefore, there is still
ample justification in placing an obligation on the proposer to disclose information to an insurer which would be necessary to assess the risk being proposed.
However, times have changed since the origins of Lloyds and it was for this reason
that the need to revise the principle was felt in the UK and elsewhere where the
principle had been upheld for many years.
4.1.3 The Arguments for Reform Concerning the Duty of Utmost Good
Faith. The law as it stood in the UK was criticized mainly because the duty of
disclosure was difficult to understand and many policyholders, particularly the
individual buyers, were unable to judge what they know or ought to know and
which they had to disclose. A very strong argument which was also made by the
proponents of legal reform was that insurers were allowed to be passive at the
proposal stage without asking questions about issues which could be relevant and
material to them. This situation could have given rise to the situation in which
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the insurer would only effectively start the underwriting process after a claim is
lodged.
The only remedy given to insurers in the case of non-disclosure was the avoidance of the whole contract and this “all or nothing” approach to the validity of a
contract in this context was also quite justifiably considered as being very harsh
on the policyholder. The insured in such situations would not only have his claim
rejected but would in all probability also end up in the situation where it would
find difficulty in securing insurance cover in future especially in a small insurance
market, like the Maltese market, when disclosing the previous cancelation of his
insurance cover.
The need for reform in the UK law as it stood on the principle of utmost good
faith was evidenced in the case Lambert v. Co-operative Insurance Society Ltd
(1975).
The question in every case is whether the fact not disclosed was
material to the risk, and not whether the assured, whether reasonably or otherwise, believed or understood it to be so.
Mrs Lambert completed a proposal form for All Risks cover in which she
failed to disclose that her husband had been previously been convicted of having
received stolen property. The questions on the proposal form which was completed did not include one which required disclosure of convictions. Mrs Lambert
also failed to disclose, at the renewal of the same policy, two other offences which
her husband was subsequently convicted of. The insurers refused to pay a claim
following the theft. This case served as a very good example of how unfair the law
as it stood in the UK prior to the reforms in that the proposer in this case could
have been wholly justified in thinking that there was no need to disclose her husband’s convictions once there was not a specific question in the proposal form.
The foundation of the insured’s duty of disclosure lay in an insistence that the
insurer must be given a fair opportunity to assess the risk and a recognition of
the fact that he was unlikely to have that opportunity unless the insured disclosed
all material circumstances of which he was aware at the time the contract was
made. Brotherton v. Aseguradora Colseguros SA (2003) EWCA Civ 705 was a
judgment in which it was considered that the non-disclosure of reports of allegations against a Bank’s President (which were later almost all found not to have
been justified) was material even though it resulted that they were unfounded.
Allegations, which were in circulation at the proposal stage, did not cease to be
material if they were subsequently found to have been false.
The reform which has been carried out in the law on the principle of utmost
good faith followed the work done by the English and Scottish Law Reform
Commission. The Commission published two reports in 2009 which was entitled
“Consumer Insurance Law: Pre-Contract Disclosure and Misrepresentation”
and the other one was published in 2014 was entitled “Insurance principles of
utmost good faith and insurable interest under contract law: Business Disclosure;
Warranties; Insurers’ Remedies for Fraudulent Claims; and Late Payment.” The
first report led to the enactment of the Consumer Insurance (Disclosure and
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Representations) Act (2012) and the second report led to the enactment of the
Insurance Act (2015).
4.1.4 The Consumer Insurance (Disclosure and Representations) Act (2012). The
Consumer Insurance (Disclosure & Representations) Act (2012) has abolished
the duty of disclosure for consumer insurance contracts and the insured now
has a duty not to make misrepresentations. Consumers in the UK now have
no obligation to voluntarily disclose material facts but to answer the questions,
which are asked generally on a proposal form by an insurer. The consumer
now has a duty to answer the questions asked with reasonable care (s 2.2). The
“prudent insurer” test which was applied in the past has now been replaced with
the reasonable or prudent insured test. The UK has effectively followed the line,
which was adopted in Australia with the enactment of its Insurance Contracts
Act (1984).
The focus is now on the insurer in question and not on some hypothetical
insurer. The answers, which are expected from the consumer, are those, which
are now expected from a reasonable consumer. The same law has provided different remedies in case of a breach of duty. If the insured’s answer is careless, the
insurer cannot avoid the contract ab initio unless it would not have entered into
the contract had the disclosure been made appropriately (Schedule 1, Article 5).
The insurer would in such situations have to pay a proportion of the claim under
the reduced proportionality principle in Schedule 1 Articles 7 and 8 of Consumer
Insurance (Disclosure and Representations) Act (2012).
If a consumer failed to answer the question correctly in line with what would
have been disclosed by the reasonable consumer, then if the consumer’s answer
was inaccurate, they would have a proportionate remedy against the insurer based
on the formula under Schedule 1 Article 8.
In the complaint decided by the Financial Ombudsman Service on the September 10, 2019 (DRN1382387), the Arbiter held that the insurer was not entitled
to consider the insurance policy as null since the insurer would have still provided
the cover. The Ombudsman held that the insured had made a careless representation. In line with the relative provisions of Consumer Insurance (Disclosure
and Representations) Act (2012), had the insured not made the representation he
would have been requested to pay a premium which would have been 13% more
than that which he was charged and the Ombudsman decided that 87% of the
claim should be paid.
4.1.5 The Insurance Act 2015. The Insurance Act (2015) was the first
comprehensive insurance legislation enacted in the UK, which applies to nonconsumers for over a century.
The Insurance Act (2015), section 21(2), repealed sections18–20 of the Marine
Insurance Act (1906), and replaced the duty of utmost good faith as a precontractual duty of the proposer with the concept of “fair presentation.”
Section 7(3) of the Insurance Act (2015) states that a circumstance or representation is material if it would influence the judgment of a prudent insurer in
determining whether to take the risk and, if so, on what terms. The proposer
need not disclose all facts but needs to disclose all facts, which are material to the
prudent insurer. It is a very pertinent question.
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The principle of utmost good faith is manifested through the duty of disclosure and the duty not to misrepresent.
4.1.6 Utmost Good Faith and Fraudulent Claims. In English Law, the duty not
to make fraudulent claims was considered as a natural consequence of the duty
of utmost good faith but following the enactment of the Insurance Act (2015),
it can now be considered as an independent duty. Section 12 of the Insurance
Act allows the insurer the right to treat the contract as having been terminated
after the submission of a fraudulent claim and the insurer may without treating
the contract as terminated, may refuse all liability in respect of an event, which
occurs after the filing of a fraudulent claim.
Should avoidance of the contract by the remedy in all cases of breach of the
duty of utmost good faith? Although the duty is reciprocal, in the case of a breach
by the insurer avoidance by the insured would probably be of very little value to
the insured since such issues are likely to crop up at the time of a claim and the
insured’s priority in such cases would be that of getting the claim paid.
4.1.7 The Duty on the Insurer. The reciprocal duty on the insurer has been
considered to take various forms. It is also the practice in the local market for
insurers to settle claims in one lump payment, but an insurer must not deny coverage
or delay payment to take advantage of the insured’s economic vulnerability or to
gain bargaining leverage in negotiating a settlement. A decision by an insurer to
refuse payment should be based on a reasonable interpretation of its obligations
under the policy. However, an insurer is not expected to necessarily be correct in
deciding to dispute its obligation to pay a claim. The mere denial of a claim that
ultimately succeeds is not an act of bad faith (Merkin & Gurses, 2015).
There have been very few cases in the courts in Malta in which the judgments
referred to the duty of good faith on the insurer. The case Bajada Carmel et al.
v. Middle Sea Insurance Company Limited (2001) was one of those exceptions.
The court held that the duty of utmost good faith was to be shown by the insurer
in the handling of claims. The court believed that the insurer wanted to give a
restrictive interpretation of the meaning of the term “flood” when the claimant
had sustained damage to a wall due to heavy rain. An insurer acting in good faith,
the adjudicator argued, would need to be certain that the proposer to an insurance policy would have a good understanding of the meaning of certain policy
terms in line with how a Maltese person would understand such terms and not
how someone in a different country would understand such terms.
The situation, therefore, before the recent legislative changes in the UK
required the proposer to know what the insurer would have wanted him to disclose and when it came to the point of deciding whether the insured was in breach
of his duty to disclose material facts the judgment delivered would now be considered to have been quite harsh on the proposer.
The Maltese courts have repeated in various judgments the notion that the
duty of good faith is imposed on the insurer apart from the insured, but in reality, there are no provisions in the law which imposes such a duty on insurance.
Interestingly, the Insurance Distribution Directive now imposes on insurance
distributors the need to be fair and honest in their dealings and act in the best
interest of their customers (Article 17(1) of the Insurance Distribution Directive).
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4.1.8 Fair Presentation. The intention behind the concept of fair presentation
is to avoid the situation where the proposer would be data dumping (providing
all information to the insurer regardless of materiality).
The Insurance Act (2015) introduced the duty of fair presentation and proportionate remedies are allowed based on the degree of misrepresentation or
non-disclosure.
Under the Insurance Act (2015), failure to make a fair presentation will give
rise to a qualifying breach. Such a breach is one which in the absence of such a
breach leads to the insurer to decline the risk or accept it at different terms.
If the qualifying breach is deliberate or reckless the insurer may avoid the contract, retain the premium, and repudiate a claim. If the breach is not deliberate
or reckless and the insurer would, in such a case, not have written the risk, the
contract may be avoided, and the premium returned. In cases of a non-deliberate
or reckless breach where the insurer would have charged a higher premium, any
claim would be reduced proportionately. If new terms would have been imposed
had there not been a qualifying breach, which was not deliberate, or reckless the
contract would be subject to such terms.
To attain the desired reform results, legislators should look at the experience
of the reforms, which have been adopted in various jurisdictions. The UK is just
one such example where the reforms are still quite fresh and have yet to be fully
assessed over time.
The Insurance Act (2015), section 21(2), repealed Sections 18–20 of the Marine
Insurance Act (1906), and dispensed with utmost good faith as a pre-contractual
duty of the proposer and replaced it with the concept of “fair presentation.”
Section 7(3) of the Insurance Act (2015) states:
A circumstance or representation is material if it would influence
the judgement of a prudent insurer in determining whether to take
the risk and, if so, on what terms.
The proposer need not disclose all facts but needs to disclose all facts which
are material to the prudent insurer. It is a very pertinent question.
Young v. Royal Sun Alliance plc (2019) is the first case decided on the duty of
fair presentation under the Insurance Act (2015). The risk in question was placed
by a broker using Royal Sun Alliance’s (RSA’s) software in which there was a
question with a drop-down menu with one option asking whether any director or
partner was ever made bankrupt, insolvent or subjected to such proceedings. The
box was left unticked. Young, who was the controller of the insured entity had
been involved in four companies which had been dissolved after insolvent liquidation or had been placed into insolvent liquidation in the previous five years.
Section 3(5) of the Insurance Act (2015) provides that there was no obligation
to disclose facts if it was something which the insurer waives information. The
court stated that
The test to be applied in construing an insurers question was to
ask: would a reasonable person reading the proposal from be
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55
justified in thinking that the insurer had restricted its rights to
receive all material information and consented to the omission of
the particular information not disclosed?
It considered that this was not the case concerning the facts of this particular
situation.
4.1.9 The Findings from the Interviews. The interviewees were all of the opinion that following the reforms in the UK, the application of the doctrine in Malta
needs to be completely reviewed.
There was a common opinion expressed by the respondents that although the
interpretation of the doctrine in Malta was very much in line with the position
in the UK as it was before the recent reforms, insurers in Malta in most cases
would only throw claims out based on non-disclosure when they are confronted
with cases of very blatant non-disclose which prejudiced the insured’s position
or in the case of fraudulent or suspicious claims. It is very difficult for an insurer
to throw a claim out based on fraud and insurers would in such cases resort to
annulling the contract based on non-disclosure to achieve the same result of not
paying a claim which they would believe to be fraudulent. There are no statistics
available in the local insurance market on the number of claims, which are
repudiated by insurers based on non-disclosure or misrepresentation. Judging
by the number of cases, which are decided by the Maltese courts, one could
quite safely assume that the number of such cases is not very high. Although the
claims which are refuted by insurers locally on the grounds of non-disclosure are
few, there is still a need for a review of the law since practitioners need to have
a point of reference on this important subject which they currently do not have
at the moment.
While the principle applies to both insureds and insurers, the interviewees
believed that it is almost always the insurer that invokes this principle and never
would this be invoked by the policyholder. The principle is invoked by the insurers
to avoid payment under the policy based on failure by the insured to disclose a
material fact. In the view of one of the respondents, Maltese courts have taken
this position since they support the view that Maltese substantive law is generally
more favorable to insurers. As to whether a contract should be annulled completely
in the case of non-disclosure, based on substantive law principles a contract may
be annulled if there is non-disclosure on the basis that the consent of a party to a
contract should not be vitiated. Maltese jurisprudence is based on this principle.
The same respondent favors an approach which is more equitable to the insured
and therefore insurers are given more proportionate remedies, especially in cases
where it is clear that there was no intention to defraud insurers.
One of the respondents believed that if there is a case of innocent nondisclosure of material facts, the contract cannot be considered null and void if the
said non-disclosure did not significantly result in a claim with a higher quantum
than what would have otherwise been the case.
A significant number of the respondents expressed the view that what needs to
be most addressed are the situations in which insurers should not be allowed to
refuse claims for non-disclosure of facts, which were not the subject of a question
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in the proposal form. Not all proposers, especially individual buyers of insurance, can be expected to know what the insurer would consider as material without including a question in the proposal form.
The respondents were all of the opinion that a priority, which needs to be
addressed, is the unfair situation of having the courts allowing the disproportionate outcome of the non-payment of a claim as a result of the non-disclosure of
a fact of minor importance which could have possibly minimally altered the risk.
The respondents all favor some sort of proportionate remedy instead of the “all
or nothing” scenario where a claim is either accepted in full if there is no breach
in the duty of utmost good faith or else the claim is thrown out in its entirety if
there is a breach of duty.
An interesting point, which was raised, by one of the respondents was whether
there should be any other remedies (other than policy reinstatement) provided in
the case of the unjustified cancelation of an insurance policy due to an alleged
breach of the duty of disclosure. Would it be a sufficient remedy to simply reinstate the policy and pay the claim in such cases? The cancelation of an insurance
policy by one insurer constitutes a material fact in itself, which needs to be disclosed to other insurers at any proposal stage for a number of years. Other insurers are very likely to perceive the cancelation of an insurance policy by another
insurer due to the non-disclosure very negatively in the proposer’s regard. Anyone seeking insurance cover in such a situation, especially in a small market like
Malta, would most likely find it extremely difficult to find another insurer, which
would be willing to take on the risk.
To redress the hardship, which can be caused by an unjustified position taken
by an insurer with regard to the duty of disclosure, certain jurisdictions have
adopted the notion of making compensatory payments in such situations. In Ireland, the Irish Financial Services and Pensions Ombudsman award such sums to
policyholders who would have been harshly treated by their insurers. In a decision
of the Irish Financial Services and Pensions Ombudsman (Ref 2019-0011) upheld
the complaint since it considered that the policyholder had made a genuine effort
in disclosing material facts concerning his home policy. The Ombudsman felt that
the insurer had acted unreasonably and considered that the cancelation in such
a case was a very blunt and harsh instrument and awarded the sum of €7,500 as
a compensatory payment. In another case, the Irish Financial Services and Pensions Ombudsman (Ref 2019-0076) awarded €8,000 as compensatory payment in
a similar situation where the complaint was in respect of the non-payment of a
claim and the cancelation of a Holiday Home insurance policy.
Another interesting point, which was raised in the discussion with the interviewees, was how, in the future, the duty of disclosure would need to be further revised in an age of smart devices where the underwriter can continue to
assess the risk during the currency of the policy. The respondents were generally
of the opinion that as the information balance could continue to shift toward
the insurer, the reliance on the proposer to disclose material information would
diminish further. The insurers would in such a scenario be expected to take a
more proactive approach in underwriting and the duty of disclosure would have
to be further reviewed.
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4.2 Insurable Interest
4.2.1 Introduction. The principle of insurable interest as we know it in Malta
originated in the English common law relating to wagering agreements and the
Maltese courts have adopted the principle as applied by the English courts in its
entirety. However, the principle has come under review by the English courts
in recent years and is also being reviewed by the English and Scottish Law
Commissions.
4.2.2 English Law. The English law of insurable interest is a complex mixture
of common law and statute and the subject is more complex because the doctrine
differs considerably depending on the type of insurance policy. The English and
the Scottish Law Commissions, which have proposed the insurance contract law
reform in the past decade, are working on reform of the law of insurable interest.
As far back as 1745, the UK Parliament saw the need to require an insurable
interest in taking out marine insurance policies with the enactment of the first
Marine Insurance Act and with the enactment of the 1774 Life Assurance Act,
the requirement was extended to life insurance. There is no specific legislation in
the UK that requires an insurable interest in any other form of insurance.
Apart from statute laws, the courts in the UK have been very influential in
formulating the principle of insurable interest. The definition of insurable interest
in the UK law is somewhat uncertain but the one which has been considered as a
classic of the principle for many years was set out in 1806 in Lucena v. Craufurd:
A right in the property, or a right derivable out of some contract
about the property, which in either case may be lost upon some
contingency affecting the possession or enjoyment of the party.
Even in marine insurance, insurable interest is a fluid concept, which is difficult
to pin down precisely (Law Commission and Scottish Law Commission, 2015).
Macuara v. Northern Assurance (1925) has for many years been arguably the
most quoted case on the subject in the UK. In that case, the claimant had insured
timber which he then later sold to an entity of which he was the major shareholder and the court held that the since the insured was not the owner, he held no
insurable interest in the property in question.
In the case Western Trading Ltd. v. Great Lakes Reinsurance (UK) plc (2015)
the court rejected the insurers’ defence of a lack of insurable interest because the
business which had suffered a fire loss had claimed under a policy which was
procured in the name of one company forming part of the same family business
instead of another. The judge based his reasoning when reaching this conclusion,
that there was no advantage to be gained by the business in question in placing
the insurance cover in the manner in which it did. The judge also assessed that
the proposer was not alerted in the proposal form or correspondence with the
insurers to the importance of the issue of insurable interest in such cases and this
appears to have also been taken into consideration in delivering judgment.
4.2.3 Other Jurisdictions. In Australia, a jurisdiction which was one of the
pioneers of insurance reform, held that a policyholder could only recover under
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an indemnity insurance if they had a legal or equitable interest in the subject
matter of the insurance contract at the time of loss. This was the position of
the Insurance Act of 1984 which recognized the interest of the policyholder in
the subject matter even if it does not amount to a legal or equitable interest
Pynt, 2018).
Section 16 of the Insurance Act 1984 provides that:
a contract of general insurance is not void by reason only that the
insured did not have, at the time when the contract was entered
into, an interest in the subject-matter of the contract.
Furthermore, Section 17 provides that the insurer is not relieved of liability by
reason only that, at the time of the loss, the insured did not have an interest at law
or in equity in the insured property. Under policies of life, sickness or accident,
the insured need not have, at the time when the contract was entered into, an
interest in the subject matter of the contract by virtue of being benefit policies.
In Ireland, the Consumer Insurance Contracts Act (2019) amended the situation with regard to insurable interest significantly. The Act applies to individual
buyers of insurance as well as small businesses with a turnover of less than €3
million in annual turnover. The Act provides that a claim by a consumer shall not
be rejected by the insurer by reason only that the consumer does not have, or did
not have at the time when the contract was entered into, an interest in the subject
matter of the contract. In cases of contracts of indemnity where the insured is
expected to have an interest in the subject matter of the contract, the interest
required
shall not extend beyond a factual expectation either of an economic benefit from the preservation of the subject matter or of an
economic loss on its destruction, damage or loss that would arise
in the ordinary course of events.
In New Zealand, the Insurance Law Reform Act (1985) abolished the need for
insurable interest in life assurance.
4.2.4 The Application of the Principle in Malta. There are no specific provisions in Maltese law in respect of an insurable interest in the context of the
non-life insurance business. However, since the practice in the Maltese insurance
market has always been strongly influenced by British insurance law and practice, insurance practitioners always expect policyholders to have insurable interest when taking out an insurance policy. Insurers in Malta have historically, not
raised the defence of a lack of insurable interest very often before the courts. However, when the courts had to adjudicate such cases, they have always applied the
same insurable interest requirements as those which have been accepted in the UK.
In the case Borg Alfio v. Fogg Insurance Agencies Limited (2012) the court said
that insurable interest is a significant element in the validity of every insurance
policy. Another case in which clearly confirmed the adoption of the principle
of insurable interest in the Maltese insurance market from English law is Dott
A Study of Insurance Contracts
59
Joseph Zammit McKeon Joseph v. Laferla et (2016) in which the court stated the
insured has to have an insurable interest in the damaged goods since the insurance policy is intended to make good for the loss by the insured’s wealth and not
to be burdened with the loss which is covered by the policy.
In Borg Alfio v. Fogg Insurance Agencies Limited (2012) the insurer chose to
raise the plea that the plaintiff had no judicial interest in filing the suit because he
was not the owner of the damaged vehicle at the time of the loss but did not raise
the plea that the insured had no insurable interest for the same reason. It is interesting to note that the court, nevertheless, made the point that for a successful
defence, the insurers should, in this case, have argued and proved that the insured
did not have an insurable interest at the time of loss. The court in its judgment, in
fact, stated that with insurance policies of indemnity such interest would generally need to be shown to exist at the inception of the contract but must necessarily
be shown at the time of the loss or when the insured event occurs.
In the case Elmo Insurance Services noe. v. Edwin Pace et (2016) the court of
Appeal confirmed the decision of the court of first instance which rejected Elmo’s
claim for the recovery by way of subrogation of expenses paid to its insured who,
it resulted from the proceedings, was not the owner of the damaged vehicle. The
owner of the vehicle in question was a commercial entity in which Elmo’s insured
was a shareholder and the court held that since the insured was not the owner, he
had no insurable interest in the damaged vehicle and Elmo was therefore not contractually bound to indemnify him for the damage sustained and could therefore
not be subrogated for the recovery of such damages. This reasoning is wholly in
line with the UK case Macuara v. Northern Assurance (1925).
In Western Trading Ltd. v. Great Lakes Reinsurance (UK) plc (2015), the courts
have applied a greater level of flexibility than that which was historically applied
when considering what constitutes insurable interest. The courts have focused on
whether the insured would stand to gain by the preservation of the subject matter
or whether he will suffer an economic loss in the event of its loss. This judgment
is therefore in clear contrast to the older judgments and it would be interesting to
see if when delivering a future judgment on a case in which a defence of lack of
insurable interest is raised a Maltese court would apply the principle in a manner
which would be more in line with this or the older judgments.
In the case of indemnity policies, the strict application of the principle
of indemnity which should see that the insured does not recover any amount
which would not have been lost, should serve to diminish the importance of the
principle of utmost good faith. On the other hand, the principle of insurable
interest becomes much more important in the case of non-indemnity policies, like
life policies, since in the case of a claim there is no safeguard to ensure that the
policyholder would not be benefiting from the unfortunate event.
4.2.5 Life and Other Non-indemnity Insurance. With the huge growth of life
assurance in Malta in the last two decades following the development of the bancassurance model, ad hoc legislation was introduced in the Civil Code to regulate
insurable interest concerning life policies in Malta. Act XI of 2005 introduced
a new title to the Civil Code (CAP 16 of the Laws of Malta) which specifically
addressed the need for insurable interest in life assurance in Malta.
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Section 1712A (2) specifically lays down what would be considered as a lawful
insurable interest starting with the insured having an insurable interest in his own
life and in the life of his spouse. This legislative intervention was deemed as being
very necessary and very positive by the respected Dr Max Ganado (2005) in an
article which appeared in the Times of Malta in July just after the law had been
enacted. He wrote:
In my view, the impact will be very positive, if only because it will
avoid uncertainties, it creates options for individuals and establishes rules on how to implement certain intentions.
A parent or a guardian of a minor person has an insurable interest in the
life of that person. The basis on which the legislator has accepted that a parent
should have an insurable interest in the life of his son or daughter is unclear and
would probably be difficult to justify other than in those situations where the
father would expect to be maintained by his son or daughter.
The law deems that a person who is likely to suffer financial loss as a result of
the death of some other person has an insurable interest in the life of that other
person and the law also accepts that a person will have an insurable interest in
the life or a person on whom he depends for maintenance and support. The obvious situation here would arise in the creditor having an interest in the life of his
debtor.
The law also provides for insurable interest in the corporate context in which
the life insurance sector in Malta has grown significantly in recent years. A body
corporate has an insurable interest in the life of an officer, shareholder or employee
and a partnership has an insurable interest in the life of a partner or employee of
the partnership. An employer has an insurable interest in the life of his employee
and interestingly, the law also provides that an employee has an insurable interest in the life of his employer. Whereas the interest of the employer in the life of
its employees can be quite easily be understood and justified, the same cannot
be said for the interest which employees have in the life of their employer. In a
society in which most employers are corporate entities and not human persons, it
is very difficult to justify such an interest.
The law also provides that except in the case of those persons who are likely to
suffer a financial loss as a result of the death of some other person, it shall not be
necessary for the policyholder to prove that he has suffered a financial loss or that
the loss suffered bears any relationship to the sum insured.
4.2.6 Interview Responses. From the interviews which have been carried out,
it would appear that almost all the interviewees (81%) do not see much need for a
revision of the law in relation to the principle of insurable interest.
The most common response received was on the lines that the principle of
insurable interest should not be abolished as it provides important checks and
balances against the misuse of insurance for purposes other than the protection
of the policyholder. From the reactions of the interviewees, it appears that a
policy with no insurable interest is tantamount to a form of gambling. During
the discussions held with the interviews it was evident that practitioners are not
A Study of Insurance Contracts
61
comfortable to rely solely on the application of the indemnity principle to ensure
that in the absence of insurable interest, the contract of insurance will not become
one of purely speculative nature.
Most respondents believed that the principle of insurable interest serves useful
functions concerning both the contractual and the regulatory aspects of insurance law. One of the respondents believed that there are certainly good reasons
for its review in some situations (as in the case of insurable interest in investment
type of life policies where the insurance risk is minimal) but the same interviewee
expressed the opinion that the consequences of total abolition of insurance interest may have serious consequences for both the insurance market and the consumer of insurance products. Its abolition may also render insurance contracts
being utilized for financial crime purposes.
Some respondents expressed the opinion that the provisions dealing with
insurable interest for life assurance contracts as set out in the Maltese Civil Code
may need to be reviewed to ensure that they are reflecting current contractual and
regulatory requirements.
4.3 EU Harmonization
There is little doubt that the diversity of the law of insurance contracts in the
various EU states hinders the expansion of the internal market for insurance
products. It is for this reason that the convergence of the insurance principles of
utmost good faith and insurable interest under contract law on an EU basis has
been considered as desirable.
The first move toward EU harmonization can be traced back to when the
European Commission submitted to the Council in 1979 a proposal for the coordination of laws, regulations and administrative provisions relating to insurance
contracts and after revision, an amended version in 1980. This proposal contained
rudimentary regulation of insurance mainly in favor of the policyholder. However, this proposal was never adopted and was finally withdrawn by the European
Commission on August 24, 1993 through the withdrawal of certain proposals and
drafts from the Commission to the Council.
In January 2013, the Commission set up an Expert Group on European Insurance Contract Law which was given the task to study the discrepancies between
national contract law and to identify the products and areas most affected by
such obstacles. The Expert Group published its report a year later, noting several
differences between various national laws across Europe. Although EU harmonization of insurance principles of utmost good faith and insurable interest under
contract law can bring about wider business opportunities for insurers and policyholders (Basedow, 2015), the project was not further pursued, and one wonders
whether the goal of harmonization will ever be reached.
4.3.1 Interview Responses. There were 63% of the interviewees who expressed
the opinion that achieving harmonization at a European level would be ideal
since the lack of harmonization of insurance principles of utmost good faith and
insurable interest under contract law represents an obstacle to the functioning of
the internal insurance market in the EU. This is especially important for Malta
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Ramon Mizzi et al.
given the amount of business written by companies set up as captives or through
protected cell structures in Malta to underwrite business in various other member
states.
Differences in national practices especially the application of insurance principles, may restrict the freedom of the insurer to provide its services across the
border.
Although there has been an attempt at a European level to harmonize some
practices, it was the opinion of a number of respondents that there is still a long
way to go and harmonization at a European level of insurance principles of
utmost good faith and insurable interest under contract law while possibly being
the ideal situation rather than the current position of having individual initiatives
by jurisdictions.
Other respondents believed that harmonization would still create considerable difficulties with the application of the principles of insurance because of the
peculiarities of the various jurisdictions.
Most respondents believe that it is very difficult to find the necessary impetus
in Malta to bring about a complete overhaul and implement a comprehensive
legal framework concerning insurance contracts. One possible approach could be
that of tackling the necessary review in parts starting with the subjects on which
a more significant need of attention is called for, such as the principle of utmost
good faith, which would be given priority.
5. Conclusion
Contracts of insurance are designed to provide peace of mind and security to the
insured parties forming part of the contract. If the highly respected Professor Merkin was correct in describing the law of insurable interest in the UK as an “illogical
mess” and if other aspects of UK insurance principles of utmost good faith and
insurable interest under contract law were, before the legislative amendments of
the last decade, similarly not the most logical and orderly, the need for an appropriate set of laws and regulations for the Maltese market is now well overdue.
The contract of insurance, as we know it today, is likely to change in the
future with the introduction of smart technologies and artificial intelligence in
the sector. Although these developments may take some time to gain ground in
a market like ours, we have already witnessed the first cases of innovations in
this respect. The motor policy launched in the local market by a leading local
insurer a few years ago which uses a tracking device to monitor the driving habits of young policyholders has been quite successful. We should expect to see
more such products being launched in the market. The implementation of these
technological advancements concerning insurance contracts could undoubtedly
further highlight the need for an update in the Maltese regulatory and legislative
regime for insurance contracts particularly the way a risk is assessed and information obtained for the provision of cover.
Although we have witnessed significant growth in the local insurance market
in the last decades, the Maltese market is, and will always, be a small market with
very limited resources. We therefore must accept that the challenge to allocate the
A Study of Insurance Contracts
63
necessary resources to undertake a complex reform in a reasonable timeframe is
a very significant one. However, we really must catch up with the reforms, which
other, more sophisticated and larger, markets have undertaken. Such an initiative, if well undertaken, would not only be of benefit to local policyholders and
insurers, but will also serve to strengthen Malta’s position in the international
insurance market attracting more foreign players to the Maltese shores.
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Appendix: Questionnaire
1.
In view of the recent legislative developments in the UK, do you think that
we now need to have a law which regulates insurance contracts in Malta or
could harmonization of contract law at the EU level be a good solution for
Malta?
2. Is it time to revisit the position adopted by our courts on utmost good faith?
Should our courts continue to favor insurers position in defending claims?
Should a contract be annuled completely in the case of non-disclosure or
should the insurers be given more proportionate remedies?
3. Should the Maltese legislator distinguish between private consumers and
business entities in the law applicable to insurance contracts?
4. Do you think that practitioners in the field should have a clear idea of how
the Maltese courts would interpret the law in cases in relation to insurance?
5. Was the introduction of the arbiter for financial services having judicial
powers while deciding on the basis of the principles of equity a step in the
right direction?
6. Should insurers be bound by law to compensate claimants in the case of late
payment of claims?
7. Should we do away with basis clauses with which insurers can convert
declarations made by the insured at proposal stage into warranties?
8. Insurers very frequently include warranties in their insurance policies. Should
Maltese law regulate the significance of warranties in insurance contracts?
9. Is it time to abolish the principle of insurable interest for life and or for nonlife insurance?
10. Is the introduction of the use of Insurance Product Information Document’s
going to help consumers to better understand insurance contracts?
11. Should third parties be given rights of action under liability insurance
policies like Professional Indemnity?
12. Should there be a time limit for the issuing of a contract to a policyholder in
the spirit of contract certainty?
13. Should there be specific legislative provisions for certain types of insurance
contracts which would restrict how insurers can impose restrictions or
exclusions in cover after policy inception or how an insurer can choose not
to continue to insure a particular policyholder for example as in health Topps
case?
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Chapter 4
Consumer Behavior in the New Economic
Reality. Approaches to Personalized
Medicine: From Paradigms to Challenges
Artiom Jucov, Liliana Staver and Larisa Mistrean
Abstract
Introduction: Lately, various tendencies to approach personalized medicine
(PM) have developed. However, their result is a mutual application of
technology without considering the essence of this field. The comprehensive
approach to the concept of PM reveals some aspects that need to be dealt
with for a successful implementation.
Aim: Identifying possible ways of implementing PM through personcentered care, with an overall positive economic impact, improved medical
services, and customer satisfaction.
Methods: The research carried out represents a retrospective descriptive
cross-sectional study. Qualitative and quantitative methods were used.
Findings: PM plays an increasingly important role in the political agenda
of different countries, to approve an effective method of prevention,
diagnosis, and treatment of various diseases. The postponement of its
implementation by the authorities and the lack of public policies lead to
the unjustified expenditure of public money and contribute to halting the
development of the medical system through managerial inefficiency.
The originality of the study: Different approaches to PM and its implementations are analyzed in the context of the challenges of the contemporary
economy.
Implications: The research is carried out in the Academy of Economic
Studies of Moldova within the state research programs.
Insurance and Risk Management for Disruptions in Social, Economic and Environmental
Systems: Decision and Control Allocations within New Domains of Risk, 67–80
Copyright © 2022 by Emerald Publishing Limited
All rights of reproduction in any form reserved
doi:10.1108/978-1-80117-139-720211004
68
Artiom Jucov et al.
Keywords: Personalized medicine; economic impact; patient-centered care;
transdisciplinary research; Moldova; consumer behavior
Introduction
The sustainability of the health systems worldwide is at risk due to the rising
healthcare costs (OECD, 2015; World Health Organization, 2008). The World
Health Organization (WHO) has estimated that 20–40% of health expenditure is
wasted due to inefficient use of healthcare assistance (World Health Organization,
2010). Therefore, to effectively address the current global challenges, the WHO
recommends that all countries focus on strengthening their primary healthcare
systems. Due to lower costs and equitable distribution of resources, the countries
with a strong primary healthcare system have reached higher levels of population
health, healthcare quality, and customer satisfaction, compared to the countries
with specialized health care (Yongjung et al., 2020).
In the last decade, health care has undergone a major shift in focus from a
medical model that approached the medical conditions based on a “one-for-all”
manner, to a health and well-being model that puts a particular emphasis on
education, planning, prevention, and personalized care. The current description
of personalized medicine (PM) provided by the National Institutes of Health
is “the science of individualised treatment, prevention and therapy” (Cornetta,
Joe, & Brown et al., 2014). Although the researchers’ enthusiasm seems to be
well-founded, the public’s expectations are not based solely on technological
advancements. Furthermore, they seek personalized consultations: an approach
that considers the physical, mental, and spiritual well-being of the individual.
The concept of PM promises improved quality of life, increased quality of
clinical practices, and targeted medical care, as well as lower overall healthcare
costs, due to prevention measures, early detection, accurate risk assessments, and
efficiency in healthcare delivery. Current efficiencies are widely regarded as sufficient to have a significant impact on the economies of the leading countries,
such as the USA and China, and can, therefore, influence the world economy
(Sairamesh & Rossbach, 2013).
Aim
Comparative evaluation of approaches, methods of study, application in the context of modern economics, and identifying possible ways of implementing PM
through person-centered care (PCC), with an overall positive economic impact,
improved medical services, and customer satisfaction.
Method
The research carried out represents a retrospective descriptive cross-sectional
study. Qualitative and quantitative methods were used – among them, the
Consumer Behavior in the New Economic Reality
69
historical, descriptive, benchmarking, modeling, and of course economic evaluation and prognosis methods.
The Potential of the PM
Today, PM is regarded as the key concept in transdisciplinary research, promising to revolutionize patient care. For many doctors, this revolution will take the
form of improved disease prediction, prevention, diagnosis, and treatment (Chan
& Ginsburg, 2011). In general terms, PM is an attempt to bring together the individual’s clinical history, family history, genetic makeup, and environmental risk
factors to individualize disease prevention or treatment.
Moreover, PM refers to a medical model which makes use of a person’s phenotype and genotype descriptions to adapt the therapeutic strategies based on individual needs, allowing for an assessment of his/her disease susceptibility as well
as the timely and targeted prevention. The genomic and non-genomic biomarkers
help identify the patients most likely to respond to therapy and those most likely
to experience adverse reactions to medication.
The need to keep up the high quality of life is one of the main issues of modern health care. The concept of the “right medication for the right patient at the
right time,” which at first bore the title of “personalized,” is now unanimously
approved by the international scientific community as “precision medicine.”
PM aims at genomic and clinical data integration to improve individual patient
care by identifying more effective treatment strategies (Hamburg & Collins, 2010).
Fig. 1 shows the dynamics of the publications over two decades.
Precision medicine considers all the individual characteristics, such as genes
diversity, living environment, lifestyle, and even microflora. It also involves the
use of the latest technological advancements and discoveries to provide the
number of publication in PubMed
450000
400000
350000
300000
computational biology
250000
genomics
200000
bioinformatics
150000
systems biology
translational research
100000
personalized medicine
50000
0
Fig. 1.
-1990 1995
2000
2005
year
2010
2015
2020
PubMed Publications on PM (Adapted from Emmert-Streib, 2013).
70
Artiom Jucov et al.
best care to each patient or state. In the United States, Canada, and France, the
National Precision Medicine Programs have already been presented and implemented (Raskina et al., 2017).
Some researchers argue that PM is an approach to health care with the individual at its core, allowing the use of tailored strategies for disease prevention,
diagnosis, and treatment. Others argue that it has the potential to widen inequalities. WHO experts and representatives have been debating whether this approach
could fit into the WHO recommendations for more people-centered healthcare
systems, which are at the heart of the Health 2020 – European Policy Framework.
Most medical treatments were designed for the “ordinary patient.” These
“single approach” treatments can lead to great responses and recoveries in some
patients and little to no results in others. This pattern started to change with the
advent of precision medicine, that is, an innovative approach to disease prevention and treatment, which considers individual genetic, lifestyle, and environmental variations. Precision medicine provides the clinicians with the tools to better
understand the complex mechanisms underlying a patient’s health, disease, or
condition, and to better predict which treatments will be most effective.
The potential of precision drugs, in improving health care and accelerating
the development of new treatments, has only just begun to be capitalized on.
The scaling of initial successes will require a coordinated and sustained national
effort. The bold new research Precision Medicine Initiative supports the advances
in genomics through public and private collaborative efforts. Namely, to accelerate biomedical breakthroughs, they make use of emerging methods and technologies to manage and analyze large-scale datasets, while simultaneously protecting
patient privacy and health.
The advances in precision medicine have already led to powerful discoveries
and several new treatments, which are adapted to the individuals’ specific characteristics, such as the person’s genetic “makeup” or the genetic profile of a person’s
tumor. This leads to a significant change in the way we can treat diseases such as
cancer. Therefore, the patients with breast, lung, and colorectal cancer, as well as
with melanoma or leukemia, usually undergo molecular testing as part of patient
care, enabling doctors to tailor treatments that increase the chances of survival
and reduce the possibility of adverse effects.
Personalized Medicine and Person-Centered Care
PM and PCC are the two concepts that have had parallel developments to
express the ambitions to tailor the care design and to be better aligned with the
patients’ conditions. This is in stark contrast to the standardized guidelines and
treatment prescriptions, which are based on the average statistical results of
large-scale population studies, with standard errors and significant deviations
from the average. Meanwhile, the sources of the aforementioned concepts differ considerably. While the personalization approach comes from a biomedical
framework primarily guiding the pre-clinical drugs development, such as pharmacogenomic causes, the person-centered one comes from a (health)care perspective, providing a stimulus for a holistic view of the patients and highlighting
Consumer Behavior in the New Economic Reality
71
the perspectives usually ignored within the biomedical framework (El-Alti,
Sandman, & Munthe, 2019).
However, it is to be noted that, recently, the advocates of PCC and the PM have
started mutually borrowing central terminologies and topics from one another.
Some published papers shift their focus on the person, as part of the PM definition, and underline the idea that PM should establish partnerships between the
healthcare providers and patients (Burke, Brown, & Press, 2014) considering the
patient’s preferences, needs, and personality. A recent report by Cochrane, one of
the PCC leading advocates, refers to the typical PCC approaches as being about
the “personalised care planning” (Coulter et al., 2015), while other scientific contributions have presented the personalization as part of the PCC package, that
is, when speaking of the “individualized care […] personalised for one person”
(McCarthy, 2006).
In order to reveal these conceptual nuclei, we tried to group the recurring
themes presented in topic related articles into three interconnected levels, that
form a model for each concept, structurally unifying them, but allowing for
large differences at the same time: (1) at the foundation of the model, a basic
assumption or requirement on which the concept is founded, called base;
(2) at the center, a level of intervention where the doctor–patient interaction
takes place, called action; and (3) at the top, an objective of the intervention,
called purpose (Fig. 2).
PM entails personalizing or adapting the prevention strategies and/or interventions, or the treatments based on the patients’ genetic makeup or other relevant biomarkers, on the grounds of the assumption that the genetic and other
basic biological differences between the patients may affect the outcome of the
treatment (Peterson-Iyer, 2008; Savard, 2013; Schleidgen, Klingler, Bertram,
Rogowski, & Marckmann, 2013).
PM aims at optimizing the medical and patient outcomes by reducing medical expenditure, simplifying medical decisions, increasing drug effectiveness, and
improving the safety of medicinal products by decreasing the number of adverse
drug reactions (Yurkiewicz, 2010).
Fig. 2. The Three Interconnected Levels Which Form a Pattern for Both PCC
and PM (Adapted from El-Alti et al., 2019).
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Artiom Jucov et al.
Therefore, the assumption on the relevance of the patient’s genetic “makeup”
(or other biological characteristics) to treatment outcomes underlies the PM
model by extracting information on this “makeup” through testing (Fleck,
2010).
The basic definition of PM is the use of a person’s specific biological characteristics to tailor the therapies, including medication, dosage, and other remedies
(Swan, 2009). The overall goal of PM is to streamline the health care and outcomes for each patient, including treatments, medication types and doses, and/
or prevention strategies that may differ from person to person, thus leading to
unprecedented personalization of patient care (Ginsburg & Willard, 2009).
Person-Centered Care Model
PCC base refers to a patient’s complexity (including interpersonal connections
and addictions) and the variability between people, recognizing the person or
the individual behind the “patient” (McCormack, Karlsson, Dewing, & Lerdal,
2010). At the “action” level, the interaction between the doctor and the patient lies
in getting to know the patient through his/her personal narrative (Fazio, 2013).
The overall purpose of the PCC is more complex, therefore, potentially more
inconsistent. While it is crucial to avoid reducing the PCC objective to measurable outcomes (Molony & Rayda, 2013), such as patient satisfaction, higher compliance, or meeting patient preferences (Entwistle & Watt, 2013), the improved
patient compliance with medical plans is at the same time often cited as the reason for PCC implementation (Munthe, Sandman, & Cutas, 2012).
PCC is holistic, flexible, creative, personal, and unique. It is not reductionist,
standardized, detached, and task-based. However, not the case when the person
does not want to be (Edvardsson, 2015) To understand the overview of this comparison between PM and PCC please see the Fig. 3.
This paradigm shifts from the concept of traditional “one-for-all” therapy
to that of PM has an impact on the current healthcare systems (Komatsu &
Yagasaki, 2014).
Fig. 3. The Comparison of PM (Left) and PCC (Right) Models with the
Three Interrelated Levels: Base, Action, and Purpose (Adapted from El-Alti
et al., 2019).
Consumer Behavior in the New Economic Reality
73
Personalized care comprises two fundamental components:
⦁⦁ the comprehensive, integrated care which considers the “whole person” as well
as all aspects of his life, including the physical, emotional, mental, social, intellectual, environmental, professional, and financial aspects contributing to his/
her health and well-being; and
⦁⦁ the way to care – the patients are served with a focus on their personal goals, preferences, beliefs, and values. The care is patient-centered and patient-oriented.
Many areas of the US health system have evolved toward a more comprehensive, personalized, collaborative, integrated, and responsive approach. On the
other hand, personalized health care is an approach that considers the patient’s
unique characteristics, such as his/her clinical history and risk factors, in order to
provide personalized care and treatments. The term personalized care or PM has
increased in popularity due to two factors:
⦁⦁ Better understanding of disease and human characteristics due to advances in
genome sequencing.
⦁⦁ New diagnostic approaches due to advances in autonomous education, includ-
ing the in-depth study.
The second level of PM and PCC is the declared change of responsibility. For
the former, there is a shift from collectivity to individuality, since it has been
proven that one’s predispositions imply more responsibility for the outcomes of
the actions taken (or not taken) to manage health problems.
Therefore, the responsibility for good health has shifted from the government,
local authorities, or the community, to the individual, so that he is now “responsible” for his health or illness.
The transition from general to specific is a point where both models converge,
but which also raises the problem of a possible inconsistency. There are Standard Treatment Guidelines in the clinical practice, such as the guidelines for a
person suffering from heart failure. There are certain blood tests, chest X-ray,
and echocardiography used for the initial assessment of the patient, the same
medication, such as the Angiotensin-converting enzyme (ACE) inhibitors and
beta-blockers, being prescribed to almost all patients with the condition, and the
physical examination, as well as other required tests and screening, are done during the periodic monitoring visits. While both PM and PCC use these standard
guidelines as starting points to determine the best-individualized care to be provided to a patient, they also come apart to achieve a further individualization that
goes beyond the one provided by an “empirical” care approach. It is still an open
question whether this trend of care individualization aims to completely replace
the Standard Medical Guidelines. In case of a positive answer, as well if the overall tendency is toward healthcare individualization for all those seeking it, this
can have an impact on the evidence-based practices, the development of medical
standards and the quality assessment and improvement (Gustavsson & Sandman, 2015; Munthe et al., 2012; Sandman, Granger, Ekman, & Munthe, 2012).
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Artiom Jucov et al.
The differing sources of PM and PCC seem to lead toward some tensions
between their respective ideals. On the one hand, PCC originates from a care
perspective and aspires to a more holistic approach to patients care (Edvardsson, 2015; McCormack, Roberts, Meyer, Morgan, & Boscart, 2012). The PCC is
intended to be non-reductionist as it highlights the health ideals targeted toward
health care. It attempts to move away from the narrow biomedical approach to
patients and their needs.
On the other hand, PM stems from the biomedical framework and represents a
traditional ideal of sanitary technology assessment geared toward efficiency, having the purpose of optimizing the parameters of the biological results. By pushing
toward a higher success rate, PM becomes more mechanical and reductionist.
Therefore, a classic tension arises and affects all the three levels of the two models.
The PM action implies the development of an individualized care plan based
on the patients’ genetic data, while the PCC process depends both on the person
and the healthcare provider, which are dynamically interacting, collaborating, and
deliberating on the best action plan based on ample personal information. While
the PCC focuses on the patient’s narrative in the process of shared decision-making
and achieving healthcare partnership, the primary care patient is seen as an individual incidence of a general, albeit complex, model of being manipulated for the
benefit of an objective care goal, where the patient’s opinion is not needed at all.
PM aspires to greater control over the optimization of medical treatment results,
more accuracy, and increased disease predictability and results control. In turn, the
PCC model relies more on the patient’s attention and abilities and, thus, can lead to
an increased outcome uncertainty and a lower control level for the doctors.
Even in the case when the patient’s individuality and complexity are recognized,
his/her narrative is regarded as a central element, the shared decision-making
process is emphasized and his/her emancipation is targeted, there is still the fact
that the patient’s physical condition must necessarily be considered. Therefore, the
PCC appears to have broader dimensions and perspectives than the PM. However,
it seems that there are PCC elements that are not necessary for the functioning of
the PM, such as the basic decision-making ability, patient autonomy, and attention
to the patient, which makes the PM more applicable than the PCC.
Excessive attention to the subjective in the subjective–objective tension could
have implications contrary to the PCC goal of emancipating patients. This risk surfaces when reflected in the action of making doctors adapt to any patient, although
these preferences may result from the fact that the patient is disregarded or incapacitated by the circumstances or the structural factors (Coulter et al., 2015).
This can be applied to the cases of non-adherence when the result of the
treatment depends on the patient’s lifestyle. In such cases, a patient’s desire to
adjust his living conditions may lead to the type of PCC which is uninhibited in
making decisions that mainly reinforce the factors underlying the patient’s initial
lack of power and capacity (Entwistle & Watt, 2013; Herlitz, Munthe, Törner, &
Forsander, 2016).
Theoretically, there is a version of a PM that can exist independently of any
kind of person-centering. However, there is another version that deals with a
more comprehensive approach to the patient to avoid the inevitable overlap of
Consumer Behavior in the New Economic Reality
75
the PM with the PCC in practice. Despite its reductionist foundations, the pragmatic PM is highly likely to draw more clinical attention to the patients’ conditions. Moreover, this is because PM needs some of PCC elements, both to be able
to comply with the values of the mainstream medical practices (e.g., requiring the
patients to give genuine informed consent for their genetic testing) and to ensure
that the treatments tailoring to the patient’s needs will be associated with patient
compliance (e.g., on the medication doses). Therefore, while PM is theoretically
a functioning model when treating patients who do not meet PCC requirements,
PM would still need a PCC approach to function successfully.
Moreover, there are cases when PM solutions contribute to mitigating conflicts
between the goals of achieving positive biomedical results and preserving important aspects of the patient’s lifestyle or any other personal values, or the values
underlying the PCC itself, such as preserving the patient’s capabilities which are
important for the analysis, by reducing the side-effects while maintaining the therapeutic effect. However, in other cases, the PM solutions are not useful from the
point of view of the PCC. The PM solutions could worsen the conflicts addressed
in a shared decision-making process, for example, by setting challenges regarding
the manipulation of genetic information (Gershon, Alliey-Rodriguez, & Grennan, 2014; Juth, 2012).
There seems to be common ground between the two models at the goal level in
terms of distancing from standardization and single solutions tailored to all treatments in the direction of individualization and increased flexibility. Furthermore,
both share an ambition to establish a radical change from the current (perceived)
standard clinical decision-making practices. At the same time, both share a paradoxical characteristic of assuming the same type of standardization existing at
the “action” level that they declare to be departing from at the level of “purpose.”
Despite the surface similarities, the models target very different theoretical goals, linking with the sharp differences in their basic assumptions on the
patients’ nature. On a practical level, however, the action and the purpose of the
PCC seem to offer a general practical potential to help the PM better achieve its
goal of getting optimal results for the biomedical treatment. However, from the
PCC point of view, it is quite difficult to see the general value that the PM action
and goal can have unless they appear as incidental ways to perform the PCC
action and achieve its purpose in a particular case.
This may happen, but just as well, the PM may have no role in the PCC practice, or it may even hinder its action and undermine its purpose. For this reason,
further analysis of PM to investigate more closely the usage of PCC and what
it entails. In turn, PCC advocates have reason to analyze whether labeling PCC
as an example of “personalisation” really has any substance beyond trying to
appropriate a keyword.
Economic Aspects and Perspectives
The P4 medical approach (predictive, preventive, personalized, and participatory
medicine) will help identify the right medication for the right patient at the right
time, avoiding the prescription of expensive and ineffective drugs and preventing
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Artiom Jucov et al.
potentially harmful side-effects. In this regard, the P4 medicine describes a
systemic approach that includes the four aspects mentioned above and several
factors which fuel this development, for example: (i) the appreciation that
medicine is an information science based on knowledge; (ii) systems approaches
are inextricably linked to the study of the immense complexity of diseases and
the analysis of illnesses; and (iii) new computational and mathematical methods
will allow for the analysis of thousands of data points associated with each
patient. Particularly, the new genome-based diagnostic technologies represent a
significant development in medical practice compared to the current prevention
methods; a combination of genetic knowledge and clinical trials is expected to
provide a significant advance toward preventive medicine and subsequently to
the potential medicine (Sairamesh & Rossbach, 2013).
In the future, a patient will be surrounded by a huge number of databases
that uniquely define the individual medical history and reflect the current health
status. The overview of this database is represented graphically in Fig. 4.
By exploiting this data, it will be possible to generate computational methods and algorithms to predict future clinical needs for each patient and generate
complete profiles of the patient groups. Such stratified patient populations and
holistic biological approaches to systems will result in new powerful diagnostics
and therapeutics, they will provide invaluable information in disease prevention.
The key to these developments is medical data integration into the context of
dynamic biological and molecular networks in health and illnesses, which are
both actionable and predictive and, thus, useful for both clinicians and patients.
Payers
Academia
Technology
companies
Diagnostic
companies
Pharma and
Biotech
Producers
Consumers
Data miner
Personalised
Healthcare
Ethics
Patients
Government
Legisla�on
Healthcare
consumers
Healthcare
professionals
Managed
care
Fig. 4. Personalized Health Care, Stakeholder Area (Adapted from
Sairamesh & Rossbach, 2013).
Consumer Behavior in the New Economic Reality
77
Generally, the challenge lies in finding the balance between patient benefit,
economic value, and clinical credits for the biomarker-based diagnosis. The pharmaceutical companies are shifting their focus to such biomarker-based diagnostics which accompany the diagnostic tests that identify the patient’s likelihood
of responding to a medication or experiencing side-effects (toxicity) and are
intended to help doctors make individual treatment decisions.
It seems that the potential to generate a greater value after the market launch,
by increasing the market share, is of greater importance for the economic growth
of the pharmaceutical and biomedical companies than their productive development, and the additional diagnosis may not contribute much to their improvement, productivity, and development. They could even lead to an increase in the
overall costs and delay the advancement of medication since the clinical trials
must frequently be higher when additional diagnoses are used, and the biomarkers must be tested further if their predictability is not clear. In addition, the
medical regulations and policy stipulate the inclusion of patients with a negative
marker in clinical trials.
Generally, the pharmaceutical companies may be more likely to invest in diagnostics and techniques with an impact on larger groups, such as those in the field
of infectious diseases, immunology, and oncology, the latter being the most developed field for the PM approach. The segmentation also reveals the disease areas
where incentives do not attract investments, despite the technical feasibility and
clinical needs, among them are the antipsychotics or anticoagulants.
From the economic point of view, it is still quite difficult to generate revenue
through diagnostic tests; although diagnostics are at the core of the decisionmaking process, they only account for a small percentage of today’s compulsory
health insurance expenses.
However, P4 does indeed have a great potential to catalyze changes in the rising costs of health care and will ultimately lead to lower costs, to the point where
P4 will be exported to developing countries laying the foundations for the future
of healthcare worldwide. Cost reduction will be achieved through a variety of
factors, including the digitalization of health care and the advances in Healthcare Information Technologies implemented, such as next-generation sequencing technologies entering the clinical laboratories, and the emerging single-cell
data analysis technologies that enable the analysis of thousands of cells in an
advanced manner (Hood & Galas, 2003).
The core challenge of modern medicine lies in patient’s stratification, for example, based on novel biomarkers and classification of patients into subgroups with
different disease combinations networks (Ivshina et al., 2006). From an economic
perspective, the main mediators for PM and private health care are the investments made by the Biotechnology and Pharmaceutical Industries, which should
have a long-term perspective on these inputs.
There is a trend toward results- and value-based pricing and reimbursement
models in many countries, which greatly increases the financial value of P4 and,
particularly, the incentives to invest in it. Innovative strategies are needed for
the reimbursement models. For example, the reimbursements may depend on
patient outcomes or risk-sharing models for medication and diagnostic coverage.
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Artiom Jucov et al.
The first step toward such healthcare systems is for the regulatory institutions to
improve both the efficiency and clarity of drug approval processes and accompanying diagnosis. The regulations that allow the results of personalized drugbased diagnostic tests to guide the therapeutic interventions and therapy planning
should also be defined.
Most importantly, the adoption of the P4 concept will trigger the shift of
drug concentration from illness to health, with enormous savings for the social
expenditure, leading to a decrease in the numbers of sick leave requests and a
simultaneous increase in productivity. Moreover, many factors will converge to
reduce healthcare costs strikingly so that the benefits of P4 can be shared by rich
and poor countries alike (Sairamesh & Rossbach, 2013).
Conclusions
PM plays an increasingly important role in the political agenda of different countries, to approve an effective method of prevention, diagnosis, and treatment of
various diseases. The degree of technologies implementation and data analysis
provided by PM depends on the development level of the country, the degree of
openness of the government, the public awareness of the need for new and effective methods.
Of course, there are certain barriers and challenges that the medical systems
implementing personalized medication are facing, namely: ethical problems, medical
treatment standards, the issues of the human genome mutations, the lack of databases on the population specifics, the lack of the capacity to analyze great volumes
of data, and the trivial refusal of the patient to be investigated with this method.
PM is a strong component of PCC. Only on the grounds of this scenario, we
can talk about the maximum effectiveness of prevention, diagnosis, and treatment of various diseases. The holistic approach to various competencies in personalized care triggers a major economic effect.
It becomes obvious that the practice of PM requires expenditure incurred
by the medical system, however, the advantages outweigh the financial expenses
required. The prediction of the health issues that a patient might face over a period
of 10 years leads to an individual approach to care and the avoidance of risks.
Moreover, the knowledge of the patient’s response to administered medication will
result in lower expenditure on various medications, the correction of the treatment
algorithm, and the reduction in the number of sick days, with overall effects on
the nation’s economy. Of course, the burden on insurance companies must not
be disregarded, as by reducing the expenses of diagnosis, and the prevention and
treatment, there will be additional resources to improve the quality of services and
existing technologies, which will inevitably lead to increased customer satisfaction.
Therefore, PM is to be seen as a new stage of development of modern medicine
that is aimed at reducing economic expenditure and raising the comfort level for
the recipients of the medical services. The postponement of its implementation by
the authorities and the lack of public policies lead to the unjustified expenditure
of public money and contribute to halting the development of the medical system
through managerial inefficiency.
Consumer Behavior in the New Economic Reality
79
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Chapter 5
Determination of the Sensitivity of
Stock Index to Macroeconomic and
Psychological Factors by MARS Method
Münevvere Yıldız and Letife Özdemir
Abstract
Purpose: Investors and portfolio managers can earn profitably when they
correctly predict when stock prices will go up or down. For this reason, it
is crucial to know the effect levels of the factors that affect stock prices.
In addition to macroeconomic factors, the psychological behavior of investors also affects stock prices. Therefore, the study aims to reveal the
different sensitivity levels of the stock index against macroeconomic and
psychological factors.
Design/Methodology/Approach: In this study, dollar rate (USD), euro rate
(EURO), time deposit interest rate (IR), gold price (GOLD), industrial
production index (IPI), and consumer price index (CPI) (inflation (INF))
were used as macroeconomic factors, while Consumer Confidence Index
(CCI) and VIX Fear Index (VIX) were used as psychological factors. In
addition, the BIST-100 index, which is listed in Borsa Istanbul, was used
as the stock index. The sensitivity of the stock index to macroeconomic
and psychological factors was investigated using the Multivariate Adaptive Regression Spline (MARS) method using data from January 2012 to
October 2020.
Findings: In the analyses performed using the MARS method, the coefficients of INF, USD, EURO, IR, CCI, and VIX Index were found to
be statistically significant and effective on the stock index. Among these
variables, INF has the highest effect on stocks. It is followed by USD, IR,
EURO, CCI, and VIX. GOLD and IPI variables did not show statistical
significance in the model. The most important difference of the MARS
Insurance and Risk Management for Disruptions in Social, Economic and Environmental
Systems: Decision and Control Allocations within New Domains of Risk, 81–105
Copyright © 2022 by Emerald Publishing Limited
All rights of reproduction in any form reserved
doi:10.1108/978-1-80117-139-720211005
82
Münevvere Yıldız and Letife Özdemir
model from other regressions is that each factor’s effect on the stock index
is analyzed by separating it according to the value of the factor. According
to the results obtained from the MARS model: (1) it has been determined
that USD, EURO, IR, and CPI have both positive and negative effects
on the stock market index and (2) CCI and VIX have been found to have
negative effects on stocks. These results provide essential information
about how investors who plan to invest in the stock index should take into
consideration different macroeconomic and psychological values.
Originality/value: This study contributes to the literature as it is one of the
first studies to examine the effects of factors affecting the stock index by
decomposing it according to the values it takes. Also, this study provides
additional information by listing the factors affecting the stock index in
order of importance. These results will help investors, portfolio managers,
company executives, and policy-makers understand the stock markets.
Keywords: Financial markets; macroeconomic factors; psychological
factors; multivariate adaptive regression spline; Stock markets; VIX Fear
Index
JEL classifications: G10; G11; E44; C30; C51
1. Introduction
Financial markets, especially stock exchanges, provide investors with opportunities to make good use of their funds by providing various investment tools.
One of these investment tools is stocks. Investors earn when they correctly predict when stock prices will go up or down while losing if they cannot expect it.
Although prices vary according to developments in supply and demand, deeper
factors should be known. The stock market is susceptible to both national and
international economic, social and political situations. Therefore, factors affecting prices should be understood and followed to predict changes in prices.
Factors affecting stocks can be divided into two groups: macroeconomic
and psychological. Stocks can be affected by some essential macroeconomic
variables such as interest rates (IR), inflation, exchange rate (INF), gold prices
(GOLD), industrial production index (IPI), and economic growth. An increase
in IRs lowers the present value of the future cash flows that the investor expects
to receive as dividends or capital gains. On the other hand, an increase in IRs
lowers bond prices. Thus, an increase in IRs (an increase in bond purchases)
creates a decrease in the demand for stocks while increasing investors’ demand
for bonds. There are different opinions and research results about the relationship between IRs and stocks in the literature. A group of studies suggests that
the IR negatively affects stock prices (Humpe & Macmillan, 2009; John, 2019;
Kalam, 2020; Ratanapakorn & Sharma, 2007; Topaloğlu & Karakozak, 2018;
Umer, 2016). On the other hand, some studies show that IRs and stock price
Determination of the Sensitivity of Stock Index
83
are positively associated (Abdul Rahman, Sidek, & Tafri, 2009; Ndlovu, Faisal,
Resatoglu, & Türsoy, 2018).
An increase in the exchange rate decreases the domestic currency’s confidence
and can increase the demand for foreign currency. Investors keep their savings in
foreign currency, and foreign currency’s financial assets become more attractive in
this context. This situation may cause a decrease in the demand for many investment tools. Many researchers have studied the relationship between exchange
rates and stock prices. Some of these studies show an inverse relationship between
exchange rate and stock prices (Belen & Karamelikli, 2016; Duy & Hau, 2017;
Ndlovu et al., 2018; Syzdykova, 2018; Umer, 2016). Some studies show a positive
relationship between exchange rate and stock price (Güngör & Yerdelen Kaygın,
2015; Ratanapakorn & Sharma, 2007).
When the uncertainty in the economy increases, the first saving tool investors
is turn to gold. In times of uncertainty, gold is considered to be safer than other
investment instruments. Gold is seen as a substitute for stocks, and therefore,
theoretically, an increase in one causes a decrease in the other. Studies in the literature support this phenomenon (Güngör & Yerdelen Kaygın, 2015; Küçükçolak,
Büyükakin, & Küçükçolak, 2019; Umer, 2016).
INF is known as the steady rise in the price of goods and services and the
decline in money’s purchasing value. According to the Fisher hypothesis (Fisher,
1930), stocks protect against INF. This hypothesis assumes that there is a oneto-one positive relationship between stock returns and INF. Some of the studies
examining the relationship between INF and stocks support the Fisher hypothesis (Gençtürk, 2009; Ndlovu et al., 2018; Okşak & Sarıtaş, 2020; Ratanapakorn
& Sharma, 2007; Umer, 2016). Contrary to these studies, others suggest a negative relationship between stocks and INF (Duy & Hau, 2017; Güngör & Yerdelen
Kaygın, 2015; Humpe & Macmillan, 2009; Kalam, 2020).
The effects of economic growth on the stock market can also be determined
through the IPI, representing the production level. The IPI affects the returns
of stocks by defining future cash flows. The increase in the IPI will increase the
demand for stocks, and perceived as a positive signal by investors. This increase in
demand will cause the stock price to rise. Current studies support the notion that
the IPI causes the stock price to increase (Humpe & Macmillan, 2009; Kalam,
2020; Ndlovu et al., 2018; Okşak & Sarıtaş, 2020; Ratanapakorn & Sharma, 2007).
Nowadays, investors who make rational and thoroughly informed decisions have been replaced by investors who decide with their feelings and even
take action according to rumors and their reactions cannot be measured clearly.
Therefore, it is accepted that the investor’s psychology and sensitivity should also
be taken into account to understand the functioning of financial markets. The
effect of investor sentiment on the markets can be measured using various variables. The Consumer Confidence Index (CCI), which is accepted as a measure
that reflects investor sentiment in the best way, is a combined numerical expression of expectations (Kayış Beşiktaşlı & Kurt Cihangir, 2020). VIX Fear Index
(VIX) is also analyzed as the opposite of the CCI as a measure of investor sentiment. The VIX is considered the most crucial indicator of fear and enthusiasm
in the markets. In the VIX Index, values of 20 and below are considered low, and
84
Münevvere Yıldız and Letife Özdemir
the investor moves quickly in this situation; values of 30 and above are considered high, and investors are more careful when making decisions in this situation
(Sarıtaş & Nazlıoğlu, 2019). Studies in the literature show that the CCI positively
affects stock prices (Görmüş & Güneş, 2010; Tekin & Cengiz, 2018), while the
VIX affects prices negatively (Kaya & Coşkun, 2015; Sadeghzadeh, 2018; Sarıtaş
& Nazlıoğlu, 2019).
Since macroeconomic and psychological factors will have positive or negative
effects on stock prices, many studies have been conducted to examine which factors will affect stock prices. However, when the studies conducted were concerned,
it was noted that different results were obtained. This situation causes an increase
in the importance and number of researches in this field. Most of the studies
examining the relationship between stock prices and economic and psychological factors investigated the cointegration and causality relationship. Studies that
explore the effects of factors on stock prices can reveal the one-way impacts of
the factors. However, the effect of the factors on the stock may differ according to
the factors’ values. The main difference that separates this study from the studies
in the literature is that each factor’s effect on stock prices is analyzed by dividing
the effect according to the factor’s value.
The aim of the study is to determine the sensitivity of the stock index to the
economic and psychological factors and to see the level of their effect. For this
purpose, the BIST-100 index as a stock index, the dollar rate (USD), the euro rate
(EURO), the time deposit IR, the GOLD, the IPI as the economic growth indicator, the consumer price index (CPI) as an indicator of INF, the VIX and the CCI
are used to measure the sensitivity of psychological factors in the markets. To
see the sensitivity of the stock index to economic and psychological factors, the
Multivariate Adaptive Regression Spline (MARS) method was analyzed using
monthly data for the period January 2012–October 2020.
The remainder of the study is organized as follows: existing literature investigating the relationship between the stock market and economic and psychological factors is summarized in the second section. The data are introduced in the
third section. In the fourth section, the relationship between the stock market and
economic and psychological factors is examined econometrically. The study was
completed with the conclusion section, where the empirical analysis results were
evaluated.
2. Literature
The relationship between stock prices and macroeconomic variables has been
the focus of researchers’ attention for many years. Most of the existing literature
studies have focused on the long-term relationship and causality relationship
between stock prices and macroeconomic factors. Gan, Lee, Yong, and Zhang
(2006) examined the relationship between the NZSE 40 index of the New Zealand
Stock Exchange and the CPI, exchange rate, gross domestic product (GDP),
money supply (M1), long-term and short-term IRs, and the domestic retail oil
price. As a result of the Johansen Cointegration test, it has been found that there
is a long-term relationship between the NZSE 40 index and the macroeconomic
Determination of the Sensitivity of Stock Index
85
variables used in the study. Rashid (2008) investigated the interaction between
stock prices and CPI, IPI, exchange rate, and market IRs in Pakistan. It has
been determined that there is a strong long-term relationship between stock
prices and macroeconomic variables. Ibrahim and Musah (2014) examined the
relationship between stock returns and INF, exchange rate, M1, IRs, and IPI
variables in the Ghana Stock Exchange. A long-term relationship has been found
between macroeconomic variables and stock returns. Also, it was determined that
exchange rate and IR variables are very effective on stocks in the short term, while
M1, INF, exchange rate, and IPI variables significantly affect stock prices in the
long run. Humpe and Macmillan (2009) examined whether IPI, CPI, M1, and
long-term IRs affect stock prices in the USA and Japanese stock markets. For
the US data, they found that stock prices had a positive relationship with IPI and
a negative relationship with the CPI and long-term IR. Their study reveals that
stock prices in Japan are positively affected by IPI and negatively affected by M1.
Syzdykova (2018) examined the relationship between IR, IPI, exchange rate, CPI,
and oil prices with the Kazakhstan Stock Exchange Index. Oil price and exchange
rate variables are statistically significant and have a negative effect on the index. It
has been determined that there is a long-term relationship between the index with
the oil price and the IPI. Finally, a unidirectional causality relationship from oil
prices and IPI to stock market index has been observed.
Ratanapakorn and Sharma (2007) investigated the interaction between the
S&P500 index and the IPI, M1, treasury bill IRs, government bond IRs, INF, and
JPY/USD exchange rate variables in the USA. There is a negative relationship
between the S&P500 index and long-term IRs, but a positive relationship
between the variables of M1, IPI, INF, exchange rate and short-term IR, and
the S&P500 index. While there is causality from all macroeconomic variables to
the stock market index in the long run, there is no causality among the variables
in the short term. Abdul Rahman et al. (2009) examined the relationship
between the Malaysian stock exchange and selected macroeconomic variables.
They have researched the existence of a long-term relationship between the
Malaysian stock market index and M1, IR, exchange rate, reserves, and IPI.
They found that stock returns in the Malaysian Stock Exchange were positively
affected by IPI, IRs, and reserves, and negatively affected by the exchange rate
and M1 variables in the long run. In addition, as a result of the causality test,
a bidirectional relationship was found between IRs and stock market returns.
Ndlovu et al. (2018) examined the effects of INF, M1, IRs, and USD/ZAR
variables on South Africa Johannesburg stock prices. According to the results
of the research, it was pointed out that there is a positive relationship between
stock prices and IRs, M1, and INF variables in the long run. In addition, it has
been determined that the exchange rate has a negative effect on stock prices.
According to the causality test results, unidirectional causality was found from
exchange rate and IR variables to stock prices. John (2019) showed that the
M1 has a significant positive effect on the Nigerian stock index, while the IR
has a significant negative effect. Cointegration test results revealed that there
is a long-term relationship between macroeconomic indicators and stock
market performance. Granger causality test results revealed that a one-way
86
Münevvere Yıldız and Letife Özdemir
causality moves from M1 and exchange rate to stock market performance.
Umer (2016) investigated the short- and long-term effects of some selected
macroeconomic variables on the Pakistan Stock Exchange. There is a longterm positive relationship between stock market index and CPI, M1, and oil
prices, and a negative relationship between stock returns and exchange rate,
foreign exchange reserves, GOLD, and IRs. As a result of the Granger causality
test, a unidirectional causality from exchange rate to stock market index and
stock market index to FDI, foreign exchange reserves, IRs, and export variables,
and a bidirectional causality between crude oil prices and stock market index
were found. Barakat, Elgazzar, and Hanafy (2015) investigated the relationship
between IR, INF, M1, exchange rate variables, and stock returns in Egypt
and Tunisia. A causality relationship has been identified between the stock
market index and all macroeconomic variables in Egypt. In Tunisia, a causality
relationship has been found between other macroeconomic variables, excluding
INF and the stock market index.
Jareño and Negrut (2016) investigated whether there is an interaction
between the New York Stock Exchange and the variables of the unemployment
rate, long-term IRs, GDP, CPI, and IPI. It has been determined that the stock
market index has a statistically significant relationship with all other macroeconomic variables except CPI. Duy and Hau (2017) investigated the relationship
between the Vietnam stock market index and market price index, INF, M1,
and exchange rate variables. According to the analysis results, it is concluded
that the increases in the market price index and M1 increase stock prices, while
the increases in INF and exchange rate variables decrease stock prices. Kalam
(2020) examined the effects of macroeconomic variables on Malaysia’s stock
market return. It was determined that GDP positively affected stock returns,
negatively affected IR and INF.
In the literature, the number of studies examining the relationship between
Turkey and the stock market and macroeconomic factors are numerous. Özer,
Kaya, and Özer (2011) determined the relationship between the ISE-100 Index
and the IR, M1, Foreign Trade Balance, IPI, GOLD, Exchange Rate, and CPI.
They determined the existence of a long-term relationship between stock prices
and the variables of the CPI, IR, M1, foreign trade balance, and IPI. Coşkun,
Kiracı, and Muhammed (2016) studied the relationship between stock prices
in Turkey with macroeconomic variables. It has been determined that there is
a unidirectional causality relationship from BIST to IPI, export and import,
and a unidirectional causality relationship from exchange rate to BIST. Özmen,
Karlılar, and Kıral (2017) examined the relationship between stock returns and
macroeconomic variables. A long-term relationship has been found between the
BIST-100 index return and the exchange rate, IR, and CPI. As a result of the
causality analysis, they found a unidirectional causality relationship from the
exchange rate to BIST-100 and a bidirectional causality relationship between
BIST-100 and the IR.
Gençtürk (2009) determined that GOLD, CPI, and M1 have positive effects
on stocks, while IPI, foreign exchange price, and treasury bill IRs have negative effects. In times of crisis, it has been determined that CPI affects the stock
Determination of the Sensitivity of Stock Index
87
index negatively and the M1 affects the stock index positively. Albayrak, Öztürk,
and Tüylüoğlu (2012) investigated the effects of capital movements such as IRs,
USD, and GOLD variables, and foreign portfolio investments and foreign direct
investments on the ISE-100 index. As a result of their application with the PraisWinston Regression analysis, they showed that the USD exchange rate, GOLD
and foreign portfolio investments have an effect on the ISE-100 index. Aktaş and
Akdağ (2013) examined the relationship between stock price and deposit IRs, the
CPI, USD exchange rate, the EURO, unemployment rate, IPI, export amount,
capacity utilization rates, GOLD, the CCI, and crude oil prices in Turkey. They
concluded that deposit IR, CPI, USD exchange rate, capacity utilization rate, and
CCI have a significant effect on the BIST-100 index.
Çetin and Bıtırak (2015) aimed to determine the effect of macroeconomic
variables on stock returns in Turkey. They determined that stock returns were
negatively affected by GOLD and savings deposit IRs and positively affected by
M1 and the rate of capacity utilization in the manufacturing industry. Belen and
Karamelikli (2016) determined that the exchange rate has a negative effect on
stock prices, while the M1 has a positive effect on the stock market. In their studies, Saka Ilgın and Sarı (2020) determined that the increase in exchange rates in
the short term decreased the BIST stock indices, while the increase in the IRs in
the short- and long-term led to a decrease in the BIST stock indices. They also
showed that the negative relationship between INF and stock markets in the short
term turns into a positive relationship in the long term. Okşak and Sarıtaş (2020)
determined that the BIST-100 Index was positively affected by INF, exports, and
IPI, and negatively affected by imports.
Güngör and Yerdelen Kaygın (2015) found a positive relationship between
stock prices and the variables of the exchange rate, M1, oil price, and IPI. It
has been observed that there is a negative relationship between stock prices and
the variables of the INF, IR, GDP, GOLD, and foreign trade balance. Balı and
Cinel (2011) determined that GOLD does not have a direct effect on the ISE-100
index. Topaloğlu and Karakozak (2018) found that there is a negative relationship between stock return and exchange rate, IR, M1, but not with the GOLD
and INF. Küçükçolak et al. (2019) have reached the conclusion that there is a
negative correlation between gold and stock prices in Turkey.
The effects of the VIX and CCI, which are considered to be the leading
indicators of investor psychology and sensitivity, on stock markets have been
the subject of many studies. Considering the existing studies, most of the studies dealing with the VIX index and the BIST-100 index examined the causality relationship between the indices. Akdağ (2019), Başarır (2019), Sarıtaş and
Nazlıoğlu (2019), Kaya (2015), Kaya and Coşkun (2015), Öner, İçellioğlu, and
Öner (2018), Sakarya and Akkuş (2018), Kuzu (2019), and Tuncel and Gürsoy
(2020) discussed the causality relationship between the VIX index and the BIST100 index in different periods. These studies determined a unidirectional causality relationship from the VIX index to BIST-100 index. Şahin (2018), Akdağ
(2019), and Kaya (2015), who investigated whether there is a cointegration relationship between the BIST-100 index and the VIX index, using data at different
time intervals, determined a long-term cointegration relationship between the
88
Münevvere Yıldız and Letife Özdemir
indices. As a result of the regression analysis performed by Kaya and Coşkun
(2015), it was determined that the VIX index negatively affected the BIST-100
index. Sadeghzadeh (2018) and Sarıtaş and Nazlıoğlu (2019) found supporting
evidence for the work of Kaya and Coşkun (2015) with their study by taking
different periods.
Otto (1999), in one of the studies that treat the CCI as a representative of
investor sentiment, found that the increase in stock prices increases the CCI.
Brown and Cliff (2005) and Schmeling (2009) revealed that there is a unidirectional causality relationship from stock returns to CCI returns. Unlike these
studies, Bandopadhyaya and Jones (2006) and Baker and Wurgler (2007) found
that the confidence index is effective on the stock market index. Among the studies examining the relationship between the CCI and the BIST-100 stock index,
Topuz (2011), Eyüpoğlu and Eyüpoğlu (2017), and Gökalp (2019) determined
that there is a unidirectional causality relationship from the CCI to the stock
price. Görmüş and Güneş (2010) determined that the increase in the CCI has a
positive effect on exchange rates and stock prices. Unlike these studies, Tekin and
Cengiz (2018), Vurur and Diler (2018), and Filiz Baştürk (2019) determined the
causality relationship from the BIST-100 stock index to the CCI. In addition,
Tekin and Cengiz (2018) and Vurur and Diler (2018) found a positive and longterm relationship between the CCI and the BIST-100 index. Köse and Akkaya
(2016) found that there are statistically significant relationships between the confidence index and the BIST-100 return index.
As a result of the literature review, no study has been found that examines the
effect levels of both economic and psychological factors on stock prices. Examining the effect levels of economic and psychological factors on the BIST-100 stock
index constitutes the originality of this study.
3. Methodology
The MARS method is a non-parametric regression model introduced by ­Friedman
(1991). This method includes the interactions between variables in the model and
contributes to non-linear models’ generation (De & Masilamani, 2018). Also,
multicollinearity, which is one of the frequently encountered problems in timeseries data, does not pose a problem in this model but does not impose a limitation on its variables (Lee & Chen, 2005). It is used widely in many scientific fields
due to its convenience and successful predictive results (Kumar et al., 2020).
MARS is a mathematical model called base function or spline, whose functions base on a degree’s piecewise polynomials. This model is implemented in
two stages – the forward stage and the backward stage. The base functions added
to the model in the forward stage cause the formation of the largest and most
complex structured model. All the base functions that have both the most and
the minor effect on the overall model performance are include the model. The
decision-maker here operates to reduce the mean square error (MSE), and each
new base function added to the model ensures the reduction of MSE (Ayyıldız,
Purutçuoğlu, & Weber, 2018). In the backward stage, a prune operation is performed to reduce the model’s complexity, showing overfitting in the previous
Determination of the Sensitivity of Stock Index
89
Fig. 1. Flowchart of the Implemented MARS Method (Wang et al., 2021;
Zheng et al., 2020).
step. The base functions that contribute the most to the increase in the total error
squares are removed from the model one by one and the most suitable model
is obtained (Friedman, 1991; Hastie, Tibshirani, & Friedman, 2001). The algorithms’ operation in the forward and backward stages during the implementation
of the MARS model is shown in Fig. 1.
A general MARS model is defined as follows (Qi, Wang, Pan, Chu, & Chiam,
2020):
f (x) = α + ∑ i =1 ci Bi (x) + ε (1)
N
Here x denotes independent variable, Bi(x) base function, N number of terms,
ci predicted parameter, α regression constant, and the ε error term. The general
form of the base function Bi(x) is as follows,
 x, if x ≥ 0

Bi (x) = 
(2)


0, otherwise



The decision of which base function is included in the model is made according to the generalized cross-validation criterion (GCV). The optimal number of
terms to include in the appropriate model is evaluated within the GCV criteria
framework. At the end of the backward stage, the best model f̂α predicted for
each number of α terms and the GCV criterion put forward by Friedman (1991),
where yi are the actual values of the dependent variable, are expressed as follows:
90
Münevvere Yıldız and Letife Özdemir
∑ ( y − fˆ (x )) (3)
GCV α =
2
N
i =1
( )
α
i
i
2
(1− M (α) / N )
M(α) is the number of effective parameters in the model and the number of
observations in the N dataset. Here, the decision rule determines the model with
the variables that make the GCV value the smallest.
Measuring model performance while performing statistical modeling is
essential in terms of comparisons. The performance of these models is mainly
based on the difference between actual observation values and predicted values.
In theory, there are many performance criteria used for this purpose. In the
study, 80% of the data are used to create the best MARS model and subjected to
the training process. On the other hand, the determined model tests using 20%
of the data. Root mean square error (RMSE), determinations coefficient (R2),
and mean absolute percentage error (MAPE) criteria will be used to compare
the data in the training and testing processes based on the error terms obtained
after the implementation of the same MARS model. The criteria shows the
model performance based on the minimization of error terms that express the
difference between the dependent variable’s actual values and the predicted values. The performance criteria are expressed as follows, with yi being the actual
value of the dependent variable and ŷi the predicted value of the n is the number of observations.
∑ ( y − yˆ ) (4)
R = 1−
∑ (y − y)
n
2
RMSE =
MAPE =
2
i =1
n
i
i =1
i
i
2
1
n
2
∑ i =1( yi − yˆi ) (5)
n
∑
n
i =1
( yi − yˆi ) / yi (6)
n
According to these criteria, the highest R2, the smallest RMSE, and MAPE
values indicate a better fit model (Fan & Gijbels, 1996; Hastie & Tibshirani, 1990;
Hardle, 1991).
4. Data, Analysis, and Findings
The study aims to determine the sensitivity of stock index to macroeconomic and
psychological factors and the level of this sensitivity. For this purpose, the stock
index (BIST-100) is included as the dependent variable in the study. On the other
hand, the independent variables are split into two groups to reveal the macroeconomic and psychological approach. The USD, the EURO, the IR, the IPI as
an indicator of economic growth, the GOLD, and the CPI as an INF indicator
are included in the study for the macroeconomic effects. The VIX and CCI were
Determination of the Sensitivity of Stock Index
91
Table 1. Variables and Abbreviation.
Type
Variable Names
Abbreviation
Dependent variable
Stock index
BIST-100
Independent variables
(Macroeconomic factors)
Dollar rate
USD
Euro rate
EURO
Time deposit interest rate
IR
Industrial production index
IPI
Consumer price index
CPI
Gold price
GOLD
VIX Fear index
Consumer confidence index
VIX
CCI
Independent variables
(Psychological factors)
added to the study to see the sensitivity of psychological indicators in the markets
on the stock index. Table 1 contains the variables and their abbreviations used.
In terms of the data’s availability, the authors chose monthly data from the
period between January 2012 and October 2020. The MARS method was used
to see the stock index’s sensitivity to macroeconomic and psychological factors.
The data included in the study were classified as training and test data, and the
best MARS model was defined using the R program with the help of the training
algorithm. Descriptive statistics regarding the data used are shown in Table 2.
The numerical values in Table 2 provide information about the general structure of the data. Graphs showing the relationship of the stock index with other
independent variables are given in Fig. 2.
The scatter diagrams created help us understand the general form of the relationship between the stock index and the independent variables. When the graph
is examined, it can be stated that the stock index does not show linear relationships with the independent variables. In this sense, it is more appropriate to use
models that contain a curvilinear structure by using more complex and various
nodes.
One of the most important elements in using the MARS method is to determine the tuning parameters: degree (degree) and the number of terms (nprune)
that will give the best result for the model. The degree shows the maximum
degree of interactions, and the number of the term shows retained terms in the
final model. These two parameters should not be neglected for the validity of
the model. In line with this purpose, analyses were carried out with the machine
learning technique, which allows both the optimal parameters to be determined
more accurately for the relevant period data and helps to have an idea about the
model’s predictive power. First of all, the data were discussed in two parts as
training to establish the model and as a test group to analyze how well the estimation was made. Eighty percent of 106 observations included in the study were
used in the model’s training process to create the MARS model. The remaining
20% was included in the form of new data to reveal the model’s validity and used
160.7052
0.231380
2.176753
Minimum
SD
Skewness
Kurtosis
106
550.9933
Maximum
Observations
847.3766
1,195.288
Median
870.9908
BIST-100
CCI
106
2.136554
−0.623995
5.455800
77.05000
97.37000
90.02000
88.61962
Descriptive Statistics.
Mean
Table 2.
106
2.151614
0.658521
83.66260
201.9800
487.3800
278.6750
304.7659
CPI
106
2.712772
0.928847
1.822050
2.221940
9.290414
3.312629
4.160326
EURO
106
5.285540
1.672422
3022.662
2376.010
15675.60
3736.330
5022.050
GOLD
106
2.181533
0.053023
14.49855
73.39412
134.7123
100.9477
102.2273
IPI
106
4.931497
1.666265
4.187216
5.264000
22.85250
9.168750
10.47757
IR
106
2.402899
0.790475
1.689538
1.759533
7.888071
2.964150
3.567939
USD
106
12.80059
2.694196
6.564180
9.510000
53.54000
15.50500
16.98792
VIX
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Münevvere Yıldız and Letife Özdemir
Determination of the Sensitivity of Stock Index
Fig. 2.
93
Graphical Representation of Stock Index and Independent Variables.
for estimation on the model created during the training process. The main criterion here is to determine the optimum combination of these hyperparameters,
which minimizes the estimation error, with the learning algorithm’s help, based
on the approximate estimation of the cross-validation (CV) performance criterion in the training data (Boehmke & Greenwell, 2020). Fig. 3 shows the optimal
degree and number of terms for the best MARS model.
As seen in Fig. 3, the model gives the smallest CV value when the degree is 1.
The number of terms did not differ according to degrees and was determined as
23. After implementing the training algorithm for the best MARS model, the
results of the MARS model obtained with the optimal degree = 1 and the number
of terms = 23 are given in Table 3.
Table 3 shows the base functions and their coefficients for the MARS model.
Unlike other regression models, the MARS model includes only statistically
significant variables in its algorithm. Therefore, there is no need to retest the
significance of the coefficients in the MARS model. The coefficient of 15 of the
17 different base function terms produced in creating the model was significant.
The model was expressed with a coefficient of 15, including the fixed term given
above. Only six of the eight independent variables included in the application
were statistically significant and included in the model. According to the results
obtained here, it was concluded that INF, USD, EURO, IR, CCI, and VIX index
have statistically significant effects on the stock index.
On the other hand, the IPI and GOLD variables coefficients are not significant and not included in the model. The percentage of explanation by these variables whose coefficient is significant is R2 = 0.949 for stock index shows that
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Münevvere Yıldız and Letife Özdemir
Fig. 3.
Optimum Degree and Terms.
the independent variables explain the highly dependent variable. MARS model
equation expressed with base functions is as in Equation 7.
BIST100 = 846 + 377 * BF1(x) − 221 * BF2(x) + 414 * BF3(x)
+ 224 * BF4(x) − 259 * BF5(x) + 36 * BF6(x)
+ 32.3 * BF7(x) − 178 * BF8(x) + 139 * BF9(x)
− 2.97 * BF10(x) − 12.2 * BF11(x) + 3.15 * BF12(x)
− 6.89 * BF13(x) − 5.31 * BF14(x)(7)
The MARS model expressed in closed form with base functions as in Equation 7,
can be written as in Equation 8 by using maximum functions in which base functions are expressed more clearly.
BIST100 = 846 + 377 * max(0,2.96 − USD) − 221 * max(0,USD − 2.96)
+ 414 * max(0,EURO − 3.54) + 224 * max(0,6.05 − EURO)
− 259 * max(0,EURO − 6.05) + 36 * max(0,8.29 − IR)
+ 32.3 * max(0,IR − 8.29) − 178 * max(0,IR − 10.62)
+ 139 * max(0,IR − 11.97) − 2.97 * max(0,CPI − 255.23)
− 12.2 * max(0,325.18 − CPI) + 3.15 * max(0,CPI − 325.18)
− 6.89 * max(0,CCI − 81.12) − 5.31 * max(0,VIX − 19.85) (8)
One of the MARS method’s most significant advantages is that it reveals that
each variable in the economic structure can have different results on the dependent variable at different levels. Also, depending on the model’s degree, it can produce good results in expressing the change in the dependent variable by including
the interactive states of the independent variables in the model.
According to the model, one notes that when the USD is below 2.96, it affects
the stock index positively, and when it rises above 2.96, its effect turns negative.
Determination of the Sensitivity of Stock Index
95
Table 3. Basis Functions and Corresponding Coefficients for the MARS
Model.
Basis Functions
Equation
Intercept
Coefficient (βi)
846
BF1(x)
max(0, 2.96 – USD)
377
BF2(x)
max(0, USD – 2.96)
−221
BF3(x)
max(0, EURO – 3.54)
414
BF4(x)
max(0, 6.05 – EURO)
224
BF5(x)
max(0, EURO – 6.05)
−259
BF6(x)
max(0, 8.29 – IR)
36
BF7(x)
max(0, IR – 8.29)
32.3
BF8(x)
max(0, IR – 10.62)
−178
BF9(x)
max(0, IR – 11.97)
139
BF10(x)
max(0, CPI – 255.23)
−2.97
BF11(x)
max(0, 325.18 – CPI)
−12.2
BF12(x)
max(0, CPI – 325.18)
3.15
BF13(x)
max(0, CCI – 81.12)
−6.89
BF14(x)
max(0, VIX – 19.85)
−5.31
GCV = 2,931
RSS = 110,728
GR2 = 0.887
R2 = 0.949
Three critical points differentiate the impact of the EURO on the model. If the
EURO is above 3.54 and below 6.05, it positively affects the stock, and when it
exceeds 6.05, it has a negative effect. Within the framework of four base functions
included in the model for the IR, it is seen that the IR increases the stock index
for values above and below 8.29 and above 11.97, and it has an index reducing
effect for values above 10.62. It can be stated that the CPI variable has a negative
effect on the stock index for values above 255.23 and below 325.18 and a positive
effect on values above 325.18. It is seen that the CCI, which is included in the
model to examine the effects on the stock index in the psychological framework,
has a negative effect for cases where the index is above 81.12. The VIX index has
a negative effect on the index at values above 19.85.
The MARS method models each explanatory variable’s contribution to the
dependent variable using a piecewise array of linear regression splines (Steinberg,
Colla, & Kerry, 1999). A spline is a flexible curve that is fixed at various points or
nodes. This curve mimics the relationship between the dependent and independent variables, and nodes define the regions where the relationship between the
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Münevvere Yıldız and Letife Özdemir
Fig. 4.
MARS Model Variables Graph.
dependent and independent variables changes. The graphs showing the nodes
of the variables included in the model and which are statistically significant are
included in Fig. 4.
Fig. 4 gives information about the breaking points (knots) of the variables
that affect the stock index. MARS method can reveal the relative importance of
each variable included in the model. Fig. 5 shows the importance of independent
variables according to the criteria of GCV and residual sum of squares (RSS).
According to GCV and RSS criteria, it is seen that the importance levels of
independent variables produce similar results. INF has the highest importance
on the stock index, followed by the USD, IR, EURO, confidence index, and VIX
index. In the algorithms created in the MARS method, the relative importance
levels of the variables are determined with various subsets’ help. While doing this,
the variable present in more subsets is revealed and therefore the importance level
of that variable is higher. We have previously stated that the MARS model’s general algorithm consists of two stages as forward and backward. In this process,
all variables are added and removed from the model, so their importance for the
model is measured. The most involved variable in subsets’ models refers to the
variable with the highest importance for the general model. As shown in Table
4, the variables are listed from the highest relative importance level to the lowest.
While the CPI variable with the highest importance is located in 14 of the subsets
created in the MARS model, the number of subsets containing other variables
has also decreased.
The importance levels of the independent variables seen in Fig. 5 are expressed
with numerical data in Table 4. Accordingly, the importance level of the INF variable according to the GCV criteria is 100% for the stock index. In comparison,
the USD is 45.5%, the IR is 33.2%, the EURO is 27.8%, the CCI is 24.4%, and the
VIX index is 19.3%. The importance level of the variables in the modeling process is also an important contribution to the literature. In most of the studies in
the literature, the effects of variables on the BIST-100 index were examined, and
Determination of the Sensitivity of Stock Index
Fig. 5.
97
Importance Levels of Variables According to GCV and RSS.
positive or negative effects were revealed. However, this study has also displayed
that when these variables are together, they are more effective on the index.
In econometric methods, it is crucial to see how well the model fits the actual
data, how close it is to reality, and the variables supporting the economic theory.
For this purpose, the graph of the actual values used in the modeling (training)
process of the stock index and the predicted values obtained from the MARS
model for the period of 2012–2020 are shown in Fig. 6.
The fact that the stock index’s predicted values and actual values show relative
values in the related periods, reveals the MARS model’s predictive power. This is
especially important to make accurate and unbiased predictions for the future.
For regression models, the goodness of fit of the model is an important consideration. The goodness of fit criteria is frequently used, especially to compare
different models. Seeing the effectiveness of the MARS method used in the study,
the same model was applied to the data used in the modeling (training) process
and the data used in the prediction process (test), and their performances were
compared.
When comparing the fit of the models, the main issue is the error terms. The
error terms express the difference between the actual values and the predicted
values in regression models, so it is important that this difference is to be minimal. There are many performance criteria used based on error terms in the literature. Calculations were made within the framework of RMSE, R2, and MAPE
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Münevvere Yıldız and Letife Özdemir
Table 4. Importance of Variables.
nsubsets
GCV
RSS
CPI
14
100
100
USD
13
45.5
49.4
IR
11
33.2
37.7
EURO
10
27.8
32.2
CCI
9
24.4
28.7
VIX
7
19.3
23.2
1,400.00
1,200.00
1,000.00
800.00
600.00
400.00
200.00
2012-02
2012-06
2012-09
2013-01
2013-05
2013-08
2013-11
2014-02
2014-06
2014-09
2015-03
2015-07
2015-12
2016-04
2016-08
2016-11
2017-02
2017-06
2017-10
2018-01
2018-04
2018-07
2018-10
2019-02
2019-05
2019-08
2020-01
2020-04
2020-08
0.00
ACTUAL
Fig. 6.
PREDICT
Actual Values of Stock Index and MARS Model Predicted Values.
goodness of fit criteria on the data used in the modeling and estimation process
and presented in Table 5.
In Table 5, a comparison is made for training and testing data based on
three goodness of fit criteria. In the evaluation made in terms of the three criteria’s numerical size, the model with a higher R2 value and a smaller value in
the MAPE and RMSE criteria show a better fit. In general, in the comparison
made based on these criteria, determining the training data’s values better but
close to the testing data results provides positive information about the strength
of the model and the good fit. Besides, this situation is an indication that the
margin of error will be less in producing reliable predictions for the future with
the established model.
5. Conclusion
The stock index prices can be affected by some essential macroeconomic variables such as IRs, INF, exchange rate, GOLD, IPI, and economic growth. In
addition to macroeconomic factors, the psychological behavior of investors
also affects stock prices. Therefore, the study aimed to measure the effect of
economic factors expressed by USD, EURO, IR, IPI, GOLD, and INF, as
well as psychological factors represented by VIX and CCI on the stock index.
Determination of the Sensitivity of Stock Index
Table 5.
Training and Testing Data Goodness of Fit Performance.
Train
Test
35.882
38.894
R
0.949
0.943
MAPE
3.429
3.526
RMSE
2
99
In the study, in which the data for the period January 2012–October 2020 were
used, the analyses were made by applying the MARS method. According to
the results of the MARS model, it was determined that the coefficients of the
variables of INF, USD, EURO, IR, CCI, and VIX were statistically significant
and included in the model. On the other hand, GOLD and IPI coefficients are
not statistically significant. An important feature that distinguishes the MARS
model from other regression models is that it can differentiate each independent variable’s direction influencing the dependent variable within the framework of critical values.
The results of the critical values and the direction of affecting the index in the
model are as follows. Values above 2.96 of the USD affect the index negatively
and values below this mark positively. Values above 3.54 and below 6.05 of
the EURO affect the stock index positively, and values above 6.05 negatively.
The IR has quite different effects on the stock index. Findings of a negative
relationship between exchange rate and stock markets as a result of the study
parallel with studies by Abdul Rahman et al. (2009), Syzdykova (2018), Ndlovu
et al. (2018), Umer (2016), Duy and Hau (2017), Belen and Karamelikli (2016),
Topaloğlu and Karakozak (2018), and Saka Ilgın and Sarı (2020). Simultaneously, the finding of a positive relationship between exchange rate and stock
markets is in line with the studies of Ratanapakorn and Sharma (2007) and
Güngör and Yerdelen Kaygın (2015). When the IR is below 10.62 and above
11.97, it affects stock prices positively. While the IR is between 10.62 and 11.97,
it affects the stock price negatively. The finding that the IR affects stock prices
negatively coincides with the results by Humpe and Macmillan (2009), Ratanapakorn and Sharma (2007), Umer (2016), Topaloğlu and Karakozak (2018),
John (2019), and Kalam (2020). On the other hand, the result that the IR positively affects the stock price supports Abdul Rahman et al. (2009) and Ndlovu
et al.’s (2018) studies. It is seen that values of the CPI above 255.23 and below
325.18 have a negative effect on the stock index, and values above 325.18 have
a positive impact. As a result of the study, the finding of a negative relationship
between the CPI and stock markets is in line with the studies of Humpe and
Macmillan (2009), Duy and Hau (2017), Güngör and Yerdelen Kaygın (2015),
and Kalam (2020), which were examined in the literature review. At the same
time, the positive relationship between the CPI and stock markets parallels with
the studies of Ratanapakorn and Sharma (2007), Ndlovu et al. (2018), Umer
(2016), Gençtürk (2009), and Okşak and Sarıtaş (2020).
It has been determined that CCI values above 81.12, one of the psychological
factors, negatively affect the stock index. This result does not coincide with the
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Münevvere Yıldız and Letife Özdemir
studies of Görmüş and Güneş (2010), Vurur and Diler (2018), and Tekin and
Cengiz (2018), who found that the CCI positively affected stock prices. A CCI
above 100 indicates an optimistic situation in consumer confidence and a value
lower than 100 indicate a pessimistic situation in consumer confidence (Turkish
Statistical Institute (TUIK), 2021). It has been determined that a value of the
VIX above 19.85 negatively affects the stock index. The result obtained in the
study is in line with the studies of Kaya and Coşkun (2015), Sadeghzadeh (2018),
and Sarıtaş and Nazlıoğlu (2019).
The R2 expresses the percentage of explanation of the stock index by the independent variables that are found to be statistically significant, and 94.9% is an
indication that the model gives good results. Another advantage of the MARS
model is that it reveals which of the study’s independent variables has more
importance on the dependent variable. Accordingly, the variable that has the
highest importance on the stock index in the study is INF. It is followed by USD,
IR, EURO, CCI, and VIX, respectively.
The study results reveal that equity shares differ according to the different values taken by the macroeconomic factors. This situation is the most crucial feature
of the study that distinguishes it from other studies in the literature. Investors,
portfolio managers, company managers, and policy-makers can follow the stock
index’s change according to the value of each factor and make more accurate
decisions for the future. In future studies on the subject, a more comprehensive
analysis can be performed by including all sectoral indices in Turkey. Also, a comparative analysis can be made by distinguishing between developing and developed countries.
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Chapter 6
Enterprise Risk Management Assessment
of Romanian Listed Companies for
Sustainable Development
Camelia-Daniela Hategan, Nicoleta Sirghi and
Ruxandra Pitorac
Abstract
Introduction: Enterprise risk management (ERM) is a process that identifies how firms manage risks. In recent years, a growing number of companies in emerging economies have begun to implement a holistic framework
for risk management for sustainable development.
Aim: The aim of this chapter is to assess the sustainability risk management
based approach to economic, social and governance performance. Analysis
will be performed on a sample of Romanian listed companies to assessment
the significant risks identified by them. Current study undertakes these
important issues and configures ambitious theoretical and empirical
research to strengthen the knowledge in this scientific field.
Method: The data used for the companies in the sample included companies listed on the Bucharest Stock Exchange in Romania and was taken
from the annual reports published by these companies available for the
years 2018 and 2019. The sustainability activities were analyzed and an
index was calculated for all activities identified in order to assess the risk
management.
Findings: Especially the aggregation of risk and the quality of derivation
of risk exposure is highly questionable. The number and proportion of
risks reported have also changed, although some risks have always been
reported frequently. Our results provide support for the recent pressure
generated by the COVID-19 pandemics, on firms to adopt more integrated
and comprehensive risk management systems.
Insurance and Risk Management for Disruptions in Social, Economic and Environmental
Systems: Decision and Control Allocations within New Domains of Risk, 107–116
Copyright © 2022 by Emerald Publishing Limited
All rights of reproduction in any form reserved
doi:10.1108/978-1-80117-139-720211006
108
Camelia-Daniela Hategan et al.
Keywords: Risk management; financial reporting; non-financial reporting;
sustainability; sustainable development; COVID-19
JEL classifications: G30; G32; M14; Q56
1. Introduction
The essence of the risk is given by the inability of a company to predict exactly
the future results that will be obtained from the investment made, results that
have an opposite impact to the desired one. Risk is that probability factor that
can be associated with a possible outcome when the decision factor knows
all the possible future effects of the decision taken. The opinion of several
experts working in the field of risk assessment (Aziz, Manab, & Othman, 2016;
Shad, Lai, Fatt, Klemeš, & Bokhari, 2019) is that this topic brings normalcy
to the business system around the world. The disappearance of risks would
cause inefficiency and lead to unusual behavior by companies. The multitude
of factors that generate business risk determine its manifestation in different
circumstances such as market risk, economic risk, financial risk, risk of
technological change, risk of bankruptcy, risk of corruption, and many others
(Achim, Pintea, & Borlea, 2011).
The production of a category of risks leads to the manifestation of incidents
that adversely affect the company. For these reasons, it is needed to control the
activities as much as possible through prevention and monitoring. As it is known,
the risks can appear in the most unexpected moments, such as the recent pressure
generated by the COVID-19 pandemics (Hategan, Curea-Pitorac, & Hategan,
2020), but it is very important to minimize, in the most favorable scenario, the
probability of a risk occurring. Thus, each high-risk activity must be taken into
account when making certain decisions regarding the achievement of the proposed objectives.
Deloitte (2019) developed a Sustainability Risk Management Framework in
order to help companies effectively combine the interests of business with those
of investors and society through a risk-based approach to environmental, social,
and governance (ESG) performance. Sustainability implementations capture
three significant values of growth, return on capital, and risk management. It
is important for a company to strive to manage the risk associated with sustainability in order not to receive large fines from regulators. Thus, the growth and
profitability of the company’s capital can be improved if it implements a sustainable strategy (Aziz et al., 2016; Phan & De Luca, 2019).
The objective of this chapter is to investigate the effects of enterprise risk
management (ERM) implementation on the value of the company in different
economic environments, on a sample of Romanian listed companies to assess the
significant risks identified by them. The current study undertakes these important
issues and configures ambitious theoretical and empirical research to strengthen
the knowledge in this scientific field. In order to carry out the study the sample
ERM Assessment of Romanian Listed Companies
109
was chosen from the companies from energy, oil, and gas industries that published non-financial information in their reports for the last two financial years
2018 and 2019. These information were analyzed according to the categories of
actions and social responsibility activities to identify the level of risk management associated with business sustainability.
This chapter contributes to the literature by including an updated analysis of
sustainability risk management of companies from analyzed industries that have
the obligation to report the sustainability information in compliance with the
legal requirements of the EU and Romania.
The remainder of the chapter is organized as follows. The literature review is
described in Section 2. Section 3 presents the methodology proposed for achieving the objective of this chapter. Section 4 presents the results and Section 5 represents the conclusions.
2. Literature Review
The progress of the concept of sustainable development at the macrolevel seems
to be developed in a similar way with the microlevel of corporate sustainability.
If initially the sustainability reports of companies focused mainly on social
responsibility issues that were caused by demands from different social groups
and pressure for better and safer conditions of employment. Subsequently, the
corporate sustainability reports focused mainly on environmental issues, in
order to protect natural resources but also to ensure that future generations
can meet their needs, for integration of ESG factors based on the sustainable
development goals (SDGs) (Tsalis, Malamateniou, Koulouriotis, & Nikolaou,
2020).
The risk reporting tool that an entity faces is the explanatory notes to the
financial statements. The financial statements of each company must also reflect
the aspects related to the risks to which the company is subject, depending on the
field of activity and the environment in which it carries out its main operations.
It is very important from the principle of business continuity that the financial
statements include all the details and conclusive information for the smooth running of the company, so users of financial statements will have a true image of
the company, their confidence will increase and the opportunity to invest in the
capital will be growing (IAASB, IAS 1).
Risk management is not an activity isolated from the rest of the management
activities. Risk assessment and treatment must be performed for all areas of activity of the organization (production quality assurance, economic, financial, information processing, project development, environmental protection, and human
resources). Risk management is essential for decision-making management
but also for business continuity management. The activities specific to the risk
management process must be carried out coherently and consistently to obtain
relevant results. The context in which the implementation of the risk management process takes place favors the internal and external environment in which
an economic entity operates. Risk management is an indicator included in the
calculation of sustainability indices, such as the Dow Jones Sustainability Indices
110
Camelia-Daniela Hategan et al.
(Miralles-Quiros, Miralles-Quiros, & Arraiano, 2017). Due to the fact that the
selection criteria change from one year to the next, companies need to improve
their long-term sustainability plans to be included in the index.
ERM can influence the performance of companies, so the implementation of
ERM justifies the effectiveness and potential strengths of oil and gas companies
(Shad & Lai, 2019). Also Mojarad, Atashbari, and Tantau (2018) examined the
relationship between the oil and industry and sustainable development, considering that there are important challenges for reducing risk management.
Li and Hu (2020) considered that corporate social responsibility (CSR) can
be used by companies in the initial public offering situation as a sustainability
risk management tool, to meet the expectations regarding the social and environmental aspects of the stakeholders. In their view, regulators should be involved in
promoting economic sustainability in countries that do not have a mature CSR
culture and strict regulations.
The external context refers, without limitation, to the economic, social, cultural, political, legal, regulatory, financial, competitive, international, national,
local environment, and the internal context refers to the organizational culture
developed at the level of an economic entity. The companies that have recognized areas of activity at risk for the local community need to show transparency regarding both the investments and the efforts they make to maximize
the positive impact (Perrini, 2005). Also, if a company whose reputation has
suffered from its own environmentally harmful activity, will be able to use the
non-financial/sustainability ratio to communicate to society those social, environmental, and economic aspects. They will directly contribute to regaining
brand trust.
In the literature, the relationship between ERM and the non-financial reporting process has been studied, thus Shad et al. (2019) proposed an integrated
approach to ERM implementation with sustainability reporting to analyze the
impact on business performance.
Sustainability risk management is correlated with non-financial risk disclosure. Truant, Corazza, and Scagnelli (2017) analyzed a sample of large Italian organizations that published sustainability reports in line with the Global
Reporting Initiative (GRI), the G4 guidelines and found that organizations
with a long history provided a significant volume of disclosure. The quality
of risk disclosure was positively influenced by their international presence and
reporting experience. Manes-Rossi, Tiron-Tudor, Nicolò, and Zanellato (2018)
in the content analysis carried out on a sample of annual and integrated reports
prepared by the top 50 European companies highlighted that the disclosure of
key risks and their management was widespread to meet the requirements of
investors and stakeholders related to the general level of risk disclosure provided by companies.
Based on a content analysis, Leopizzi, Iazzi, Venturelli, and Principale
(2020) investigated the level of disclosure of non-financial risk following the
introduction of Directive 2014/95/EU on non-financial information by a sample of Italian companies. In order to identify the effectiveness of non-financial
risk management, the perspective orientation (past, present and future) and
ERM Assessment of Romanian Listed Companies
111
the risk approach (positive, negative and neutral) were examined. The results
obtained showed that the level of disclosure of non-financial risk was better
than before the introduction of the Directive and, as it was based on the past
and present perspective, and less so on the future one.
3. Methodology
The research method is both a qualitative and a quantitative one that analyzed,
structured and synthesized the public information in order to identify the level of
risk management associated with business sustainability.
Table 1 summarizes the actions and activities of social responsibility that were
presented in the reports published by the analyzed companies, grouped into four
categories, respectively, employees, environmental protection, community, and
innovation (Milu & Hategan, 2019). The index was calculated by dividing the
number of activities identified by the total number of possible activities.
The studied population consists of sample of seven companies from the energy,
gas, and oil industries listed on the Bucharest Stock Exchange (BVB) in Romania
and included in Bucharest Exchange Trading (BET) index, for the period 2018–
2019, based on the information presented in the sustainability reports, respectively
Table 1. Sustainability Activities for Risk Management Assessment.
Employees
Environment
Relationships with
the Community
Innovation
Promoting
a culture of
environmental
protection
Reducing the
extracted water
Reducing gas
emissions
Reuse of waste
Waste recycling
Planting trees
Reducing energy
consumption
Biodiversity
Decommissioning
of the operating
areas
Prevention of soil
pollution
Green spaces
arrangement
Reducing school
dropout
Managing
complaints,
notifications
Education
Infrastructure
improvement
Partnerships
Volunteers
Scholarships
students
Health
Courses for
promotion
Smart energy
networks
Modernization/
replacement of
installations
Modernization
of technological
instruments
Implementation
of advanced
technologies
First aid lessons
Private health
insurance
Training of
employees
The relationship
with the unions
Equal opportunities
Fighting
discrimination
Professional
performance
evaluation
Dialogue with
employees
Competitions for
employees (in order
to promote sport,
culture, etc.)
Source: Milu and Hategan (2019).
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Camelia-Daniela Hategan et al.
the annual reports. The data for all the indicators were manually collected from
the website of the BVB. These companies are the most representative for the
Romanian economy having an important contribution in GDP, the Romanian
state has a majority or significant package of shares and also their shares are the
most liquid on the stock market. Also, their impact on the environment is significant, which is why sustainability risk management assessment is very important.
4. Results and Discussion
To determine the index of each company in the first stage, the characteristics of the
companies were identified, which are presented in Table 2. The information was
included by the companies in a separate sustainability report or in a component of
the annual report. It was also investigated whether explicit mentions related to the
implementation of the SDGs were made in the sustainability reports.
From Table 2 results that OMV Petrom, Romgaz, Trans Electrica, and
Energetica Electrica have the social responsability actions in their sustainability
reports in 2018 and 2019. There reports are in comformity with the Directive
2014/95/UE regarding the presentation of their non-financial information.
The sustainability reports have been prepared in accordance with the GRI
standards specific to each industry, which shows the commitment of companies to
communicate openly to all stakeholders, the impact of activities on the economy,
society, and the environment and actions taken to better meet their expectations.
Transgaz, Nuclearelectrica, and Conpet transposes the information on the
company’s social responsibility in 2018 and 2019 in a section for non-financial
informations in the Administrator report.
Table 2. The Characteristics of the Companies.
Name of Companies
Activity
Sustainability Annual
Report
Report
SDG
Mentions
OMV PETROM
Extraction of crude
petroleum
✔
Yes
ROMGAZ S
Extraction of natural
gas
✔
No
TRANS­
ELECTRICA
Transmission of
electricity
✔
No
ENERGETICA
ELECTRICA
Production of
electricity
✔
No
TRANSGAZ
Transport via pipeline
✔
No
NUCLEAR­
ELECTRICA
Production of
electricity
✔
No
CONPET
Transport via pipeline
✔
No
Source: Authors work based on the social responsibility reports published by companies on the
website of the BVB in 2018–2019.
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ERM Assessment of Romanian Listed Companies
Unfortunately, the companies’ performances in relation to the SDGs were presented only by one company, OMV Petrom. The other companies presented aspects
of sustainable development but without making explicit references to SDGs.
Table 3 presented the results of sustainability risk management assessment
index on each activity based on our calculations.
From Table 3 it results that OMV Petrom proposes a sustainability strategy
with areas of interest: employees, environment, innovation, and community,
which shows us that the main objective of the company is to present its ecological,
economic, and social impact. The sustainability report, like the other companies,
is presented on the company’s official website.
S.N.G.N. Romgaz S.A. presents the non-financial information in the sustainability report that describes how the company integrates social, economic, and
environmental aspects in all its activities and operations. Romgaz publishes integrated data on the approach to sustainability, how it operates and the structure
of operations, how to recruit team members, and how to address equal opportunities and professional development of employees, its importance is attached to
protection, environment, and biodiversity, but also how in which local communities in the areas where they operate interact and support. In 2018, only the costs
generated by actions with the community are specified in the sustainability report.
In 2019, the company is starting to put more emphasis on reporting employee
information.
For the company C.N.T.E.E. Trans Electrica, the first social responsibility
report was published in 2017. As shown in the data presented in Table 3, the
company presents in figures only the costs related to environmental activities, the
other activities being uncommunicated or partially communicated. In 2018, the
company focuses more on employee well-being and innovation, and 2019 seems
to be a priority for environmental actions.
Table 3. Results of the Sustainability Risk Management Assessment Index.
Name of
Companies
Employees
Environment
Relation with
Community
Innovation
2018
2019
2018
2019
2018
2019
2018
2019
Omv Petrom
8.8
10
8
8.8
10
10
7.5
10
Romgaz
7.7
10
7
10
8
8
10
10
Trans Electrica
7.7
7.7
7
7.7
6
8
10
10
Energetica
Electrica
6.6
5.5
5
7.7
5
6
5
5
Transgaz
5.5
7.7
6
5
5
6
5
5
Nuclearelectrica
6.6
5.5
5
5
6
4
5
2.5
Conpet
7.7
2.3
4
0
0
0
2.5
7.5
Source: Authors work based on the social responsibility reports published by companies on the
website of the BVB in 2018–2019.
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Camelia-Daniela Hategan et al.
The company Energetica Electrica S.A. presents through its sustainability
report the attention it offers to employees, the environment, the community, and
technology innovation. The year 2018 brings to the company a greater interest
regarding the transparency and credibility of CSR actions, it communicates the
total costs generated by the activities related to the environment, employees, community, and partly innovation. In 2019, the relationship with the community and
care for the environment seems to be of greater interest to the company.
S.N.T.G.N. Transgaz presented the sustainability information in the administrators’ report in 2019, and in 2018 this information were included in the company’s annual report, with a separate section for non-financial information. From
Table 3 it can be seen that the company is growing in terms of sustainability
actions, more attention to employees and the community.
S.N. Nuclearelectrica S.A. is the next company which presented non-financial
information in the annual report of years 2018 and 2019. In 2018, the company
was focused on the innovative sector by increasing the reliability of equipment
and systems.
Conpet S.A. presented the social responsibility activities in the quarterly
reports, and in 2018 the non-financial information were included in the annual
report. Among its social responsibility activities, in 2018, it can be observed the
growing involvement of the company in actions on employees, environment, and
innovation. In 2019, the company presented a report of sponsorships where it
specifies the actions for the community, the other actions being presented in the
report of the administrators.
From the analyzed companies it was found that OMV Petrom was the company that presents the best example of good practices of CSR and reporting, a
situation that was also identified in previous studies (Dura & Drigă, 2017; The
Azores, 2019). Romgaz and Transelectrica also reported more information on
risk management, which means that they are concerned with reducing risk factors for business sustainability.
5. Conclusions
Risk management has become increasingly significant in companies, relying on
value creation with the reduction of costs that could occur by producing a negative event. Risk prevention and monitoring are done through well-established procedures that help the company to correct or avoid non-compliant situations that
would lead to impairment. The financial risks to which companies are exposed
are a real interest for any company that wants a prosperous activity and that
develops progressively over time, a situation desired in most cases.
The identification of financial risks implies a good management and organization of risk monitoring procedures, being an advantage that must be taken into
account by managers, so that the decisions taken are based on the information
received and in accordance with the real situation of the entity.
The aim of this chapter was the assessment of the risk management for sustainable development. Therefore, it was found that more than half of the number of
companies reported the information in a separate sustainability report, the degree
ERM Assessment of Romanian Listed Companies
115
of information reporting was increasing from one year to another. The only company that included explicit references to SDG in the report was OMV Petrom,
which was evaluated and awarded by other specialized institutions. The results
are in line with other research that identified the fact that Romanian companies
complied with the rules on non-financial reporting showed a practice of reporting related to employees, environment, risks and business model, which means
a good implementation of risk management (Cosofret, Mart, & Manea, 2020).
Also the type of industry is a factor that influenced the non-financial disclosure,
Beleneși, Bogdan, and Popa (2021) found that companies listed on BVB from
extractive industry had the highest degree of non-financial disclosure for environmental, personnel, but also waste management issues for the period 2017–2019.
The transition to an integrated reporting or an extensive reporting of information on the activity of a company, which includes both financial and nonfinancial information must be an objective of managers that can lead to better
performance and reduced risk management.
This chapter also has its limits small number of companies including in the
sample the evaluation was purely quantitative without analyzing in detail the
quality of the information. Given that the reporting of non-financial information
has not yet been standardized, it is quite difficult to evaluate them comparatively
from one company to another, so we chose to evaluate companies in close fields
of activity.
The research should be extended, by analyzing the level of sustainability risk
management of companies in the same fields of activity over a certain period, as
well as by comparing with the situation of companies in other countries. For a
greater impact of the research, indicators of reporting relevance can be identified
and the creation of a sustainability risk management assessment index.
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Chapter 7
The Effects of Capital Structure Decisions
on Financial Risk and Failure: A Research
on BIST Food Companies1
Serdar Yaman and Turhan Korkmaz
Abstract
Introduction: Financial failure is a concept that may arise from many internal and external factors such as operational, financial, and economic items
and may incur serious losses. Over-indebtedness arising from managerial
misjudgments may cause high financial distress, insufficiency, and bankruptcy. In this regard, determination of effects of capital structure decisions on
financial failure risk is crucial.
Aim: The main purpose of this study is to explore the relationship between
capital structure decisions and financial failure risk. For this purpose, data
from Borsa İstanbul (BIST) for listed food and beverage companies for the
period from 2004 to 2019 is used. Another purpose of this study is to compare the financial failure models considering capital structure theories.
Method: In the study, capital structure decisions are associated with five different financial ratios; while the financial failure risk is proxied by financial
failure scores of Altman (1968), Springate (1978), Ohlson (1980), Taffler
(1983), and Zmijewski (1984). Therefore, five different panel data models are
used for testing these hypotheses.
1
This study is derived from the PhD thesis titled “An Examination of Financial
Failure Models According to Working Capital Management and Capital Structure
Theories: A Research on BIST Companies” completed by Serdar Yaman under the
supervision of Prof. Dr. Turhan Korkmaz in Mersin University, Institute of Social
Sciences, Department of Business Administration in 2020.
Insurance and Risk Management for Disruptions in Social, Economic and Environmental
Systems: Decision and Control Allocations within New Domains of Risk, 117–148
Copyright © 2022 by Emerald Publishing Limited
All rights of reproduction in any form reserved
doi:10.1108/978-1-80117-139-720211007
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Serdar Yaman and Turhan Korkmaz
Findings: The results of panel data analysis reveal that capital structure decisions have statistically significant effects on financial failure risk for all models; however, those effects vary from one financial failure model to another.
Also, the results show that in the models in which financial failure risk is
proxied by the Altman (1968) and Taffler (1983) scores, the aggressive financial policies increase the financial failure risk. However, regarding the models in which financial failure risk is proxied by the Springate (1978), Ohlson
(1980), and Zmijewski (1984) scores, aggressive financial policies decrease
the financial failure risk.
Originality of the Study: To the best of our knowledge, this chapter is original and important in terms of revealing the effects of capital structure decisions on the financial failure risk and comparing the financial failure models.
Implications: The results revealed that the risk of financial failure models
represented by Altman (1968) and Taffler (1983) scores are found to be statistically stronger and more successful in meeting theoretical expectations
compared to other models. Therefore, it would be more appropriate to refer
Altman’s (1968) and Taffler’s (1983) financial failure models in financial failure risk measurements.
Keywords: Capital structure; financial risk; financial failure; BIST Food
and Beverage Companies; panel data analysis; decisions
JEL classifications: G30; G32; G33
Introduction
The concept of financial failure has been discussed from different perspectives
and defined in different ways in many studies. In literature, financial failure is
defined as the financial difficulties in meeting short-term liabilities. Besides,
some other studies define financial failure as bankruptcy of a company;
demanding concordatum and/or the demand of creditors on the bankruptcy
of a company through an official channel (Altman, 1968; Blum, 1974; Brigham
& Ehrhardt, 2010; Ohlson, 1980; Springate, 1978; Taffler, 1983; Tamari, 1966;
Weibel, 1973; Zmijewski, 1984). Financial failure may arise externally and/
or internally from many operational, financial, and economic factors. It may
occur in the form of companies’ inability to meet their financial obligations,
inability to continue their activities, encounter with financial distress, financial
insufficiency, and bankruptcy, and this may cause serious damage to both companies and the economy of the country (Ashraf, Felix, & Serrasqueiro, 2019,
p. 2; Mellahi & Wilkinson, 2004, p. 22). Financial failure and a possible bankruptcy may result in situations such as loss in company share value and inability of creditors to collect their receivables. In this case, the financial failure
might not result in bankruptcy, companies can recover through restructuring
Effects of Capital Structure Decisions
119
methods; but those methods require high costs. Measuring the financial failure
risk and forecasting the financial failure are of great importance in preventing
the company from experiencing high financial distress, financial shortage, and
bankruptcy costs.
Financial failure in companies may arise from their economic environment,
as well as occur as a result of managerial misjudgments. Situations such as insufficient working capital level, insufficient cash flow, and over-indebtedness are
firm-specific reasons of financial failure (Turaboğlu, Erkol, & Topaloğlu, 2017,
p. 248). Financial managers make decisions about the type of resources used in
asset financing by considering the effects of costs of resources and capital structure on the firm’s riskiness and market value (Aydın, Başar, & Coşkun, 2017,
p. 215). Capital structure decisions are made based on many factors, such as cost
of resources, profitability, risk, type of sector of activity, business (or trade) cycle;
and covers decisions about a firm’s ability to survive, the increase in power of
investment in assets, ability to fulfill the financial obligations on time and without
any difficulties, the use of the most appropriate resources in a way that will minimize the average cost of capital and maximize the market value, and directing
these resources to the right areas. In other words, wrong capital structure decisions may be one of the causes of financial failure risk. In this context, estimating
the effects of capital structure decisions on firms’ financial failure risk is important for both firm managers and investors.
This study aims to investigate the effects of firms’ capital structure decisions
on the financial failure risk through different financial failure models and compare these models with main capital structure theories. This chapter consists of
four main sections, except for the introduction and the conclusion. In the first section, theoretical background on the relationship between capital structure decision and the financial failure risk is given; in the second section, related literature
review is given. In the third section, the data set and methodology of the study are
explained; finally, in the fourth section, the results of the panel data analysis and
empirical findings are discussed.
Capital Structure and Financial Failure Risk
The most important decision-making area of financial managers is to determine
the asset structure of the firm and finance this asset structure with optimum
resources. Financial managers make decisions on what kind of sources should be
utilized in asset financing by considering the cost of resources and the effects of
capital structure on the firms’ risk and market value (Aydın et al., 2017, p. 215).
Decisions regarding the funds needed in asset financing underlie capital structure
decisions. The common factors considered in capital structure decisions are the
risk and the market capitalization of the company and the cost of capital. It
is accepted that financial failure risk will increase due to the amount of debt.
Despite the increase in financial failure risk, it is accepted that the profitability
of companies may increase due to the leverage effect and tax advantage of borrowing. However, it is accepted that the financial failure risk of a company will
decrease if the capital structure is composed of a high level of equity. It can also
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be argued that the low indebtedness ratio brings along the low profitability ratio
and high opportunity cost.
The main purpose of capital structure decisions is to provide optimal capital
structure by arranging long-term financial resources in a way to minimize capital
cost and maximize the firm value. Various capital structure theories were revealed
as a result of the studies conducted on the existence of optimal capital structure
and the effects of the changes in capital structure on capital cost and firm value.
Capital structure theories are generally discussed under classical and modern
capital structure theories.
According to the net income theory (which is one of the classical capital structure theories), firms can increase the firm value by increasing the debt ratio in
their capital structure; in other words, they can reduce the financial failure risk
in this way. We can point out with reference to the net income theory that a positive relationship is expected between the leverage ratio and the financial failure
risk. However, the net income theory ignores the financial distress and bankruptcy
costs arising from the continuous debt financing. However, the financial structure
is damaged if the firm becomes excessively indebted. The principal must be repaid
with the interest, no matter how long the maturity of liabilities assumed due to
excessive debt. Excessive debt level may cause the firm to fail to meet its obligations and may result in bankruptcy. Contrary to the net income theory, the traditional theory (as another classical capital structure theory), accepts the financial
distress and bankruptcy costs of excessive debt. According to this theory, in line
with a moderate financial policy, optimal level of debt may maximize firm value
and reduce the financial failure risk. In the case of excessive debt financing, the
advantage of the low cost of debt financing will not be able to compensate for the
increases in the cost of equity and the increased indebtedness ratio will increase the
new borrowing costs. Under these circumstances, financial failure risk will increase
while the firm value decreases (Akgüç, 2013, pp. 485–496). The net operating
income theory and Modigliani-Miller theory (as another classical capital structure theories) argue that capital structure decisions do not have any effect on the
firm value and average cost of capital; therefore, capital structure decisions do not
cause financial failure, due to the low cost and the tax advantage. According to net
operating income theory and Modigliani-Miller theory, a significant relationship
between capital structure decisions and financial failure risk is not expected.
According to the trade-off theory, there exists an optimal capital structure;
the excessive debt level decreases the firm value and may result in financial failure
because of possible financial distress and bankruptcy costs. Hence, the trade-off
theory points out that a positive relationship between the leverage ratio and the
financial failure risk is expected.
According to the pecking order theory, companies should follow a hierarchy in capital structure decisions in case of a financial need and intra-company
resources should be at the top of this hierarchy. This theory emphasizes that
companies must prioritize the intra-company resources in capital structure decisions to lower the capital costs; this sends positive signals to the market; increases
the firm value and avoids financial failure (Ross, Westerfield, & Jordan, 2008,
pp. 575–577). According to pecking order theory, if the intra-company resources
Effects of Capital Structure Decisions
121
are insufficient, the financing of firms with debt will increase the value of the firm
compared to the issue of stocks, and it suggests that the effect of equity issuance
on financial failure is higher compared to the debts. For the pecking order theory,
a positive relationship is expected between external equity (EXE) and financial
failure risk while a negative relationship is expected between the total debt/equity
(TD/E) ratio and the financial failure risk.
Another modern capital structure theory, agency cost theory suggests that
conflicts of interest among the shareholders, managers, and creditors affect the
capital structure of the company. If this theory is interpreted in terms of capital
structure decisions, it can be said that shareholders wish to increase the profitability by increasing the debt ratio; managers wish to obtain a comfortable movement
area by decreasing the debt ratio, and finally, the creditors wish the debt ratio of
the company to remain at a level that will not bring a high financial failure risk.
According to the agency costs theory, a negative relation between the leverage
ratio and the financial failure risk is expected.
The signaling theory suggests that the capital structure decisions of a company serve as signals to investors in the market to invest in the company’s stocks
(Brealey, Myers, & Marcus, 2007, pp. 425–427). According to the signaling theory, the company’s share issuance gives the impression that the firm has negative
expectations for the future, meaning that the firm cannot find funds from external
resources, and the financial failure risk of the firm is relatively high. However,
with debt financing, the company gives the impression that managers have positive expectations, the financial structure of the company is powerful, and finally,
the financial failure risk is low. Therefore, according to the signal effect theory, a
positive relationship between EXE and the financial failure risk is expected, while
a negative relationship between the leverage ratio and the financial failure risk is
expected.
Many internal and external factors may have an effect on the financial failure
of companies. Problems such as insufficient management, excessive debt, insufficient cash flow, and working capital are the internal factors for financial failure;
these related problems also take shape in line with the capital structure decisions
(Turaboğlu et al., 2017, p. 248). Financial managers aim to increase the market
value of the firm by balancing capital structure decisions with risk and profitability. With this respect, capital structure decisions can lead to either financial
failure in companies or they can lead to recovery from financial failure. Firms can
have the chance to be successful as long as they can foresee the future and develop
efficient policies for the future (Aydin et al., 2017, pp. 333–334). Numerous models have been developed to measure the financial failure risk in firms. Some of
the financial failure risk models give information about the financial ratios that
indicate the risk of financial failure, while some others try to predict or measure
financial failure risk over the values that occur when more than one financial ratio
is combined with various weights (Bozkurt, 2014, pp. 136–137). Altman (1968),
Springate (1978), Ohlson (1980), Taffler (1983), and Zmijewski (1984) financial
failure models are the models which are frequently used in financial failure risk
measurement literature and are preferred by institutions and investors. There is
about 95.2% estimation success in the Altman (1968) model; 92.5% estimation
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success in the Springate (1978) model; 96.12% estimation success in the Ohlson
(1980) model; 97.85% estimation success in the Taffler (1983) model; and finally,
there is 97.7% estimation success in the Zmijewski (1984) model.
Literature Review
Measuring financial failure risk and forecasting financial failure has been an
attention-grabbing issue in both national and international literature since the
1960s. Discriminant, logistic regression, and probit and logit analyses have commonly been referred in the literature to model financial failure. Many studies have
findings regarding the significant relationships between capital structure decisions
and the financial failure risk. Some of those studies are summarized as follows.
Beaver (1966) endeavored to determine the successful indicators in financial
failure estimation using financial ratios of 79 non-failed and 79 failed companies in the United States for the 1954–1964 period. He found that the total debt
to total assets ratio (TD/TA) is one of the effective variables in financial failure
estimation. Tamari (1966), on the other hand, modeled the financial failure risk
of 16 industrial companies which had been declared bankrupt and 12 industrial
companies whose bankruptcy was requested in Israel between 1956 and 1960.
He developed a model and specified that ratio of equity to total liabilities (E/
TD) is one of the two most important variables with the profit trend variable to
estimate financial failure. Altman (1968) developed a financial failure model for
publicly held manufacturing companies and expressed that the ratio of market
value equity/total debt (E/TD) is one of the significant variables. Altman (1983)
developed a financial failure model for all publicly traded and non-publicly
traded companies operating in the manufacturing sector, and Altman (1993), on
the other hand, developed a financial failure modeling for all publicly traded and
non-publicly traded companies operating in or outside the manufacturing sector.
In the models developed as a result of both studies, the E/TD ratio was found to
be among the significant variables.
Ohlson (1980) aimed to develop an efficient model for financial failure risk
measurement using the data of 105 failed and 2,058 non-failed companies in the
United States; Fulmer, Moon, Gavin, and Erwin (1984) utilized the data of 30
failed and 30 non-failed companies operating in the United States with an average
asset size of approximately 40 million USD to develop an efficient model to measure the financial failure risk; Zmijewski (1984) analyzed the data of 81 failed and
1,600 non-failed firms listed in the New York Stock Exchange (NYSE) to develop
a financial failure risk measurement model. Regarding Shumway (2001), he aimed
to develop an efficient model for financial failure risk using the data of 300 failed
firms traded on NYSE and American Stock Exchange. Frydman, Altman, and
Kao (1985) tried to create a model to measure the financial failure risk by utilizing the data of 58 failed and 142 non-failed manufacturing companies operating
in the United States. According to all those studies’ results, TD/TA ratio is one of
the key determinants of financial failure. Aktaş (1993) endeavored to develop a
financial failure estimation model through the data of 25 non-failed and 35 failed
firms operating in Turkey during the 1980–1989 period. His results show that,
Effects of Capital Structure Decisions
123
20 financial ratios including TD/TA, TD/E, and the ratio of short-term debts to
equity were found to be the determinants of the financial failure risk. Asquith,
Gertner, and Scharfstein (1994) conducted a study with the data of 102 companies with financial difficulties in the United States during the 1976–1989 period;
they reviewed the factors that affect the financial failure risk and found a strong
relationship between debt structure and financial failure risk. Hill, Perry, and
Andes (1996) analyzed the data of 381 manufacturing companies, 75 of which
were unsuccessful, operating in the United States for the 1979–1987 period. They
observed a positive relationship between financial leverage ratio and the financial
failure risk; a negative significant relationship between firm profitability with firm
size and the financial failure risk also was determined. Doumpos and Zopounidis
(1999) tried to estimate the financial failure risk of 40 companies, six of which
were failed in Greece by using various methods for the 1986–1990 period. Their
results revealed that the financial leverage ratio was one of the determinants of
the financial failure risk in all the models developed. Similarly, financial failure
risk indicators were also examined by Pindado and Rodrigues (2005) using the
data of companies operating in the USA, England, and Germany for the 1990–
1999 period. They determined at the end of the study that the financial leverage
ratio of the firms is the key determinant of the failure risk.
Ünsal (2001) conducted a study using the data of 55 non-failed and 16 failed
companies operating in Turkey. Aktaş, Doğanay, and Yıldız (2003) utilized the
data of 53 non-failed and 53 failed firms operating in Turkey. According to the
results of these studies, TD/TA ratio and the ratio of debt maturity structure of
debts (MSD) are significantly effective on the financial failure risk; these related
ratios can also be used in financial failure estimation. Ganesalingam and Kumar
(2001) surveyed the financial failure risk determinants by using the data of 42
non-failed and 29 failed companies operating in Australia in the period between
1986 and 1991. He found that TD/TA and long-term debts to total assets (LTD/
TA) variables have significant impacts on the failure risk. Foreman (2003) performed a study with the data of 63 communication sector companies operating in
the United States for the period between 1999 and 2001. Research results showed
that LTD/TA variable has significant effects on the financial failure risk. Zheng
(2002) surveyed the factors affecting financial failure risk by using the data of 18
bankrupt and 18 successful restaurants in the United States for the 1986–1998
period. Research results show us the financial leverage ratio is effective on the
financial failure risk while the long-term financing options (LTFO) variable is not
effective.
Uğurlu and Aksoy (2006) analyzed the financial failure risk for 23 non-failed
and 23 failed firms operating in Turkey during the 1996–2003 economic turmoil
periods. Results revealed that LTD/TA ratio is quite high for the non-failed companies; the increases in the same ratio, decreases the financial failure risk. Pindado, Rodrigues, and De La Torre (2006) investigated the determinants of the
financial failure risk in SMEs utilizing the data of 402 SMEs operating in Portugal during the period of 1990–1997. The study found that LTFO, MSD, and
non-debt tax shield variables have significant effects on the financial failure risk
of SMEs; again, for the study results, SMEs which are financially unsuccessful do
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not make capital structure decisions based on a proper policy. Jones and Hensher
(2004) examined financial failure risk determinants using the data of the various
firms that are financially successful, having difficulties with insolvency, and having filed for bankruptcy in Australia in the 1996–2003 period. Another similar
study was conducted by Keener (2013) who used the data of 1,203 retail companies operating in the United States in the 2005–2012 period. It was found at the
end of both studies that the increases in the TD/E ratio cause an increase in the
financial failure risk.
Terzi (2011) developed a model for financial failure estimation by utilizing the
data of 10 failed and 12 non-failed food companies operating in Turkey in the
period between 2009 and 2010. He found that TD/TA and E/TD ratios have significant effects on the financial failure risk. Büyükarıkan and Büyükarıkan (2014)
investigated the relations between the financial failure risk values computed by
Altman’s (1968) Z-score and Springate’s (1978) S-score models for six informatics
firms operating in Turkey in the 2008–2013 period. According to the results, the
TD/TA ratio is effective on the Z-score value of the firms and not effective on the
S-score value; MSD ratio is not effective on both Z- and S-score values.
Kristanti, Rahayu, and Huda (2016) researched utilizing the data of seven
family businesses operating in Indonesia in the 2008–2013 period. Their findings show that TD/TA variable has negative effects on financial failure. Susanti,
Latifa, and Sunarsi (2020), in contrast to Kristanti et al. (2016), used the data of
21 companies operating in Indonesia in the 2014–2018 period and determined
that the TD/TA variable has positive effects on the financial failure risk. Toraman
and Karaca (2016) employed the data of 17 large companies listed in Istanbul
Stock Exchange (ISE) during the period of 2010–2013 to specify the relationships
between internal factors and Altman’s (1968) Z-score. According to their findings, the TD/TA ratio has a positive effect on the Z-score values, in other words,
an increase in financial leverage increases the financial failure risk while E/TD
ratio is not effective on Z-score value. Similarly, Gör (2019) and Türkmen (2020)
conducted separate studies using the data of BIST-100 index companies operating
in the 2009–2016 and 2009–2015 periods, respectively, and found that the TD/TA
ratio has significantly positive effects on Altman’s (1968) Z-score value.
Akpınar and Akpınar (2017) used the data of 82 manufacturing companies
operating in Turkey in the 2010–2014 period and determined that the TD/TA
ratio has negative impacts on both Altman’s (1968) Z-score and Altman’s (1983)
Z’-score values. Again, similarly, data of 37 real sector firms included in the
BIST-100 index were utilized by Turaboğlu et al. (2017) to investigate the internal factor that affects Altman’s (1968) Z-score and Springate’s (1978) S-score
values. The results revealed that TD/TA, LTD/TA, and EXE variables have negative effects on both Z- and S-score values. Güngör and Armutlu (2020) found a
negative relation between the TD/TA variable and Altman’s (1968) Z-score value
in their study that was conducted with the data of 16 international airline companies operating in the 2010–2018 period. Yazdanfar and Öhman (2020) found that
financial leverage ratio increases the financial failure risk. Authors used the data
of 3,865 SMEs operating in Sweden in the 2008–2015 period and emphasized that
the TD/TA variable has a positive effect on the financial failure risk.
Effects of Capital Structure Decisions
125
Data and Methodology
This chapter aims to expose the relations between capital structure decisions and
the financial failure risk. Throughout this aim, the relationships among various
capital structure ratios and financial risk indicators of food, beverage, and tobacco
companies traded in Borsa İstanbul (BIST) in the period from 2004 to 2019 were
analyzed utilizing panel regression analysis. The data of food companies were
used in the sample of the study. It is assumed that food companies are less flexible than other sectors in the face of economic problems such as a crisis. For this
reason, banks and other financial institutions were deliberately excluded from the
scope of the study. As it is commonly known, food is the most basic need of people
and people cannot cut their food expenditures by too much even in times of crisis.
Therefore, it can be assumed that food companies are less affected by economic
problems such as crisis, compared to other sector enterprises (Ozen, Yesildag,
& Soba, 2015, p. 488). Considering that the data of the study covers the period
between 2004 and 2019 and that the 2008 financial crisis and some other political
and economic events occurred during this period, food companies were included
in the sample. Another aim of this study is to compare the financial failure models
based on the capital structure theories. Within the scope of the study, semi-annual
financial statement data of food, beverage, and tobacco companies were used for
the period between 2004 and 2019. The starting date of the data was set as 2004,
due to the inflation adjustment law in the financial statements that entered into
force in 2004. Accordingly, the data set consisted of 32 semi-annual financial statements published between 2004 and 2019. The study covers 19 food, beverage, and
tobacco companies. Although the authors would have liked to have all companies
operating in the food sector to be included in the study, nine food, beverage, and
tobacco companies were excluded from the scope of the study due to the lack of
continuity in BIST or their data could not be accessed regularly in the period of
2004:6 to 2019:12. In the following parts of this chapter, the food, beverage, and
tobacco sector is briefly referred to as the food sector. Table 1 shows the food companies whose data was used in this study and their stock exchange codes.
In the study, fve financial structure ratios are used to represent different dimensions of the capital structure decisions as independent variables in the econometric models. The financial failure risk for the food companies is calculated via the
financial failure models of Altman (1968), Springate (1978), Ohlson (1980), Taffler (1983), and Zmijewski (1984) which is included in the econometric models
as dependent variable. The models used to calculate financial failure risk were
selected based on their importance level in literature and the level of success in
financial failure measurement. Table 2 shows the financial ratios and formulas
that are used in calculating financial failure risk based on Altman (1968), Springate (1978), Ohlson (1980), Taffler (1983), and Zmijewski (1984).
High values in the scores of Altman (1968), Springate (1978), Ohlson (1980),
Taffler (1983), and Zmijewski (1984) for financial failure risk proxies indicate that
the financial failure risk is low; while low values in the same scores indicate that
the financial failure risk is high. A control variable was added to each econometric model in this study to improve the significance level of the model and
DARDL
ERSU
FRIGO
KENT
KERVT
KNFRT
KRSTL
3
4
5
6
7
8
9
10 MERKO
AEFES
BANVT
2
Code
14
13
12
11
Merko Gıda Sanayi ve Ticaret A.Ş.
Kristal Kola ve Meşrubat Sanayi Ticaret A.Ş.
Konfurt Gıda Sanayi ve Ticaret A.Ş.
Kerevitaş Gıda Sanayi ve Ticaret A.Ş.
Kent Gıda Maddeleri Sanayii ve Ticaret A.Ş.
19
18
17
16
Frigo-Pak Gıda Maddeleri Sanayi ve Ticaret A.Ş. 15
Ersu Meyve ve Gıda Sanayi A.Ş.
Dardanel Önentaş Gıda Sanayi A.Ş.
Banvit Bandırma Vitaminli Yem Sanayii A.Ş.
Anadolu Efes Biracılık ve Malt Sanayii A.Ş.
Name of the Company
Food Companies and Stock Exchange Codes.
1
Table 1.
ULKER
TUKAS
TATGD
TBORG
SELGD
PNSUT
PINSU
PETUN
PENGD
Code
Ülker Bisküvi Sanayi A.Ş.
Tukaş Gıda Sanayi ve Ticaret A.Ş.
Tat Gıda Sanayi A.Ş.
Türk Tuborg Bira ve Malt Sanayii A.Ş.
Selçuk Gıda Endüstri İhracat İthalat A.Ş.
Pınar Süt Mamülleri Sanayii A.Ş.
Pınar Su ve İçecek Sanayi ve Ticaret A.Ş.
Pınar Entegre Et ve Un Sanayii A.Ş.
Penguen Gıda Sanayi A.Ş.
Name of the Company
126
Serdar Yaman and Turhan Korkmaz
Ohlson (1980) Financial
Failure Risk Score
OHLSON
Springate (1978) Financial SPRINGATE
Failure Risk Score
ALTMAN
Formulas
(X9) (NIt−NIt−1)/(|NIt|+|NIt−1|), where NI is net income for the most recent period
(X8) 1 if net income was negative for the last two years, 0 if otherwise
(X7) Funds Provided by Operations/Total Liabilities
(X6) Net Income/Total Assets
(X5) 1 if total liabilities exceed total assets, 0 if otherwise
(X4) Current Liabilities/Current Assets
(X3) Working Capital/Total Assets
(X2) Total Liabilities/Total Assets
(X1) Log(Total Assets/Gross National Product)
Z = 1.03*X1+3.07*X2+0.66*X3+0.4*X4
(X4) Sales/Total Assets
(X3) Earnings Before Taxes/Current Liabilities
(X2) Earnings Before Interest and Taxes/Total Assets
(X1) Working Capital/Total Assets
Z=0.012*X1+0.014*X2+0.033*X3+0.006*X4+0.999*X5
(X5) Net Sales/Total Assets
(X4) Market Value Equity/Book Value of Total Debt
(X3) Earnings Before Interest and Taxes/Total Assets
(X2) Retained Earnings/Total Assets
(X1) Working Capital/Total Assets
Notations
Variables
Altman (1968) Financial
Failure Risk Score
Financial Failure Risk Representatives and Formulas.
Table 2.
Effects of Capital Structure Decisions
127
(Continued)
TAFFLER
Zmijewski (1984) Financial ZMIJEWSKI
Failure Risk Score
Taffler (1983) Financial
Failure Risk Score
Table 2.
Z=−4.336−4.513*X1+5.769*X2+0.004*X3
(X3) Current Assets/Current Liabilities
(X2) Total Debt/Total Assets
(X1) Net Income/Total Assets
Z=3.20+12.18*X1+2.50*X2−10.68*X3+0.03*X4
(X4) (Current Assets−Inventories−Short-term Debt)/(Net Sales−Earnings Before
Taxes+Depreciations)
(X3) Current Liabilities/Total Assets
(X2) Current Assets/Total Debt
(X1) Earnings Before Interest and Taxes /Average Short-term Debt
Z = −1.32−0.407*X1+6.03*X2−1.43*X3+0.0757*X4−2.37*X6−1.83*X7+0.285X8
−1.72*X5−0.521*X9
128
Serdar Yaman and Turhan Korkmaz
Effects of Capital Structure Decisions
129
also provide consistent and unbiased estimations. Related control variables were
selected from among the variables affecting financial failure risk. The independent variables and control variables of the econometric models are given in Table 3.
Research variables were generated by obtaining the percentage change of the
raw value in a specific time compared to the previous period. Data regarding all
the variables in this study were obtained from the financial reports of the Public
Disclosure Platform official website (www.kap.org.tr) and Financial Information
News Network (www.finnet.com.tr) financial database.
The data sets consist of 19 cross-section dimensions (N) and 32 time dimensions (T). Since the data sets have the characteristics of the panel data, the
relations between capital structure decisions and the financial failure risk were
analyzed by the panel regression analysis (Yaman, 2020: 109). Panel data take
different names based on their cross-section and time dimension lengths. Panels with long-N and short-T dimensions are called micropanels; panels with
short- or medium-N and long-T dimensions are called macropanels. Micropanels are in a minimum of 2 N and a maximum of 10–20 T; macropanels are
in a minimum of 7–20 N and a minimum of 20–60 T dimensions. Different
econometric processes are applied in micro- and macropanels. There is a need
to provide cross-section dependence and stationarity assumptions in studies that are conducted with macropanels while these two assumptions do not
become inevitable in studies with micropanels (Baltagi, 2014, p. 1). Since the
models are in 19 N and 32 T sizes, all the data sets were accepted as macropanels; and assumptions such as cross-section dependence and stationarity were
Table 3. Independent and Control Variables.
Variables
Notations
Independent Total Debt Ratio
TDTA
Variables
Total Debt to Equity TDE
Control
Variables
Formulas
Total Debt/Total Assets
Total Debt/Equity
Maturity Structure of MSD
Debts
Short-term Debt/Total Debt
Long-term Financing LTFO
Options
Long-term Debt/Equity
External Equity
EXE
(Equity-retained Earnings)/
Total Assets
Net Sales to Total
Assets
NSTA
Net Sales/Total Assets
EBITTA
EBITTA
Earnings Before Interest and
Taxes/Total Assets
Return on Assets
ROA
Net Income/Total Assets
EBT/Average Short- EBTSTD Earnings Before Taxes/Earnings
term Debt
Before Interest and Taxes/
Average Short-term Debt
130
Serdar Yaman and Turhan Korkmaz
considered and tested. There are three panel data models, including the fixed
effects model, random effects model, and the pooled model. It is appropriate to
use the fixed effects model if the data set focuses on a specific set of individuals, firms, or countries, and the results are limited to the behavior of those individuals, firms, or countries. It is appropriate to use the random effects model if
individuals, firms, or countries in the data set are chosen randomly from a large
population of individuals, firms, or countries. Finally, the pooled model can be
used if it is assumed that all the cross-sections in the panel are the same (Baltagi,
2014, pp. 14–20).
Before proceeding to panel regression analysis, multi-collinearity expressing
the high correlation between independent variables; cross-section dependence
that indicates the relationships between the cross-sections in the models; the
homogeneity/heterogeneity of the series; autocorrelation that is the relationship
between error terms and heteroskedasticity that is defined as the unstable status
of the error term variances for all cross-sections should be tested (Ün, 2015, p. 71).
Spearman’s correlation analysis and variance inflation factor (VIF) analysis were
used to determine the multi-collinearity problem. The cross-section dependence in
series was investigated by Pesaran’s et al. (2008) LMadj test. The homogeneity/heterogeneity statues of the series were investigated by Pesaran and Yamagata (2008)
 ) and delta adjusted ( ∆
 ) tests. Stationarity in the series was tested
delta ( ∆
adj
by Levin, Lin, and Chu (2002), Breitung (2001), Im, Pesaran, and Shin (2003),
Maddala and Wu (1999), Choi (2001), Smith, Leybourne, Kim, and Newbold
(2004) Bootstrap, and Bai and Ng (2004) PANIC panel unit root test. Finally,
serial correlation assumption was tested by Baltagi and Li (1991) LMp and Born
and Breitung (2016) LMp* tests and heteroskedasticity assumption was tested by
Breusch and Pagan (1979) LMh test. Panel data analysis and assumption tests
were performed using Eviews 10 and Gauss 10 econometric analysis programs.
Table 4 shows the panel data models and hypotheses tested via the models.
Empirical Results
This part of the chapter reviews the empirical findings as a result of panel regression analysis and assumption tests regarding the econometric models developed
to examine the relationship between capital structure decisions and the financial
failure risk. Descriptive statistics were examined before proceeding with the analyses and pre-tests. The descriptive statistics regarding the variables are presented
in the Table A1.
According to the descriptive statistics in Table A1, ALTMAN has the highest
and ZMIJEWSKI has the lowest average value among the financial failure risk
variables. EXE has the highest and LTFO has the lowest average value among
the capital structure variables. EBTSTD has the highest standard deviation
value. Regarding the skewness values, TAFFLER, TDE, LTFO, and EBITTA
variables are skewed to the left and all other variables are skewed to the right. All
the variables display a peaked distribution in terms of the kurtosis values. Concerning the Jargue-Bera statistics and probability values, none of the variables com­
ply with the normal distribution. The facts of the mean and median values of the
Effects of Capital Structure Decisions
131
Table 4. Models and Hypotheses.
Models
Model 1:ALTMANit=β0+β1 TDTA+
β2 TDEit+β3 MSDit+β4 LTFOit+β5
EXEit+β6 NSTAit+uit
Hypotheses
H1: Capital structure decisions have
statistically significant effect on the
Altman (1968) score
H2: Capital structure decisions have
Model 2:SPRINGATEit=β0+
statistically significant effect on the
β1 TDTA+β2 TDEit+β3MSDit+
β4 LTFOit+β5 EXEit+β6 EBITTAit+uit Springate (1978) score
Model 3:OHLSONit=β0+β1 TDTA+
β2 TDEit+β3 MSDit+β4 LTFOit+
β5 EXEit+β6 ROAit+uit
H3: Capital structure decisions have
statistically significant effect on the
Ohlson (1980) score
Model 4:TAFFLERit=β0+β1 TDTA+ H4: Capital structure decisions have
statistically significant effect on the
β2 TDEit+β3 MSDit+β4 LTFOit+
Taffler (1983) score
β5 EXEit+β6 EBTSTD+uit
Model 5:ZMIJEWSKIit=β0+
β1 TDTA+β2 TDEit+β3 MSDit+
β4 LTFOit+β5 EXEit+β6 ROAit+uit
H5: Capital structure decisions have
statistically significant effect on the
Zmijewski (1984) score
variables are not coincident and the skewness and kurtosis values are not equal
to 0, indicating that the variables do not adapt to the normal distribution (Çil
Yavuz, 2015, pp. 34–37).
VIF analysis2 and Spearman’s correlation analysis methods were used to determine the variables that may cause multi-collinearity problems. Multi-collinearity
problems can be mentioned in the panel data models if the independent variables
have VIF values that are equal to 4 or higher than 4; or, if there is a correlation
coefficient that is higher than 0.75 or lower than −0.75 among the independent
variables (Asteriou & Hall, 2007, p. 90). The results of the VIF analysis for each
independent variable are presented in Table 5 and the results of the Spearman’s
correlation analysis are presented in Table 6.
According to the VIF analysis results presented in Table 5, none of the independent variables have a VIF value that is equal to 4 or higher than 4, and
according to the spearman’s correlation analysis results presented in Table 6,
no pair of independent variables has a correlation coefficient that is higher than
0.75 or lower than −0.75. Therefore, both VIF analysis results and spearman’s
correlation analysis results reveal that using the selected variables in the same
econometric model will not cause a multi-collinearity problem.
2
VIF values for each of the independent variables are calculated by using the formula
1/(1 – R2). R2 values are obtained from the estimation of the ordinary least square
regression models in which each of the independent variables are used respectively as
dependent variable and the others are used as independent variables (Asteriou & Hall,
2007, p. 90).
0.1093
0.0394
0.0327
0.0039
−0.0939
TDE
MSD
LTFO
EXE
NSTA
EBTSTD
ROA
EBITTA
0.1188
TDTA
R2
0.914177
1.003926
1.033850
1.041059
1.12266
1.134869
VIF
MODEL 1
0.0004
0.0035
0.0325
0.0302
0.1072
0.1185
R2
1.0004
1.0035
1.0336
1.0312
1.1200
1.1344
VIF
MODEL 2
VIF Values of Independent Variables.
Variables
Table 5.
0.0003
0.0034
0.0325
0.0306
0.1070
0.1194
R2
1.0003
1.0034
1.0336
1.0316
1.1198
1.1355
VIF
MODEL 3
−0.0022
0.0033
0.0325
0.0306
0.1070
0.1192
R2
0.9978
1.0033
1.0336
1.0316
1.1198
1.1353
VIF
MODEL 4
0.0003
0.0034
0.0325
0.0306
0.1070
0.1194
R2
1.0003
1.0034
1.0336
1.0316
1.1198
1.1355
VIF
MODEL 5
132
Serdar Yaman and Turhan Korkmaz
−0.016
(0.701)
(0.305)
(0.705)
(0.383)
−0.042
−0.015
(0.671)
(0.796)
−0.035
−0.017
−0.011
(0.097)
(0.223)
(0.5599
−0.067
(0.012)
−0.050
−0.024
−0.102
0.178
(0.000)
0.079
(0.1039
(0.000)
(0.051)
0.066
–
0.195
1.000
0.288
(0.000)
TDE
(0.397)
−0.034
(0.830)
0.009
(0.947)
−0.003
(0.1399
0.060
(0.611)
−0.021
(0.236)
0.048
–
1.000
MSD
(0.975)
−0.001
(0.911)
−0.005
(0.911)
−0.005
(0.702)
0.016
(0.747)
−0.013
–
1.000
LTFO
(0.969)
0.002
(0.856)
0.007
(0.737)
0.014
(0.948)
0.003
–
1.000
EXE
Note: Values in the parentheses indicate the probability values for each correlation coefficient.
EBTSTD
ROA
EBITTA
NSTA
EXE
LTFO
MSD
TDE
1.000
TDTA
–
TDTA
Capital Structure Variables
Correlation Coefficients of Independent Variables.
Coefficient
(Prob.)
Table 6.
(0.891)
−0.006
(0.367)
0.037
(0.767)
0.012
–
1.000
NSTA
(0.346)
0.038
(0.842)
0.008
–
1.000
EBITTA
(0.000)
0.636
–
1.000
ROA
Control Variables
–
1.000
EBTSTD
Effects of Capital Structure Decisions
133
134
Serdar Yaman and Turhan Korkmaz
One of the most important issues before estimations in panel data models is to
control for cross-sectional dependence across the members of the panel, because
a shock affecting one company may also affect other companies (Menyah, Nazlioglu, & Wolde-Rufael, 2014, p. 389). Pesaran et al. (2008) suggest a LMadj test,
that gives consistent results if the time dimension is greater than the cross-section
dimension (T>N). Since the panel data sets of the study consist of 32 time and
19 cross-section dimensions, LMadj test is used to control for the cross-section
dependence across the food companies that are included in the panels. Another
important issue to be controlled before estimations is whether the slope coeffi and
cients are homogeneous or heterogeneous. Pesaran and Yamagata (2008) ∆

∆adj tests are used to control for the homogeneity assumption. The unit root test
employed to examine the stationarity in the series differ depending on whether
there is a cross-sectional dependence between companies and whether the slope
coefficients of the series are homogeneous or heterogeneous. The results of Pesa and ∆
 tests
ran et al.’s (2008) LMadj test and Pesaran and Yamagata (2008) ∆
adj
are presented in Table 7.
According to Pesaran’s et al. (2008) LMadj test results in Table 7, probability
values of OHLSON, NSTA, and EBTSTD are significant at 1% significance level
and probability value of ROA is significant at 5% significance level. In other
words, the null hypothesis is rejected for OHLSON, NSTA, ROA, and EBTSTD
but cannot be rejected for the other variables. In line with the results of the crosssectional dependence test, for OHLSON, NSTA, ROA, and EBTSTD stationarity assumption is examined by using the second-generation panel unit root tests
and for the other variables it is examined by using the first-generation panel unit
 ve ∆
 tests results,
root tests. According to Pesaran and Yamagata (2008) ∆
adj
probability values of ALTMAN, OHLSON, TDE, and ROA are significant at 1%
significance level and probability values of SPRINGATE and ZMIJEWSKI are
significant at 5% significance level. Put differently, the null hypothesis is rejected
for ALTMAN, SPRINGATE, OHLSON, ZMIJEWSKI, TDE, and ROA, and
these variables show heterogeneous properties. But the null hypothesis cannot be
 and ∆
 tests, for
rejected for the other variables. In line with the results of ∆
adj
ALTMAN, SPRINGATE, OHLSON, ZMIJEWSKI, TDE, and ROA stationarity assumption is examined by using panel unit root tests which takes heterogeneous estimation into account, and for the other variables it is examined by using
panel unit root tests which takes homogeneous estimation into account.
While Levin et al. (2002) and Breitung (2001) applied unit root tests for homogeneous series that does not include cross-sectional dependence, Im et al. (2003),
Maddala and Wu (1999), and Choi (2001) checked unit root tests for heterogeneous series that does not include cross-sectional dependence. Finally, Smith
et al. (2004) and Bootstrap and Bai and Ng (2004) PANIC applied panel unit root
tests for stationarity examination for the series with cross-sectional dependence.
In this regard, the stationarity assumption in TAFFLER, TDTA, MSD, LTFO,
EXE, and EBITTA is examined by using Levin et al. (2002) and Breitung’s (2001)
tests which are the first-generation panel unit root tests to take homogeneous estimation into account. The stationarity assumption in ALTMAN, SPRINGATE,
ZMIJEWSKI and TDE is examined by using Im et al. (2003), Maddala and
0.555
32.884
0.831
2.008
4.210
NSTA
EBITTA
ROA
EBTSTD
No Dependence
No Dependence
0.000*** Dependence
0.022** Dependence
0.203
0.000*** Dependence
0.328
No Dependence
No Dependence
0.126
3.428
0.208
1.002
0.234
−2.433
0.855
4.346
0.922
2.047
−0.165
0.450
0.001***
0.417
0.158
0.407
0.993
0.196
0.000***
0.178
0.020**
0.565
0.132
3.412
0.219
1.052
0.246
−2.556
0.898
4.565
0.968
2.151
−0.173
2.589
1.890
3.162
Note : ***, **, * respectively indicate the significance levels of 1%, 5% and 10%.
Decision
Heterogeneous
Homogeneous
Heterogeneous
Homogeneous
Homogeneous
Homogeneous
Homogeneous
Homogeneous
Homogeneous
0.447
Homogeneous
0.000*** Heterogeneous
0.413
0.146
0.403
0.995
0.185
0.000*** Heterogeneous
0.167
0.016**
0.569
0.005*** Heterogeneous
0.029**
0.001*** Heterogeneous
Statistic Probability
H0: Slope coefficients are homogeneous
0.445
EXE
0.987
0.776
No Dependence
No Dependence
No Dependence
No Dependence
0.007***
0.036**
0.001***
Probability

∆
adj
The null hypothesis for homogeneity tests
−2.220
LTFO
0.344
0.826
0.413
0.372
2.465
1.800
3.010
Statistic

∆
H0: No cross-sectional dependence
−0.760
MSD
No Dependence
No Dependence
0.001*** Dependence
0.811
0.289
Probability
Decision
The null hypothesis for cross-sectional dependence test
0.401
TDE
0.219
ZMIJEWSKI
−0.976
0.326
TAFFLER
TDTA
3.107
−0.880
OHLSON
SPRINGATE
Statistic
LMadj
Results of Cross-sectional Dependence and Homogeneity Tests.
ALTMAN
Variables
Table 7.
Effects of Capital Structure Decisions
135
136
Serdar Yaman and Turhan Korkmaz
Wu (1999), and Choi’s (2001) tests which are the first-generation panel unit root
tests to take heterogeneous estimation into account. Finally, the stationarity
assumption in OHLSON, NSTA, ROA, and EBTSTD is examined by using Smith
et al. (2004) Bootstrap and Bai and Ng (2004) PANIC tests which are the secondgeneration panel unit root test. Results of the panel unit root tests are presented in
Table A2. The results of the panel unit root tests in the Table A2, revealed that all the
dependent and explanatory variables are stationary at the level and all probability
values are significant at a 1% significance level. In other words, the null hypothesis
assuming that series have unit root is rejected for all the variables.
Autocorrelation is expressed as the presence of a significant relationship
between the successive values of error terms, while heteroscedasticity is expressed
as the covariances of error terms that are not equal to zero and also the error
term variances that take different values for all sections. Both situations cause
the results in panel regression analyses to be deviant and inconsistent. Autocorrelation assumption in models of this research was examined utilizing Baltagi
and Li (1991) LMp and Born and Breitung (2016) LMp* tests. Heteroskedasticity
assumption was examined utilizing Breusch and Pagan (1979) LMh test. Autocorrelation and heteroscedasticity test results are presented in Table 8.
Contradictory results of Baltagi and Li (1991) LMp and Born and Breitung
(2016) LMp* tests were revealed for Model 1, Model 2, and Model 3. Born and
Breitung (2016) LMp* tests’ results are considered when deciding whether there is
autocorrelation in these models. Autocorrelation problem was seen in all models
based on LMp* test’s results and the null hypothesis which assumes that there is
no autocorrelation problem in the model is rejected for all the models. Breusch
and Pagan (1979) LMh test results revealed that probability values for all models
are significant at 1% significance level. Namely, the null hypothesis assuming
Table 8. Autocorrelation Tests Results Related to Models.
Test
MODEL 1 MODEL 2 MODEL 3 MODEL 4 MODEL 5
Baltagi and
Li (1991)
Stat. 2.118
1.010
14.107
1.212
41.613
LMp
Prob. 0.146
0.315
0.000***
0.271
0.000***
Born and
Stat. 5.025
Breitung (2016)
3.205
20.663
3.560
52.487
LMp*
Prob. 0.025**
0.073*
0.000***
0.060*
0.000***
Breusch and
Pagan (1979)
Stat. 5,222.772 5,221.066 945.820
1,398.045 1,779.806
LMh
Prob. 0.000***
0.000***
0.000***
0.000***
0.000***
The null hypothesis for the
autocorrelation tests
The null hypothesis for the heteroskedasticity
test
H0: No autocorrelation
H0: No heteroskedasticity
Note:***, **, * respectively indicate the significance levels of 1%, 5% and 10%.
Effects of Capital Structure Decisions
137
that there is no heteroskedasticity problem in the model is rejected for all models.
Determining autocorrelation and heteroskedasticity problems in models makes
using robust estimators essential. Period SUR-PCSE (Seemingly Unrelated
Regression-Panel Corrected Standard Errors), Cross-section SUR-PCSE (Seemingly Unrelated Regression-Panel Corrected Standard Errors), and White period
coefficient covariance methods that were developed by Beck and Katz (1995)
were used as robust estimators to solve autocorrelation and heteroskedasticity
problems in models.
Since our data sets are focused on a specific period and firm sets, the fixed
effects model was considered for estimations. F-test is used to examine whether
the fixed effects occur in cross-sections only (one-way fixed effects), in periods
only (one-way fixed effects), or in both cross-sections and periods (two-way fixed
effects). Breusch and Pagan (1980) and Honda’s (1985) tests were utilized to
examine whether there were random effects in the models or not. F-test, Breusch
and Pagan (1980) and Honda’s (1985) tests results are presented in Table 9.
It can be seen from the F-test results in Table 9 that there are fixed effects in
cross-section dimension in Model 4 and in both cross-section and time dimension
in Model 5. For Breusch and Pagan (1980) test results, there are random effects
only in the time dimension in Model 5. According to Honda’s (1985) test results,
there are random effects only in the cross-section dimension in Model 4 while the
same effects can be observed only in the time dimension in Model 5. The authors
performed estimations by considering the presence of fixed effects only in the
time dimension, in the cross-section dimension, and in both cross-section and
time dimensions due to the ability of data sets to focus on a specific period and
firm set. Table 10 presents the results of the panel regression analysis regarding
the models that were developed to reveal the relations between capital structure
decisions and the financial failure risk in the food sector.
The panel data analysis results in Table 10 reveal that F-probability values,
which mean the significancy of models as a whole, are significant at 1% significant level. In this case, H1–H5 that are tested within the scope of this study are
accepted. In other words, panel data regression analysis results prove that capital
structure decisions in food companies have significant effects on the financial
failure risk. According to the results, one notes that Model 1, in which the financial failure risk is calculated by using Altman’s (1968) financial failure model, is
the model with the highest explanatory power and significance level due to its R2
and F-statistic values. In line with the R2 values of the models, it can be said that
as a whole, the capital structure decisions variable can explain approximately
53.81% of the changes in Altman’s (1968) financial failure score, 27.79% of the
changes in Springate’s (1978) financial failure score, 43.72% of the changes in the
Ohlson’s (1980) financial failure score, 7.03% of the changes in Taffler’s (1983)
financial failure score, and 31.58% of the changes in Zmijewski’s (1984) financial
failure score. The significance of probability values for the models allows the
effects to be interpreted on the basis of variables.
Moreover, in Model 1, EXE and NSTA have positive significant effects on
Altman’s (1968) financial failure score; while TDTA, TDE, and MSD have negative significant effects on the same score. It can be seen based on the panel data
1.176
0.991
F-Period Fixed
F-Two-way Fixed
1.930
LM-Two-way Random
0.531
0.198
0.208
H0: No cross-section and time effect
Note:***, * respectively indicate the significance levels of 1%, 5% and 10%.
H0: No cross-section effect while there is a time effect
0.509
0.417
Two-Way Fixed/Random
0.550 −0.022
0.421
0.595
0.951
0.835
0.810
0.320
0.281
0.389
Prob.
Period Fixed/Random
0.703 −0.127
0.297
0.101
0.043
0.058
1.089
1.137
1.061
Stat.
0.647 −0.240
0.913
0.843
0.706
0.443
0.361
0.559
Prob.
MODEL 3
H0: No time effect while there is a cross-section effect
−0.533
0.182
0.039
0.143
1.018
1.074
0.916
Stat.
0.900 −0.378
0.381
0.596
0.199
0.493
0.238
0.854
Prob.
MODEL 2
Cross-section Fixed/Random
Null hypothesis for the tests
Honda-Two-way Random
Honda-Period Random
Honda-Cross-sectional Random
−1.284
0.282
LM-Period Random
Honda (1985) Test
1.648
LM-Cross-sectional Random
Breusch and Pagan (1980) LM Test
0.657
Stat.
MODEL 1
Results of Estimator Selection Tests.
F-Cross-Section Fixed
F-test
Test
Table 9.
1.069
0.113
1.398
1.969
0.013
1.956
1.259
1.086
1.537
Stat.
Stat.
0.678
1.826
2.000
0.147
0.455
2.903
3.282
0.081* 0.824
0.374 11.449
0.910 10.771
0.162
0.118
0.345
0.002***
0.001***
0.205
0.003***
0.001***
0.410
0.001***
0.001***
0.082*
Prob.
MODEL 5
0.072* 1.505
Prob.
MODEL 4
138
Serdar Yaman and Turhan Korkmaz
ALTMAN
Variables
0.36603
NSTA
OHLSON
MODEL 3
0.02307
0.0000***
0.4126
0.0070***
TAFFLER
MODEL 4
0.0000***
0.0000***
−1.48043
−0.11342
0.0002***
0.8619
ZMIJEWSKI
MODEL 5
0.0000***
77.82786
0.00353
−0.00702
0.0003***
0.2047
0.2133
0.0000***
7.57452
0.0000***
0.0013***
0.0000***
0.0142**
0.0001***
0.0000***
0.0000***
0.0000***
4.63435
0.31589
−0.00015
−0.00513
0.00360
0.0001*** 0.03573
0.3406
0.0040*** 0.13091
0.7766
0.07030
0.00218
0.07563
0.0059*** 0.00539
0.3089
0.4181
0.0000*** −0.97895
0.0000*** −0.01729
0.43725
−0.00026
−0.00047
0.00573
0.02693
0.00528
1.07961
0.09690
Note: ***, **, * respectively indicate the significance levels of 1%, 5% and 10%.
F-probability
F-statistic
R2
EBTSTD
0.0000***
0.0000*** 0.00317
−0.00351
38.54809
0.12784
EXE
0.1917
0.0000***
0.0001***
0.0017***
0.0034***
116.69670
0.01616
LTFO
0.0000*** 0.22538
0.0075*** 0.02468
0.0002*** 0.13084
0.0000*** 0.10001
0.27790
−1.57558
MSD
ROA
SPRINGATE
MODEL 2
0.53811
−0.07051
TDE
EBITTA
−0.24207
0.28193
TDTA
C
MODEL 1
Models
Coefficient Probability Coefficient Probability Coefficient Probability Coefficient Probability Coefficient Probability
Panel Data Analysis Results.
Table 10.
140
Serdar Yaman and Turhan Korkmaz
analysis results that a 1 unit increase in the financial leverage ratio causes a 0.24
unit decrease, a 1 unit increase in TD/E causes a 0.071 unit decrease, a 1 unit
increase in MSD causes a 1.57 unit decrease, a 1 unit increase in EXE causes a
0.12 unit increase, and a 1 unit increase in net sales to total assets causes a 0.36
unit increase in the Altman’s (1968) financial failure score. Analysis results show
that there are no significant effects of changes in LTFOs decisions of food companies on Altman’s (1968) financial failure score.
Furthermore, in Model 2, TDTA, TDE, MSD, and EBITTA have positive
significant effects on Springate’s (1978) financial failure score while LTFO has
negative significant effects on the same score. It can be seen based on the panel
data analysis results that: a 1 unit increase in the financial leverage ratio causes a
0.13 unit increase; a 1 unit increase in TD/E causes a 0.024 unit increase; a 1 unit
increase in MSD causes a 0.22 unit increase; a 1 unit increase in LTFO causes a
0.003 unit decrease; and a 1 unit increase in earnings before interest and taxes
causes a 0.023 unit increase in Springate’s (1978) financial failure score. Analysis
results show that there are no significant effects of changes in EXE of food companies on Springate’s (1978) financial failure score.
In Model 3, TDTA and LTFO have positive significant effects on Ohlson’s (1980)
financial failure score while the ROA has negative significant effects on the same
score. It was apparent that: a 1 unit increase in the financial leverage ratio causes a
1.08 unit increase; a 1 unit increase in LTFOs variable causes a 0.0057 unit increase;
and a 1 unit increase in return on assets causes a 0.00026 unit decrease. Analysis
results show that there are no significant effects of changes in TD/E, MSD, and
EXE of food companies on Ohlson’s (1980) financial failure score.
In Model 4, EBTSTD has positive significant effects on Taffler’s (1983) financial failure score while TDTA and MSD have negative significant effects on the
same score. It was clear that: a 1 unit increase in financial leverage ratio causes
a 0.98 unit decrease; a 1 unit increase in MSD causes a 1.48 unit decrease; and a
1 unit increase in earnings before taxes causes a 0.0022 unit increase in Taffler’s
(1983) financial failure sore. Analysis results show that there are no significant
effects of changes in TD/E, LTFOs decisions, and EXE on Taffler’s (1983) financial failure score.
In Model 5, TDTA, MSD, and LTFO have positive significant effects on Zmijewski’s (1984) financial failure score; however, TDE, EXE, and ROA have negative significant effects on the same score. It can be seen based on the panel data
analysis results that: a 1 unit increase in the financial leverage ratio causes a 0.13
unit increase; a 1 unit increase in TD/E causes a 0.007 unit decrease; a 1 unit
increase in MSD causes a 0.036 unit increase; a 1 unit increase in LTFOs variable cause a 0.0036 unit increase; a 1 unit increase in EXE causes a 0.0051 unit
decrease; and a 1 unit increase in return on assets causes a 0.00015 unit decrease
in Zmijewski’s (1984) financial failure score.
Conclusion
In this study, the effects of the capital structure decisions of food companies in
BIST were investigated utilizing panel data analysis and financial failure models
Effects of Capital Structure Decisions
141
were compared through the empirical findings. Financial statement data of 19
food, beverage, and tobacco companies operating in BIST between 2004:6 and
2019:12 were used. Financial failure risk in the food companies was calculated
by Altman (1968), Springate (1978), Ohlson (1980), Taffler (1983), and Zmijewski’s (1984) financial failure models. In this study, first of all, capital structure
decisions and financial failure risk variables regarding the companies for every
semi-annual period between 2004:6 and 2019:12 were calculated. Afterward, relationship between capital structure decisions and financial failure risk were scrutinized via panel regression analysis through five different panel data models. The
suitability of data sets for panel regression analysis was researched after testing
the assumptions of multi-collinearity, cross-section dependence, homogeneity/
heterogeneity, stationarity, autocorrelation, and heteroskedasticity. Afterward,
findings toward the effects of capital structure decisions on the financial failure
risk were obtained by estimating the models.
The effects of the capital structure decisions on the financial failure risk vary by
the financial failure models that are used as the dependent variable in models. All
models established within the scope of the study were found to be statistically significant. The capital structure decisions have statistically significant effects on the financial failure risk. As seen in panel data analysis results, the effects of capital structure
decisions on Altman’s (1968) and Taffler’s (1983) financial failure scores, that are
failure risk representatives, are similar. Results regarding Model 1 and Model 4 that
were developed to reveal the relationship between capital structure decisions with
Altman’s (1968) and Taffler’s (1983) financial failure scores indicate that aggressive
financing policies pursued as excessive borrowing in asset financing in food companies will increase financial distress and bankruptcy costs and naturally the risk of
financial failure, and the same results also support the trade-off theory and pecking
order theory. Contrary to the results regarding Model 1 and Model 4, results regarding Model 2 and Model 3 that were developed to investigate the relationship between
capital structure decision and Springate (1978) and Ohlson’s (1980) financial failure
scores indicate that borrowing in asset financing will reduce financial distress and
bankruptcy costs and the risk of financial failure; the same results also support net
income theory, signal theory, and agency cost theory. However, the results regarding
Model 2 and Model 3 are contradictory in terms of the effects of LTFOs in asset
financing on financial failure. According to the results of Model 2, preferring LTD
instead of equity capital in asset financing will increase the financial failure risk; for
the results of Model 3, the same preference will decrease the financial failure risk.
The results of Model 5 that scrutinized the relationship between capital structure decision and Zmijewski’s (1984) financial failure risk revealed that as the
ratio of TD/TA, the ratio of MSD, and the ratio of LTFOs increase, the financial failure risk in food companies decreases. In other words, aggressive financial
policy decreases the financial failure risk due to its low cost and tax advantage.
These results support the net income, signal, and agency cost theories. However,
the results regarding TD/E in the same model conflict with these findings at the
same time. As the internal fundraising capacities of food companies increase,
their financial failure risk decreases. This finding of Model 5 supports the pecking
order theory.
142
Serdar Yaman and Turhan Korkmaz
It can be concluded at the end of the analyses that capital structure decisions
have similar effects on Altman’s (1968) and Taffler’s (1983) financial failure scores;
findings regarding Model 1 and Model 4 jibe with each other. Model 1 is especially
successful in estimating the relationship between the capital structure decisions
and financial failure risk due to its high significance and explanatory power and
the capacity of findings in meeting the theoretical expectations. In line with the
results, it would be more appropriate to use Altman’s (1968) and Taffler’s (1983)
models in financial failure measurements. The findings of this study in relation
with the presence of significant effects of capital structure decisions on the financial failure risk are in line with other studies in literature.
This chapter is important and original in terms of revealing the effects of capital structure decisions on the financial failure risk that is one of the main financial
issues. It is thought that the findings of this study will contribute to the relevant
people from different circles, such as company managers, investors, creditors, rating agencies, suppliers, customers, researchers, and analysts for financial failure
analyses and create more effective investment strategy decisions. It should not
be forgotten that the variability in period and sample is to some extent driven by
data limitation and that there were political and financial events in the research
period.
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Note:*** and ** indicate the significance levels of 1% and 5%, respectively.
Mean
Median
Maximum
Minimum
SD
Skewness
Kurtosis
J-B
Probability
Obs.
ALTMAN
0.45069
−0.010427
226.7122
−83.63077
9.946605
18.45524
450.3828
5105016
0.00000***
608
MSD
0.032102
0.005567
2.7524
−0.69442
0.285357
3.813209
29.6505
19466.42
0.00000***
608
Ohlson
0.253966
0.008221
22.52024
−8.121113
1.710885
7.933608
91.02315
202662.7
0.00000***
608
EXE
0.16918
−0.003182
39.75262
−3.301333
2.226915
14.39625
225.9098
1279784
0.00000***
608
TAFFLER
−0.431234
−0.008319
64.9803
−174.6608
11.25847
−8.798822
135.2078
450643.9
0.00000***
608
NSTA
0.324183
0.144197
6.923822
−0.906768
0.986182
1.620891
8.900803
1148.325
0.00000***
608
ZMIJEWSKI
0.00681
−0.001082
1.959728
−0.853836
0.134087
4.861507
79.38097
150190.9
0.00000***
608
EBITTA
0.07396
0.004837
80.51876
−113.5643
6.73169
−5.459927
172.44
730338.8
0.00000***
608
TDTA
0.033668
−0.002697
6.058295
−0.741779
0.362287
9.022042
136.9074
462505
0.00000***
608
ROA
2.18944
0.057474
1559.079
−181.5102
64.00456
23.69051
577.8319
8427809
0.00000***
608
TDE
0.071881
−0.005625
12.0293
−34.94346
1.647453
−14.83536
342.7569
2946650
0.00000***
608
EBTSTD
6.793739
0.034939
2061.463
−96.26244
108.71
17.2385
304.8712
2338644
0.00000***
608
Table A1.
SPRINGATE
0.327129
0.019878
138.2405
−5.661389
5.664124
23.82321
580.0485
8493132
0.00000***
608
LTFO
−0.158151
−0.006008
28.81864
−142.9522
8.744111
−12.88713
200.1814
1001802
0.00000***
608
Appendices
Mean
Median
Maximum
Minimum
SD.
Skewness
Kurtosis
J-B
Probability
Obs.
Serdar Yaman and Turhan Korkmaz
Descriptive Statistics.
146
−20.616
−19.975
−24.578
−21.312
−16.179
TAFFLER
TDTA
MSD
LTFO
EXE
EBITTA
Prob.
0.000***
0.000***
0.000***
0.000***
0.000***
0.000***
Stat.
−22.783
−22.061
−24.829
−19.324
Variables
ALTMAN
SPRINGATE
ZMIJEWSKI
TDE
Prob.
0.000***
0.000***
0.000***
0.000***
−20.051
−24.456
−18.839
−18.906
Stat.
0.000***
0.000***
0.000***
0.000***
Prob.
Constant and Trend
Im et al. (2003)
Constant Only
Constant/
Trend
Test
First-generation Heterogenic Panel Unit Root Tests
Stat.
−15.390
Variables
Constant Only
Prob.
0.000***
0.000***
0.000***
0.000***
0.000***
0.000***
351.425
454.498
405.096
408.374
Stat.
0.000***
0.000***
0.000***
0.000***
Prob.
Constant Only
491.992
505.725
348.563
365.006
Stat.
0.000***
0.000***
0.000***
0.000***
Prob.
Constant and Trend
Prob.
515.533
586.166
539.247
564.559
Prob.
0.000***
0.000***
0.000***
0.000***
I(0)
I(0)
I(0)
I(0)
I(0)
I(0)
Decision
1281.130
1844.690
2326.330
1750.360
Stat.
0.000***
0.000***
0.000***
0.000***
Prob.
Constant and Trend
Choi (2001) (Fisher PP)
0.000***
0.000***
0.000***
0.000***
0.000***
0.000***
Constant Only
Stat.
−8.959
−7.275
−5.539
−6.344
−12.698
−9.225
Stat.
Constant and Trend
Breitung (2001)
Maddala and Wu (1999) (Fisher ADF)
−12.896
−20.540
−22.282
−21.609
−18.623
−16.138
Stat.
Constant and Trend
First-generation Homogenic Panel Unit Root Tests
Levin et al. (2002)
Panel Unit Root Tests Results.
Constant/Trend
Test
Table A2.
I(0)
I(0)
I(0)
I(0)
Decision
(Continued)
Prob.
Stat.
Note:*** indicates the significance levels of 1%.
Note 3: The maximum number of common factors in the Bai and Ng (2004) PANIC test is determined as 2
Note 2: Bootstrap replication value in Smith et al. (2004) Bootstrap ADF test is determined as 1,000
Note 1: The lag lengths are determined according to Schwarz Information Criteria
Stat.
Prob.
Stat.
Prob.
Stat.
Prob.
I(0)
I(0)
I(0)
Prob.
I(0)
Stat.
EBTSTD −5.884 0.005*** −5.839 0.000*** −6.105 0.008*** −6.324 0.000*** 12.370 0.000*** 12.431 0.000*** 145.842 0.000*** 146.374 0.000***
Prob.
Constant and
Trend
−6.790 0.000*** −5.550 0.000*** −6.815 0.000*** −5.672 0.000*** 9.398 0.000*** 9.515 0.000*** 119.926 0.000*** 120.952 0.000***
Stat.
Constant Only
−2.911 0.000*** −2.871 0.000*** 3.033 0.000*** −2.957 0.000*** 11.591 0.000*** 10.668 0.000*** 139.046 0.000*** 131.003 0.000***
Prob.
Constant and
Trend
ROA
Stat.
Constant Only
Decision
NSTA
Prob.
WS
Pce_MW
Stat.
T-bar
PCE_Choi
−6.370 0.000*** −6.309 0.000*** −6.372 0.000*** −6.492 0.000*** 11.141 0.000*** 10.790 0.000*** 135.124 0.000*** 132.067 0.000***
WS
Constant and Trend
Variables
T-bar
Constant Only
Bai and Ng (2004) PANIC
Ohlson
Test
Constant/
Trend
Smith et al. (2004) Bootstrap ADF
Second-generation Panel Unit Root Tests
Table A2.
Chapter 8
Global Impasses in Public Services
Provision Due to COVID-19 in G20
Countries
Sevilay Ece Gümüş Özuyar
Abstract
Introduction − Covid-19, which first emerged in Wuhan, People’s Republic
of China, in January 2020, with an unknown source, spread to all countries
of the world very quickly and caused the death of over two million people
world-wide. This ever-increasing global need for health care has created a
radical transformation in terms of not only in health care, but also in all
public services. Transportation services for the transfer of patients to health
institutions, education services due to the dangers of face-to-face training,
justice services due to the postponement of non-urgent court proceedings,
security services in terms of restriction sanctions and all public services in
general due to the disruption of access to public services due to flexible
working hours applied to public personnel has entered into an unplanned
provision.
Purpose: The aim of this chapter is to identify the problems that arise in
the provision of public goods and services due to the global epidemic of
Covid-19, and to bring a new interpretation to the theoretical discussions
about the optimal delivery level of public services when there is a situation
of communicable disease.
Methodology: The principles of public goods and service provision of
G20 countries, Covid-19 mortality rates, indicators of the well-being of
healthcare delivery such as the number of bed and personnel, the type and
number of devices used to diagnose the Covid disease, and the public service
restrictions taken to eliminate Covid-19, have been evaluated by employing
descriptive analysis. In order to prevent income and advanced levels from
Insurance and Risk Management for Disruptions in Social, Economic and Environmental
Systems: Decision and Control Allocations within New Domains of Risk, 149–184
Copyright © 2022 by Emerald Publishing Limited
All rights of reproduction in any form reserved
doi:10.1108/978-1-80117-139-720211008
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Sevilay Ece Gümüş Özuyar
becoming distinctive features, G20 countries with similar income and
development levels were selected for this research.
Findings: Due to the Covid-19 pandemic, there has been a distortion in the
preference of provision of almost all public goods, and it has been observed
that the delivery level of public services affects each other since all are
linked like a chain. Failure to achieve what is expected from international
organizations, which should be in a regulatory position in this regard, has
increased concerns about the optimal presentation level of all public goods,
especially health, in the future. As long as there is a global pandemic and
countries do not take effective measures, a bad second best position that is
far from optimal results but provides that instant solutions.
Keywords: Covid-19; public goods and services; health; restrictions;
Global Impasses; G20 countries
1. Introduction
As a result of the technological evolution and the technical improvements in the
field of information experienced since 1980, a phenomenon called globalization
has occurred. With the inclusion of globalization in academic life, brand new
issues have emerged that were not on the agenda before. The cross-border spread
of economic activities such as investment, travel, communication, migration and
trade has enabled national markets to integrate with international markets. Also,
public goods and services, whose effects were discussed only on national borders
erstwhile, have been subject to movements throughout the world by globalization and its international implications have been started to discuss. Moreover,
with globalization, negative externatilies such as air pollution, depletion of the
ozone layer and other negative consequences as income distribution injustices or
epidemics have become more intense topics. The most recent example of epidemics addressed globally is the Covid-19 pandemic.
Since the coronavirus emerged in January 2019, almost two million people
have died world-wide while many people have been at risk of life, and about
130 million have remained in extreme poverty. Undoubtedly, one of the massive effects of this pandemic, which has for sure consequences on almost every
aspects of both social and economic life, has been directly on public goods
and services and the impacts are mostly negative. These negative effects have
greatly manifested themselves in every field of public goods and services, from
health services to education, from public transportation to justice services, from
garbage and cleaning services to the police service in terms of ensuring health
safety. However, the first and most affected public service is undoubtedly the
health service. As the heath service providers, healthcare workers are indeed
the first to encounter the virus, fell ill while in the service, eventually have to
receive the service themselves health care as well, and even have passed away.
All these experiences brought the results of low motivated service delivery.
Global Impasses in Public Services Provision
151
On the other side, individuals have also not been very keen on the consumption
of the health service provided during this period as well. They prefer not to
receive health care even though they are sick unless urgent action is necessary.
There are two possible main reasons for this situation. The first of which is not
to catch the disease from healthcare providers or employees, and the second is
not to place unnecessary burdens on workers.
China, as the center of the disease, has easily gotten rid of the virus-based
Covid-19 pandemic in its country within two months by applying imposed restrictions resolutely as well as simultanous successful testing and health policies. On
the other hand, it has not been easy for the rest of the world. The unfavorable consequences of the late restriction decisions on public health due to economic concerns affected the whole world. The absence of travel restrictions in the
early stages of the disease, the loose policies of the country administrators who
declared no believe in intervention has made the efforts of the substantial countries decisively inadequate. The transfer of the disease from one area to another
caused the disease to be trapped in a cycle and regenerate itself in different countries. This situation both made the provision of healthcare services more difficult
and caused long-term damage to the economies.
This failure in the provision of health care has shown immediately negatory
effects on the provision of other public services. Almost all countries, due to
Covid, have ceased face-to-face education and switched to digital education or
reduced the number of institutions receiving face-to-face training. On account of
these changes in education, many teachers, especially those working in the private
sector, lose their jobs in this period. And those who work as trainers in the public
sector do not find the service they provide sufficient in terms of both the quality
and the impact on education.
In addition to semi-public goods served by both the private and public sectors,
there are also some pandemic-related problems occurred in pure public goods.
While the police have been dealing with their routine work and operations on the
street, they have also tasked with identifying people who are not complying with
the restriction measures and/or violating the quarantine. Additionally, in many
countries, police have also found cases with disease screening and prevention
teams. This burden on law enforcement teams has also significantly, yet negatively affected the level of service delivery. Similarly, restrictions on national and
international travel have reduced the amount of delivery of transportation services and even some public servants have lost their jobs. In other respect, logistics
services – especially food presentation – had to continue, which caused the public
personnel working in this field to be overloaded.
In the light of all this information, the aim of this chapter is determined as
to clarify the negative effects of the pandemic on public goods and services, to
draw attention to the unexpected possible problems, and to bring a new interpretation to the theoretical discussions about the optimal delivery level of public
services under communicable disease. For this reason, public good theories are
introduced in the first part of this chapter, while the optimal presentation levels of
public goods and services are discussed in the second chapter. The third section is
devoted to public service delivery in G20 countries. And the last section presents
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the problems and theoretical deadlocks in public goods and services due to the
Covid-19 pandemic.
2. History and Theory of Public Goods
Even though “public good” has been existed since the emergence of the state
concept, it wasn’t literaturally recognized and named until the 13th and 14th
centuries, when the systematic constituents of economic history began to be
seen. While the sovereigns had their own private doctors, ordinary people were
treated in hospitals which are private establishments financed by religious
institutions. This low prestige of hospitals was accompanied by a lack of attention to environmental pollution-related problems such as fecal matter disposal
into rivers and drinking the water from the same rivers caused the emergence
and increase of viral infections and epidemic diseases such as plague (Chon,
2010, p. 239). In other words, infections, contagious diseases and fear of death
were the main reasons of states’ concerns regarding public health in this period
(Cipolla, 1973, pp. 17–27). The time of the origin of the word quarantine has
derived from the 40-day closure against the plague at that period (WHO,
2021a). Despite all this, a systematically functioned public health service could
not be created and not be carried beyond the presentation of volunteers or
religious institutions or foundations against the epidemic that lasted for almost
300 years across Europe.
Therefore, while no significant steps were taken in terms of public health,
the concept of public goods succeeded in creating a playground for itself not
only in health but also in other areas through the idea of how a sovereign
should be, with the book named Prince by one of the famous names of Mercantilist thought, Machiavelli (1532). While Machiavelli (1532, chapter XXIV)
underlined the need of good laws, good defense, well-deployed security forces
and good diplomacy for a more secure and stable sovereignty, he actually demonstrated the importance of the state’s provision of justice, defense, diplomacy
and security. Public goods began to be examined in a modern context for the
first time with Physiocrats such as Thomas Hobbes and David Hume. Together
with Hobbes, the social agreement, which was previously defined by Thrasymachus and Glucon of Ancient Greece based on justice (Plato, 1930, see Bk 1,
chapters 2–3), listed the conditions required for a sovereign who has absolute
power to rule the society. In this conception, later explained in Leviathan, while
Hobbes (1651) describes a natural order tied to legitimate rules among ethical
values, he in fact explained a state that is beneficial to everyone, in which the
state or sovereign is at the service of nature and people, with a singularized
state or monolithic sovereign structure (Hobbes, 1651, pp. 56–71, 184–186).
However, David Hume drew a sketch of the modern public goods theory
through justice in his book named A Treatise of Human Nature, while mentioning the Themistocle’s necessity of the implementation of justice not only for the
nobility, but for the whole people with reference to the Athenians. He stated that
justice does not only resolve differences of opinion and that the realization of
justice independently from the higher power and the ruler will cause the whole
Global Impasses in Public Services Provision
153
public to be in harmony from the bridge to the army (Hume, 1739, see chapter
7, chapter 3). Starting from his exact point, it would not be wrong to say that
the public good, public interest and a public property referred.
The idea of a good produced by the state for the general public inspired Adam
Smith, who blended the thoughts and theories of the Physiocrats. Smith (1776,
Bk 5, chapter 1) stressed that defense and justice services are the natural duty
of the sovereign, while emphasizing that the sovereign should establish public
institutions that serve the whole public without excluding anyone, should carry
out public works and educate the public. In this context, he also acknowledged
that defense, justice, public works and education services are of a public nature.
Classics generally accepted the public good structure produced for the overall
public under the gendarmerie state concept. The schools of economics after
liberals recognized the existence of public goods without definite definition. For
example, Karl Marx (1867), the pioneer of the ecole of Marxism, pre-accepted
the existence of public goods by arguing that the needs of the society can be met
by the state in an environment where there is no classification in society and
where the production power is in the hands of organized individuals (Marx, 2008,
pp. 250–255). John Maynard Keynes (1967) made a reference to the collective
goods to be produced by the state, stating that intervention in the provision of
public services such as health, social security and education by the state will
increase the welfare of the country (pp. 331–332).
The first systematic study related to the limits and properties of public goods
was performed by Paul Samuelson. Samuelson (1954) analyzed individual consumption solely in terms of demand and established the definition of public
goods by adopting a complete dichotomy for the classification of goods by assuming that the amount of public goods did not change and different price systems
related to collective consumption were not applied. These goods, whose benefits
cannot be divided, which cannot be competitive in their consumption (non-rivalros), and for which nobody can be excluded from the consumption of this good
(non-excludable), are pure public goods (Samuelson, 1954, pp. 387–389). These
goods having collective externalities toward the general public (Musgrave, 1959,
p. 8), and having a marginal cost of production close to zero at the same time,
cannot be priced and have to be offered by the state to common consumption
(Stiglitz, 2000, pp. 132–135).
Although it is a private good due to its other content in the literature of economic goods, it is a property that can be evaluated as public for some reasons.
These goods are semi-public goods and services formed by education and health.
Basically, both education and health services can be provided by private sector
establishments by pricing them. However, while insufficient supply, high pricing,
low quality, decrement in positive externalities, lose in spillover effects are encountered by leaving these goods to the production of solely market actors, their
production by the solely public causes a congestion cost due to excess demand
(Stiglitz, 2000, pp. 136–141). Therefore, even if the state has to bear higher marginal costs, it is obliged to offer these goods and services jointly with the private
sector in order not to create a reduction in positive externalities, to provide equal
opportunities for all citizens and to avoid the problems listed above.
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Sevilay Ece Gümüş Özuyar
But then, there are also scientists who consider the education and health services provided by the public as merit goods – Musgrave (1959), Friedman (1962)
and Levin (1987) are among them. Richard Musgrave (1956), who dealt with
the concept of merit goods for the first time, defined it as goods that are transfer
payment to low-income individuals, and that have to provide certain services that
must be purchased (Musgrave, 1956, p. 341). Over time, he rearranged the definition as goods offered by the state at or below market price, depending on the
individual’s preferences (Musgrave, 1959, p. 13). Therefore, in the literature, the
goods that the state forced to consume in order to correct the deficient demand
with a paternalistic perspective and the goods offered by the state at or below the
market price are depicted as merit goods (Stiglitz, 2000, pp. 87–88). Vaccines are
examples of good that best fit this scope.
The concept of public goods and services has continuously developed depending on the interaction of the sciences within the concept of social sciences and
has evolved by varying technological conditions and political reasons. Global
developments, in particular, have changed the role of the state in providing goods
and services. The relationship between globalization and public goods has been
explained by many scientists primarily within the framework of public good and
bad (i.e., Ferroni & Mody, 2002; Sandler, 1997). While public good is beneficial
ones such as art and democracy that spread positive externalities to society, public bads such as air pollution are goods that are harmful to the public in general
and that spread negative externalities.
The realization of these goods, which concern all individuals in the world
regardless of where they live, has led to the emergence of new goods and services and service definitions. One of them is global public goods, first defined by
UNDP in 1999 (Kirmanoglu et al., 2006, p. 26). Unlike the goods that are free
in nature, these goods produced by human hands and/or efforts, and according
to Musgrave, Musgrave, and Richard (1987, p. 6), the feature of non-pricing is
also valid in these goods due to the general characteristics of public goods, nonexcludability and non-rivalry. In this context, the goods such as not the ozone
layer itself but the hole of the ozone layer, epidemics, noise, world wars and peace
are considered as global goods and services.
3. Provision of Public Goods and Services
The biggest challenge in the provision of public goods and services is that individuals do not explain their preferences for such goods and services due to reasons such
as free-rider perception and fiscal illusion, and that the demand cannot be clearly
revealed. Demand uncertainty causes the public’s production decision to diverge
from the optimal position. Essentially, the optimal position is a suitable solution
that remains within the limits of Pareto, dominated, acceptable and will fulfill the
requirements. This solution describes a situation in which even one agent’s condition cannot be improved without worsening the condition of other agents remaining in the cluster (Pareto, 1971, chapter VI, p. 261). This is the case only when
full competition and full employment conditions prevail in an economy where
there is no externality and there is no deficiency in factor and product markets.
Global Impasses in Public Services Provision
155
Hypothetically, a consumer sovereignty based on individual preferences becomes
valid when there is a non-paternalistic structure in which there is no collective
welfare determinant other than the individual, and there is unanimity in ensuring
resource distribution to maximize social welfare (Blaug, 1992, p. 125). This situation is described as first best in terms of economy (Johansson, 1991, p. 13).
The conditions necessary to achieve the first best state are of particular importance for understanding public goods. While the ratio of marginal benefits of
goods obtained from the economy to their prices is the same under the second
Gossen law, the marginal rates of substitution (MRS), which is the ratio of consumers to prefer one good over another among goods in the economy, must also
equal the ratio of the marginal benefits obtained from these goods and thus the
ratio of the prices of the goods. Preference of different consumers to different
goods at different rates, in other words, the differences in preference show the
marginal rate of transformation, which mathematically shows how much other
good or goods should be given up in order to produce one more unit of one goods
in an economy. In this case, MRS and marginal rates of transformation will have
to be equal, which would require the ratio of prices of goods to be equal to the
ratio of marginal benefits and to the ratio of marginal costs. This situation is an
expression of the general balance of the economy in terms of private goods in a
situation where profits are made economically in perfect competition.
Pareto achieving an optimum solution depends on the provision of all of the
optimum conditions simultaneously. If even one of these conditions is not met,
the availability of other conditions does not matter, so a new optimum can only
be reached by abandoning all Pareto conditions. So when the factors that create
the optimal situation cannot be achieved, considering the existing situation, the
adoption of any position that provides the efficiency is called second best (Lipsey
& Lancaster, 1956, pp. 11–12). The second best theorem deals with conditions
such as uncorrected externalities, deficient goods or factor markets, income distribution inequality, or taxes and subsidies excluding taxes or subsidies that correct
externalities (Nath, 1975, p. 41). In other words, one or a series of situations arise
where the price mechanism does work neither properly nor effectively.
The position provided by second best can mean the second best probability in
total but not perfectly satisfying all Pareto constraints. In such a situation, each
policy and/or strategy should be evaluated in terms of its effects on the whole
system, since one or more constraints will not met. The points to note here are
that a priority choice based on optimum cannot be made among the situations
that do not fulfill any of the Pareto conditions. In this context, it is not wrong
to say that the theory provides a piecemeal satisfaction as Lipsey and Lancaster
(1956) suggested.
At this point, the scientists who defend the first best theory against the second
best theory should also be mentioned. Ebert (1985), Maks (2005), Woo (2010) and
Ng (2017) argue that choosing a situation that maximizes at least one of the other
constraints when the Pareto optimal situation does not occur is not known whether
it will actually lead to a better situation, mainly due to the lack of knowledge. In
a blurry environment where the results are not predictable, there will always be
asymmetric information costs and factors that create distortion in the preference,
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Sevilay Ece Gümüş Özuyar
the most accurate is not to deviate from the first best rule (Ng, 1984, p. 1049).
However, instead of lack of information, if we have a set that will lead to correct
results even if it is not perfect and complete, this is information scarcity and the
efficient state can be reached with very little touches (Ng, 2017, pp. 181–182).
According to Bhagwati (1969, p. 8, 12, 16), the main reason for not achieving
the best situation is market imperfections, and the optimal policy intervention
required to get rid of them is to choose the policy propositions that are the direct
target of the issue where the distortion arose. Each intervention should be carefully evaluated and alternative policies should be ranked from first best to second
best, choosing the most reasonable. The point reached as a result of the intervention that covers the small impact area, eliminates the deviations regarding information based is the third best. Positive changes toward the Pareto optimal point,
either occurs in the second or third best are called Pareto improvement (Mathis,
2009, p. 33).
Global public goods that have problems such as under-use, over-consumption, under-supply, over-supply due to excessive resource allocation should be
examined separately in terms of achieving optimum efficiency. Thence, for global
goods, in addition to the optimality aimed solutions mentioned above, there are
also some frequently used aggregation techiniques, which are summation, weakest-link, best-shot and weigthed summation, explained quite compact by Sandler
(2001). At the summation, since the marginal effect of each country’s contribution to the production of public goods will be the same, the contribution of one
country is in fact a perfect substitute for the contribution of the other country.
Therefore, both in production and consumption, just like public goods and services, the share of production and consumption of each country are evaluated
together and the optimal level can be determined. Yet, the problem of free-rider
can also be observed. In the weakest-link technique, the quantities of total goods
are adjusted according to the country that contributes the least to the production
and consumption of that public good. The best example of this situation; in an
epidemic such as the plague, a mosquito that comes out of a country that does
not take or is late to take measures while other countries are taking serious measures, causes plague epidemic in other countries or causes the epidemic to progress.
Best-shot, on the other hand, is the adjustment of the amount of public goods
according to the country that provides the highest contribution, especially when
a problem such as an emerging epidemic arises. However, the problem with this
technique may be that if more than one candidate country emerges, the resource
transfer may be made to the wrong candidate. Laslty, in weigthed sum, the contribution of each country to production and consumption is calculated separately
and the amount of goods is adjusted with a weighted aggregation in line with
these contributions (Sandler, 2001, pp. 17–24).
4. G20 Countries and Provision of Public Goods
and Services
In fact, states exist to protect the public interest and to maximize the public benefit.
For these reasons of existence, they try to reach the optimal state. But when public
Global Impasses in Public Services Provision
157
goods are in question, the first best situation is not reached as is the case with private goods and services. Optimality in public goods occurs at the point of allocation where the factors of production participate in production to meet collective
needs and when production is made with the right technology to provide the most
output with the least cost. At this point, the output obtained is also shared among
resources according to production contribution rates. In other words, optimal public good and service provision is the point where efficiency is achieved in distribution in addition to resource allocation and production. However, not determining
the preferences and demands for public goods and services due to reasons such as
freeloading and financial illusion causes the public sector to not properly adjust
the supply of goods and services and not to provide public goods at a Paretoeffective level (Anomaly, 2015, p. 113). In this case, the state tries to reach correct
information through direct or indirect preference disclosure and demand determination mechanisms and thus tries to adjust the level of provision. Therefore, it is
not possible to talk about first best solutions when the public is in question. Second
best solutions are the most common in public responsibility areas.
The determination of states to achieve the aforementioned good has led
them to take and adopt some standard ethical decisions on this matter. While
the Weberian bureaucracy adopted the principle of providing public services
within the framework of certain patterns and predetermined rules in the traditional public administration pattern (Al, 2008, p. 15), the understanding of public
administration has changed, especially due to the improvements in the flow of
information caused by globalization, and the traditional public understanding
based on the Weberian strict hierarchical structure has been demolished. With
governance, globalization public service standards have become citizen-oriented,
and effective, independent and auditable public service provision has come to
the fore (Stoker, 1998, p. 36). While public interests are prioritized in this new
management approach, it is obliged to cooperate with the citizens through civil
servants and to instill trust in them, and to provide goods and services within the
framework of certain standards within democratic boundaries (Denhardt & Denhardt, 2000, pp. 554–556). In fact, the efficiency, effectiveness and efficiency of
public services have been adopted as management quality indicators (The World
Bank, 2019).
Similarly, the expectation of the society is that the public should produce
and implement policies that are more efficient and effective, that can lead to the
result in the shortest way and the most practical, the most beneficial and can
produce solutions with the least time and cost (Wills, 1995, pp. 3–6). For this
reason, many countries have determined public service standards and principles
are shown in Table A1. All the evaluations in Table A1 were originally derived,
tabulated and evaluated by the author as a result of a detailed examination of the
countries’ own legislation. Thus, all G20 countries, from Turkey to Italy, from
India to Japan, were examined in detail. The legislations used for all countries
in Table A1 are given in the reference list, regardless of whether examined in the
main text or not.
While creating a professionalization in the provision of public services in
Argentina, as in the provision of private goods and services, at the same time,
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a public goods and services provision that is easily accessible and prioritizes
citizens in public services has adopted (Ministry of Productive Development
(Ministerio de Desarollo Productivo), 2021). The Argentina government stated
anti-­corruption in almost all relevant laws regarding the public and public service, while it also stated that it would provide a public service based on the principles of professionalism, high accountability (Bresser-Pereira, 2001, pp. 118–124),
openness, transparency and inclusiveness (OECD, 2015). Australia has published
a Code of Conduct (2020) according to the Public Service Act (1999). The integrity and trust featured here are important public service components. Özen (2019,
p. 71) states especially trust can be accepted as significant reflector of public corporation performance. The 1999 Public Service Act, on the other hand, adopts
a user-friendly, citizen-oriented service concept, while underlining the values of
encourages equal opportunity, accountability, professionalism and objectivity.
The prohibition of receiving gifts and recommending behavior as open as possible also points to transparency. In accordance with the Australian Government
Information Policy (2010), the use of information will also be conducted in a
public and transparent manner like other public services.
In Brazil, the public service is subject to the public law regime, therefore, it must
comply with the principles of Administrative Law that are explicitly or implicitly
defined in the constitutional text. These are legality, impersonality, honesty,
openness and efficiency. In addition to the general principles of Administrative Law,
it should also comply with the special principles enumerated in Article 6 of the
Law No. 8.987/95 (2005). Moreover Paragraph 1 of Article 6 of the Law 8.987/95
includes the principles of timeliness, courtesy, order, trust and security. Courtesy
here means that the kind behavior public personnel and prioritize the citizen in
their services. In addition, as Di Pietro (2014, p. 417) explains, public services
in Brazil should ensure equal opportunity. Also, the principle of effectiveness
should also be taken into account in public services, as it is articulated in the
Constitution (Carvalho-Filho, 2015, pp. 26–34).
In Canada, according to Public Service Employment Act (2003) and Public
Services and Procurement Canada Code of Conduct (2011), public servant’s
uphold public trust, and bound by law. In a democratic environment where
accountability, openness, transparency and timeliness principles prevail, providing services by respecting and prioritizing the citizen is the basic understanding of
public service of the Canadian government. Similar service delivery principles are
also valid in China. Based on the CSL Law No. 35 (2006), the state and the public are a structure that provides honest, reliable, integrity and efficient service.
Public employees are also essential to openness, equality, timeliness in public
services in line with government policies. Plus, public services must be provided
in accordance with the law. The country also attaches importance to the provision of public services, accountability, transparency and performance measures
(Burns & Zhiren, 2010).
Law 25/2009 (Law No. 25, 2009) is related to public services in Indonesia. In
addition, Law 37/2008 also carries elements concerning this issue through the
Ombudsman. According to Law 25/2009 Article 11 clauses 1–7, public services
and providers of public services must be transparent, inclusive to create equal
Global Impasses in Public Services Provision
159
opportunities and legally bounded. The citizen should be prioritized and the law
should set objective standards in terms of services. Additionally, the Indonesian
National Committee of Governance Policy stated democracy, accountability,
transparency, legality and justice and equality as public administration principles
(Setyaningrum, Wardhani, & Syakhroza, 2017, p. 330).
The National Public Service Act for Japan (1947), from Act 27 onwards,
emphasizes an egalitarian, non-discriminatory, inclusive, law-restricted, citizenoriented service structure. Law No. 129 (1999), on the other hand, emphasizes
the principles of trust in public services, honesty and justice, and also refers to
accountability and transparency through a system that is constantly controlled.
Japan Corporate Governance Code (2015) refers to public services through objectivity, accountability and efficiency in resource use. On the other hand, from 1981
to December 2015, South Korea tried to determine the ethical rules in public
service delivery with the amendments of the law (No. 8435–No. 12946), and they
established an organization called PETI (2021) that aims to ensure public service ethics and transparency. In all public services, public service providers must
maintain fairness and trust, perform services in a timely manner, and not gain
any additional benefit from their duties (MPM, 2021a). According to the “Ethics
of Public Servants” statements of the same Ministry, integrity, inclusiveness and
citizen centralism are prioritized on providing public services (MPM, 2021b).
Regulations regarding public services and the officers providing them in M
­ exico
began during the Cárdenas. With the New Ethics Code of the Ministry of Government Affairs in February 2019, the most recent development in the field of public
services has been experienced. Legality, honesty, loyalty, impartiality and efficiency
are determined as five basic principles in this Code, created by updating the previous Code released in 2015 and aims to provide public trust. Furthermore, in terms
of public services, equality of opportunity is prioritized for both the providers
and citizens, aims to improve access to information and professionalization, work
together with the integrity rules it has previously created, and aim to ensure honesty, trust, accountability and transparency principles (SFP, 2019).
According to Article 4 of the Federal Law “State Public Service of the Russian
Federation” of July 27, 2004 N 79-FZ, more professional and competent public
service providers will be ensured. In addition, all citizens within the Federation
are prioritized and accepted as equal, and consistent service provision and information about access to services are guaranteed (N79-FZ, 2004). Again, in the
same document, it was emphasized that public officials should be honest, and
public services and providers were evaluated in terms of openness, transparency
and accountability.
The importance of trust, ethics and accountability for Saudi Arabia is clearly
stated at the very beginning of the Law No. 15605. integrity, fairness, transparency, professionalism, honesty, equality among peoples, objectivity and fairness,
are mentioned as the principles to be taken into consideration in the provision of
public services as the duty of public officials at item 3 (The Cabinet of KSA, 2016).
With the Public Service Act published in 1994, importance was given to the
principles of integrity, accountability and efficiency in the provision of public
services and public service providers in South Africa, and it was emphasized that
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all individuals should have equal opportunity with easy access to public services
by citizens. It was stated that fair, transparent, inclusive and timely provision
of public services are the basic principles and all these issues are binding by law
(PSC, 2002).
As for Turkey, in the context of the principles of public service, Law No. 5018
as well as “Public Service Regulation on Procedures and Principles (PSRPP)”
and “Regulation on the Principles of Ethical Behavior of the Public Officials and
Application Procedures and Essentials (PEBPOAPE)” are available. While Law
No. 5018 (2003) underlines the need for public services to be carried out effectively, efficiently and efficiently, PSRPP (2009) aims to provide easily accessible
services with an understanding based on accountability, transparency and citizen
trust. Another source of legislation in this regard, PEBPOAPE (2005) emphasizes
the principles of objectivity, integrity, impartiality, fairness, equity and openness.
England, on the other hand, has adopted the principles of selflessness, integrity, objectivity, accountability, openness, honesty and leadership, known as
Nolan principles (CSPL, 1995).The Civil Service Code (2010) of UK mentions
four core service values, which are honesty, integrity, objectivity and inclusiveness. While all public rights and freedoms of individuals are guaranteed in the
Constitution, the government and public service providers are bound by public
service standards determined by laws. Ethical Standard for Providers of Public
Services (ESPPS) emphasized the importance of providing the necessary support
for the use of services and providing ease of service, and pointed out the concepts
of impartiality, transparency, trust and equality as other principles that are essential for public service providers and public services (ESPPS, 2014).
US Department of the Interior (2021) sums that the basic obligations of public service are constructed on trust, transparency, honesty, equality in opportunity, prioritize citizen and anti-corruption. In the Compilation of Federal Ethics
Law (2021), it is further stated that public officials must be fair in the provision
of public services.
The EU’s public service principles were summarized by the Union Ombudsman in 2012. According to this document, the Union considers it a promise to the
member states of the Union and the citizens of the member countries to provide
public services under integrity, objectivity, accountability and transparency while
respecting all assets (inclusiveness) (European Ombudsman (EUO), 2012, p. 1).
According to the same document, timely provision of public services in a professional manner is also included in the principles (EUO, 2012, p. 5). In the provision
of public services, it is clearly stated in both EC-QPA (2017) and EP-PUS (2021)
that the requirement of efficient presentation at low cost and the understanding
of open, accountable, fair citizen-oriented service is guaranteed by laws.
5. The COVID-19 Pandemic and Dilemmas in the Provision
of Public Services in G20s
Since November 2019, when the coronavirus turned into a global threat, approximately 130 million cases have been encountered, and unfortunately, the number
of deaths has been approximately 3 million as of April 2021 world-wide. As of
Global Impasses in Public Services Provision
161
the beginning of April, there were 1,667,625 deaths across the entire G20 (WHO,
2021b) (see Table A2).
While actively collecting case reports from 221 countries, it has been determined that the number of active cases continues to increase rapidly, but there is a
severe case observation of 4 per thousand. The country with the highest number
of cases is the United States, while Europe ranks second, followed by Sourth-East
Asia and South American countries (Worldometer, 2021). According to data, it
is accurate to say that the capital of this virus, which started in Wuhan, China,
has recently shifted the United States. The rapid increase in the number of cases
in the United States and the main reasons underlying turning a spreading center
is the speed and determination of the repressive Chinese regime in providing
public services and implementing public measures and the late implementation
of public measures such as flight obstructions, use of masks and curfews in the
United States. As a visible fact, the number of cases followed a stable or decreasing course in countries that take rapid measures and continue these measures
with determination while an increasing number of cases are detected in countries
that show slack in terms of precautions.
At this point, the importance of global health, the provision of public health
services and public measures as a public good appear as elements that need to be
analyzed and managed efficiently. As explained in History and Theory of Public
Goods health is actually a private good in terms of its content. Yet, it is a type
of goods and services that should be provided by both the private and the public
sector due to its features such as equal opportunity, positive externality. Its presentation by only one of these sectors causes the cost of congestion and shortage.
In this context, the features of indivisibility, non-excludability, non-rivalry and
non-marketability in public health services are exactly the same as in other public
goods (Stiglitz, 2000, pp. 136–141).
However, in some respects, health cannot be considered only as a national
semi-public good. Perhaps the three most prominent topics for health as global
public goods and services are research and development (R&D), communicable
disease control as well as data collection (Smith, Beaglehole, Woodward, & Drager,
2003, p. 10). Therefore, although the production of these goods is done on a
national basis, they are global in terms of consumption. All these three elements
have cross-border externalities, and national or regional interventions to internalize these externalities are far from producing sufficient results since the underlying
reasons concern more agents (individuals, countries, etc.) than local agents.
Especially all the virus-based epidemics, according to Nunes (2014, p. 8)
mostly started in an exotic place, should be regarded as a threat to the existence of all societies, not just an individual health problem. Thence, at this point,
the state will either make vertical preventive interventions to eliminate the disease, or intervene in its country horizontally with the global package of measures included in the vaccination, or apply sector-wide interventions to meet the
infrastructure investment needs such as the provision of medical devices required
for the correct management of the epidemic (Smith & MacKellar, 2007, p. 3). In
this context, international cooperation is also essential (McInnes, 2008, p. 275).
The 1831 Cholera epidemic, Spanish flu, HIV/AIDS, Creutzfeldt-Jakob Disease,
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2003 SARS, 2006 Avain Influenza and 2014 Ebola epidemic reveals the importance of international cooperation; therewithal starting with the International
Sanitary Conference in 1893, international collaborations have constructed with
organizations such as the Pan American Sanitary Bureaus (1902). Providing
services under the umbrella of a single organization such as the World Health
Organization (WHO) instead of more than one structure will reduce transaction
costs as well (Arce & Sandler, 2002, pp. 38–39).
WHO is the most important organization organized at international level in
the field of health. As the leading organization, WHO has launched the Covid19 Strategic Preparedness and Response Plan to evaluate the risks nationally,
regionally and globally and to discuss the responses to be given. It has been collaborating with the Global Incident Management Support Team and the UN
Crisis Management Team to combat the pandemic. Collaborations are not only
realized at the level of international organizations against the Covid-19 outbreak.
However, against the Covid-19 outbreak, collaborations are not only realized at
the level of international organizations. Countries cooperate to continue their
struggle both through bilateral agreements (i.e., Turkey–China) and collectively
as in the Global Vaccine Summit 2020. Attempting to overcome the pandemic in
such a high level of cooperation at the international level leads to the fact that
vaccine, which is actually merit goods by nature, becomes global public goods. At
this point, the agreements that countries have made with the vaccine manufacturers (i.e., Anglo-Swedish AstraZeneca-Russia Sputnik) and the countries’ decision
to deliver the vaccines to all countries equally with the supply of the vaccine is
like the proof of it.
In the combat against communicable disease, public health services have significant effects on other public goods and services and their provision, regardless
of national or international, right along with introduced cross-border effects. For
example, while international travel, technological advances, trade going beyond
the borders of the country due to globalization affect health and vice versa (Smith
et al., 2003, p. 475). For example, the presence of a person who has developed
resistance to malaria in some part of the world can be transmitted to different
parts of the country or even to people in different countries due to travel or public transport or even waiting in a coffee line. For this reason, activities such as
international travel, technological advances, international trade and events that
require public action affect health since they lead to the union of at least two
people, and vice versa. Hence, a short summary of public health service provision in each country will be given and the difficulties in this field will be analyzed
together with Covid-19.
Since health is a labor-intensive sector, undoubtedly, the number of healthcare
professionals affects the provision of these services. Even if more staff does not
always mean either effective delivery quality or quantity, it is clear that excess staff
means an increase in the number of beneficiaries. Table 1 presents the number
of personnel working in the medical field in G20 countries.1 As can be seen from
1
Technicians and contracted personnel are not included in these figures.
Japan
Indonesia
Italy
Germany
India
France
Canada
China
Australia
94,923
82,757
59,988
53,114
9.28
4.65
80.13
46,132
40,825
65.34
42.0
19.8
24.43
37.6
39.9
189,481
65,874
117,414
274,644
45,243
45,820
356,443
3,263,633
1,030,265
745,485
1,212,000
3,804,021
333,730
441,898
114,219
61,620
61,883
142,421
190,000
87,991
25,294
25,021
565,781
441
5,653
3,812
1,097,609
54,704
1,126,443
1,012
11.44
8.79
0.82
10.64
6.56
3.17
11.69
8.86
5.07
8.03
2.04
0.58
6.67
8.55
4.46
5.2
6.02
15.35
42,079
1,747
1,000
794,375
18,510
19,629
1992
2001
2004
2017
2018
2001
2006
2018
2019
2019
2011
2017
2016
2018
2018
1991
2019
2019
2018
2019
2011
Argentina
11,908
Year Medical Generalist Specialist Nursing & Physiotherapists Traditional & Community Pharmacist Dentist Environmental Medical &
doctors
Medical
Medical Midwifery
Complementary Health
(per 10000 (per & Occupational Pathology
(per
Practitioners Practioners Personnel
Medicine
Workers population) 10000)
Health &
Laboratory
10,000)
Professionals
Hygiene
Scientists
Professionals
Number of Personnel in the Health Sector at G20 Countries.
Country
Table 1.
2017
2019
2018
1997
2019
2000
2010
2018
2019
2016
2018
2010
2017
2018
2009
2018
2000
2011
2014
2018
2018
51,096
58.2
26.0
44,311
47,074
11,692
33,483
108,167
7.9
18.1
44.4
26.12
24.08
48.5
24.8
(Continued)
104,440
104,440
68,170
272,281
89,747
197,818
5,130,507
695,033
247,243
74,556
199,353
655,814
381,867
301,663
1,615,184
29,563
156,365
7,908
5,306
5,472
38,015
49,732
18,401
3,788
Source: Constructed by the author based on the latest WHO (2021e) Health Workforce Statistics
USA
Turkey
UK
South
Africa
Saudi
Arabia
Russia
R. Korea
Mexico
Table 1.
4,627
9.25
8.68
3.89
2.72
8.64
0.49
7.39
18.9
0.49
6.1
5.27
1.09
3.72
4.97
2.84
5.04
1.37
8
14,439
3,881
72,515
508,354
9,939
12,052
Global Impasses in Public Services Provision
165
Table 1, the number of doctors is generally lower in G20 members with upper and
lower middle-income levels compared to high-income level members. However, it
is noteworthy that the number of non-physician health personnel in these countries
cannot be underweened. Nevertheless, it is not possible to make clear judgments
about the level of service delivery or the number of patients benefited during the
pandemic period, since the data on the number of personnel in the Covid period
has not yet been reported to international organizations by any country.
One of the other main indicators of service delivery capacity is the total and
acute hospital beds. As can be seen from Fig. A1, in terms of capacity, the highincome level countries in the G20 have an advantage over others. Tomography
and MRI devices used for the diagnosis of Covid-19 disease are healthcare utilization indicators that determine health service delivery. From Table A3 created
according to the data of OECD, it can be seen that the number of tomography
and MR devices has increased for almost every country compared to the previous
year. However, through these years, it can only be made on a correct interpretation of the data for the year 2017 since all the countries except Turkey shared data.
In the comparison of the aforementioned year, two determinations can be made.
The first is that Mexico, which shares only one data from countries with middleincome levels, has a low number of devices. And the second is that Asian countries
within the G20 outperform other countries in terms of device hardware. What is
striking is that the number of devices in the United States is almost the same as in
countries with middle-income level, which is lower than her income and development level. This difference can be considered as a sign that the United States is
dependent on blood and sputum tests rather than these devices for Covid detection, and for this reason the level of service delivery may be lower than expected.
Table A4, which presents the rates and amounts of healthcare utilization,
reveals that countries with high income and middle-income levels do not have big
differences in terms of health service consumption except South Africa. When
Table A5 is analyzed, it is possible to interpret the share of the state in the level
of health services provided to its citizens through public health expenditures is
determined according to the political economy views of the countries rather than
the income levels of the countries.
On the other hand, considering the share of health expenditures in the GDP
for 2020 only, countries with high income levels have high health awareness and
allocate a higher budget for the provision of healthcare services. In this case, it
is clearly seen that the resources allocated for the prevention of the pandemic,
which is a major global problem, are not allocated effectively. When looking at
vaccination levels, this situation is clearly detected.
Also two conclusions can be drawn from Fig. A2. First, when this figure is
evaluated together with Table A1, it is that in countries with a low number of
cases and deaths, vaccination is progressing slowly, which is acceptable for the
level of health service delivery. However, the second result is rather pessimistic.
Because, although countries with low levels of development generally seem to
be squeezed between 0.4 and 0.2 levels together with high-income countries, it
can be elicitated as that they keep Covid-19 vaccines generally lower than highincome countries, when other tables including health expenditure one are taken
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into account. In this case, overproduction in terms of disease and underconsumption in terms of vaccines made by countries that behave carelessly or do not be
selfless about contributing to the issue as much as other countries, completely
distances the world from the optimal results which can be reached in and after
pandemic. The determination of the position according to these countries indicates that, based on the weak link theory, countries will have to remain in the
ambiguous second best until Covid disappears by itself.
Apart from the health consequences of the pandemic, it also creates problems
in the quantity and quality of other public services. Since public goods and services are not similar to private sector products or the market, it is not possible
for the supply of services to be delayed by the risk of not making a profit. As
explained earlier in “Theory” and “Provision,” public goods are goods that have
to be produced and delivered by states in order to satisfy the collective needs of
the whole society. The fact that no citizen can be excluded from the consumption
of these goods causes states to produce more of these goods than ideal, at the
risk of public loss. When public service institutions were unable to work at the
former capacity or were closed, there were reductions in public service capacity
and experienced several problems in terms of both quality and quantity in public
service delivery. Especially, these problems were encountered in the field of sanitation services, courts, transportation and postal services (ILO, 2021, p. 1). Pure
public (i.e., justice and police services), semi-public (i.e., health and education)
and local public services (i.e., transportation, sanitation) are in the first group
to be affected, and since this first service group touches people’s lives perceptibly, negative externality has occurred in the whole society. Furthermore, due to
these changes in public services, among the obligations (Table A1) that states have
bound themselves by law in terms of public service provision, the principles of
easy access to public service, trust and efficiency were damaged first.
The obligation to provide public service, on the other hand, caused public
servants responsible for providing this service to be affected by the coronavirus.
According to the risk index calculated by Kikuchi and Khurana (2020), healthcare professionals such as doctors, nurses, midwives and veterinarians ranked
first in terms of exposure to the virus. The second group affected other than
healthcare workers are prison officers such as guards, garbage collectors, waterpie technicians, pharmacists, burial officers, police officers, postmen, teachers
and lecturers. Dr. Rezba claims that more than 2,500 healthcare workers died of
Corona virus in the United States as of March 15, 2021 (Jacobs, 2021). According to the research of Amnesty International, Public Services International and
UNI Global Union, the number of healthcare workers who died all over the
world until March 5, 2021, is 17,000 (Amnesty, 2021).
Restrictions for G20 countries are given in Table A3.
Restrictions undoubtedly have both positive and negative effects.2 Prohibition
of meetings and organizations, or warnings about gathering with fewer people than
before the pandemic, along with other restrictions, reduced the need for security in
the context of law enforcement. Likewise, staying at home policies implemented in
2
The impact of the pandemic on public goods is shown in Table 8.
Global Impasses in Public Services Provision
167
order to prevent people from getting this disease contributed to this positive effect
in terms of decreasing the needs and the use of public resources. Nevertheless, there
has been a need for safety in terms of health. The police force was consulted to
ensure that people with the Covid-19 virus stay at home and comply with the restriction. The police force was resorted to ensure that people with the Covid-19 virus
stay at home and comply with the restriction. Similarly, ensuring vaccine safety also
emphasized the importance of safety as a pure public service in this period.
On the other side, dismissal is seen as a last option, due to restrictions, in many
countries, public servants lost their jobs. The restrictions such as the deduction
of public transport, national and international travel restrictions caused in reduction in public services at public places such as bus terminals, airports, and the dismissal of public officials. For example, while there was a 34,000 decrease in the job
advertisements of the federal government in the United States, the employment
contracts of 182,000 people were terminated according to the payrolls (Mazmaian, 2020). According to ILO (2021, pp. 1–2), restrictions have been imposed by
governments in order to prevent public employees as well as citizens from being
harmed by Covid-19. For example, flexible working hours are a practice that is
purely for protecting employees as it in Turkey (Circular No. 31225, 2020). However, this does not alter the possibility that public service providers may not be as
attentive as before, due to low motivation and pandemic fatigue.
At this point, it can be clearly said that the corona pandemic affects and threatens sustainability, which is one of the main features of public services. According to the 2030 Agenda for Sustainable Development published by the United
Nations (UN): (1) policy and strategy planning for the public sector; (2) updating
the service delivery; (3) developing and supporting the infrastructure; (4) mobilizing resources based on use; (5) developing the capacity of human resources; and
(6) monitoring all processes and its evaluation and stabilization is essential in the
post-Covid period (UN, 2021).
Planning and updating service delivery is essential especially for education.
Because, as can be seen in Table A3, almost all countries, due to Covid, have
ceased face-to-face education and switched to digital education or reduced the
number of institutions receiving face-to-face training. This situation also prevents
the steady continuation of the education service. The students affected by the
education are given in Fig. A3. Ninety-four percent of all schools world-wide
are affected by the school closure, and 86% of primary education is out of school
(UN, 2020, p. 5). According to UNICEF (2020), the number of students absent
from school education due to the epidemic is 463 million, and 31% of theö cannot
have digital or broadcast access to education. The lack of materials for students
with low income to participate in digital education contradicts with the principles
of inclusiveness and equality in opportunity, which states promise to comply in
the provision of public services in Table 1. The recovery of education also depends
on improving the situation of the country, which is in the worst global situation.
6. Conclusion
The coronavirus has not only damaged the social system with health practices and
loss of life, but also caused preference distortions in the production and presentation
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decisions of all public services, and it has radically affected the systems. This is
because the pandemic is a global crisis, not a national one, and the market is far
from producing effective solutions to deal with such a wide-ranging problem.
Also, employment losses that increased with the pandemic and the business
losses suffered by tradesmen due to the lockdown of social life actually created
a deep effective demand deficiency. Due to this situation, which is accompanied
by high inflation in some countries, stagflation cases, which have not been seen
in the world-wide economies for a long time, have become a world-wide situation. As the economic crisis makes the market mechanism dysfunctional, healing the wounds has become a state duty. As in the same 1929 World Economic
Depression, while the increase in public expenditures and creating demand in the
economy are discussed, the states announces incentive packages for the private
sector and citizens one after another.
When public services are evaluated in terms of all G20 countries, income level
or income distribution injustice cannot be shown as the reason for the fluctuation
in public goods and services. At high-income countries, the number of deaths
and cases here is at least as high as the countries in the middle-income level. So
the problem here is to be late or behave loosely in the fight against the pandemic.
In addition, the fact that a country states that it will prioritize the citizen in the
provision of public services and the finalization of this issue is of course a development indicator. However, this prioritization is also doomed to lose its validity
as long as production and distribution related disruptions are experienced in the
provision of public goods and services during periods such as epidemics. Social
injustices will come to the fore due to the disruptions in the production and distribution of public goods that satisfy social needs when they are most needed.
When people with money will easily substitute the services, but for those who
have no money, this will not be easy and concepts such as social contract, justice
and efficiency will remain useless element till the revival period.
When the listed problems are gathered, in fact, some other impasses are
encountered in terms of public goods and services due to the Covid-19 pandemic.
It is a fact that the price mechanism cannot effectively work when it comes to
pure public goods and services because of its structural features as the indivisibility, non-excludability and non-rivalry. Therefore, the validity of the first optimal
situation cannot be able to provide in advance of the coronavirus either. Nonetheless, the difference between pre-Corona and current or post-Corona is the difference between the information poverty and the information scarcity, described
by Ng (2017) emerged at the same time. Even our knowledge is scarce for now,
each day the more information we have a drop on repository, yet we are always
scarce without verifying the accuracy of information. Therefore, the state can
intervene in the economy at normal times and obtain the information required
for pricing at the P = MC level, but frankly, this pricing level cannot be achieved
at the moment is due to the fact that the none of the information in the epidemic
period cannot be verified truly by now, and the vitality of the intervention exactly
raise from this point. Hence, where it is not possible to reach the first and third
best condition, the second best option of Lipsey and Lancaster (1956) is valid.
Yet, still, the excessive disease production of countries that create deficiencies in
Global Impasses in Public Services Provision
169
public services and behave carelessly will not lead the world to a heavenly place,
since both the production and consumption of vaccines are currently scarce. In
addition, the lack of fair distribution of what is produced already points to the
global failure of public presentation. As stated in the weak link theory, taking a
position according to the least beneficial or the most harmful situation will not
create the right results to prevent a disease that spreads by mutating as quickly
as Covid-19 since urgent solution is needed. In this case, the so-called second
best situation may be a position that will produce worse results in uncertainty
like stated by Ebert (1985), Maks (2005) and Woo (2010). Additionally, without
obtaining a result in health care, none of the solutions related to the provision of
other public goods (i.e., education, justice and safety) will be able to approach the
optimal situation, and we will always remain in the second best position without
being indifferent to future results that we cannot predict due to myopia. So, the
search for an optimal result in the Covid-19 pandemic can only, but only be possible either by sincerely applying strict measures by all countries or by vaccinating the whole world by finding an effective vaccine.
The Covid-19 pandemic reminded us once again that outbreaks are a global
public bad and should be evaluated within the scope of global goods and services.
Before the virus, even people who produced and consumed unhealthy results were
under the nationality of a country; WHO, whose controls and regulations were
trusted to combat epidemics in a global context, was being addressed for solution not people directly. Each country was trying to provide an efficient flow of
information with its participants. WHO had serious work on what to do in combating a global epidemic that started a few years ago, and countries believed that
when such a situation was encountered, the greatest support and solution would
come from WHO. Covid-19 pandemic also showed that the WHO, which was
established to reduce and control the supply in global cases such as epidemics,
was ineffective, failed in crisis management, and the moves should be made at the
national level, at the level of governments meanwhile an international organizations, such WHO, will not be taken as serious as much before. All of these clearly
shown that in a situation where there is no regulation maker that can determine
the rules clearly, make effective decisions and achieve efficient results, and in the
absence of information flow, the production and distribution decisions of global
public goods will create preference distortions and have distorting effects on the
economy. Therefore, there is also a dilemma between continuing with an inefficient international institution or giving up an already ineffective institution and
providing bilateral information flow on the basis of countries. Because none of
the decisions are close to achieving the optimal situation.
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Global Impasses in Public Services Provision
Appendix
Fig. A1. Hospital Bed Capacity of G20.
Source: Adopted from UN (2020, p. 6).
Fig. A2. Vaccination Graphic of G20 Countries.
Source: World Data (2021).
175
176
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Fig. A3. Number of Children Affected by School Closures Globally.
Source: UN (2020).
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
Integrity
x
x
Openness
x
Objectivity
x
x
x
x
x
x
x
x
x
Honesty
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
Trust
Transparency
Principles of Public Service Delivery
x
x
x
x
x
x
x
x
x
x
x
x
x
Professionalism
x
x
x
x
x
x
x
x
Easy to Access
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
Inclusiveness
b
Germany, France and Italy’s principles are evaluated under EU since they are subjected to EU Laws.
Constructed by author mainly through countries’ public service code of conducts and related laws mentioned in main text.
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
G20 Countries
a
X
X
x
x
Accountability
Argentina
Australia
Brazil
Canada
China
India
Indonesia
Japan
South Korea
Mexico
Russia
Saudi Arabia
South Africa
Turkey
United Kingdom
United States
European Union (EU)
Fairness
Principles of Public Service Provision in G20 Countries.
Prioritization
of citizen
Table A1.
Equality in
Opportunity
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
Bound by Law
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
Efficiency
x
x
x
x
x
x
x
x
x
x
Timelessness
x
x
x
x
x
x
x
Global Impasses in Public Services Provision
177
Per 1,000 population – the latest yearly available data.
56,471
909
340,776
23,118
4,851
96,673
77,401
167,642
41,977
111,747
9,249
204,399
1,756
101,480
6,711
53,032
32,667
126,882
552,125
Total Deaths from
Covid-19 (Per Number)
111.4
60.73
142.8
62.83
80.36
70.98
68.69
178
175.6
53.53
50.83
126.6
60.81
202.7
89.13
301.3
104
66.68
114.1
2016a
112.7
62.17
144.5
63.82
81.52
73.08
71.19
180.5
177.6
54.86
52.57
128.4
62.53
207.8
90.5
304.6
106.5
68.76
110.4
2015a
118.7
63.06
154.3
68.89
87.96
85.28
77.52
194.4
186
57.76
61.36
135.6
76.04
250.6
97.12
416.3
116.2
73.79
105.2
2010a
Source: Constructed by the author based on WHO (2021c) – GHO Mortality data and WHO (2021d) Covid Statistics.
a
Upper middle
High
Upper middle
High
Upper middle
High
High
Lower middle
Upper middle
High
High
Upper middle
High
Upper middle
High
Upper middle
Upper middle
High
High
Income Level
Mortality Data of G20 between 2000–2016 and during Covid-19.
Argentina
Australia
Brazil
Canada
China
France
Germany
India
Indonesia
Italy
Japan
Mexico
R.Korea
Russia
Saudi Arabia
South Africa
Turkey
UK
USA
Table A2.
124.9
68.13
162.2
75.69
95.05
91.55
84.32
210.8
189.1
65.05
67.52
133.6
86.24
325
103.8
473.6
129
81.21
112.3
2005a
138.5
76.93
183.8
80.77
110.3
99.17
95.18
223.8
187.3
75.39
72.14
138.5
113.6
310.7
111.5
361.8
144.1
87.98
114.2
2000a
178
Sevilay Ece Gümüş Özuyar
100
50
50
50
50
0
50
100
50
50
0
50
0
0
0
50
50
50
50
67
0
100
67
33
67
67
100
67
67
33
33
33
0
0
67
67
67
33
Close
Stay at
Public
Home
Transport
100
50
100
100
50
100
100
100
100
100
50
50
100
100
100
50
100
100
50
Cancel
Public
Events
100
75
100
100
25
100
100
100
100
100
25
0
100
75
75
75
75
100
100
100
100
100
100
50
100
50
100
100
100
50
100
50
0
0
0
50
100
50
75
100
25
100
75
75
75
75
75
75
75
25
75
75
75
25
75
75
75
100
100
100
100
100
100
100
100
100
100
100
100
100
100
100
100
100
100
100
67
67
33
67
100
100
100
100
100
67
33
33
100
67
100
100
67
67
100
100
100
0
50
100
50
50
100
100
100
100
100
100
50
100
100
100
50
50
Restrictions Restrictions International
Public
Testing Contact
on
on Internal
Travel
Information
Tracing
Gatherings Movement Restrictions Campaigns
Source: Restriction Index calculated and constituted by WHO. Author constructed for G20 countries.
33
33
100
100
33
67
100
67
100
100
33
100
33
0
100
33
67
67
67
School
Closing
Restrictions and Restriction Indexes for G20.
Argentina
Australia
Brazil
Canada
China
France
Germany
India
Indonesia
Italy
Japan
Mexico
R.Korea
Russia
Saudi Arabia
South Africa
Turkey
UK
USA
Table A3.
Global Impasses in Public Services Provision
179
180
Sevilay Ece Gümüş Özuyar
Table A3. Computed Tomography and MR Units in G20 Countries.
Computed Tomography Scanners (Total/Per Million Population)
2000
2005
2010
2015
2016
2017
2018
2019
Australia 26.28
51.54
43.07
59.54
63
64.34
67.29
70.25
Canada
..
11.57
14.23
15.07
..
15.35
..
14.82
France
7.01
10.02
11.82
16.57
16.95
17.36
17.68
18.24
Germany 24.61
29.51
32.32
35.09
35.17
35.13
..
..
Italy
21.13
27.82
32.17
33.31
34.29
34.57
35.12
..
Japan
..
..
..
..
..
111.49
..
..
Korea
28.38
32.31
35.17
37.03
37.8
38.18
38.56
..
Mexico
..
3.08
4.7
5.5
6.05
5.76
5.9
..
Russia
..
7.44
12.36
14.31
14.53
14.77
14.88
..
Turkey
5.35
7.45
7.92
..
..
..
..
..
UK
..
..
..
41.01
41.88
42.74
44.55
44.94
USA
2.58
3.77
6.9
12.56
12.76
13
13.37
..
Magnetic Resonance Imaging Units Total (Per Million Population)
2000
2005
2010
2015
2016
2017
2018
2019
Australia 3.52
4.26
5.67
14.49
14.3
14.15
14.09
14.78
Canada
2.48
5.74
8.26
9.52
..
10.02
..
10.35
France
1.65
4.78
6.96
12.56
13.55
14.21
14.77
15.43
Germany 14.32
19.89
27.04
33.63
34.49
34.71
..
..
Italy
7.76
15.01
22.47
28.24
28.4
28.66
28.73
..
Japan
..
40.14
..
..
..
55.21
..
..
Korea
5.4
12.12
19.88
26.27
27.81
29.08
30.08
..
Mexico
..
1.15
1.95
2.37
2.54
2.6
2.65
..
Russia
..
2.91
9.27
10.15
10.55
11.01
11.24
..
Turkey
5.62
5.4
6.55
..
..
..
..
..
UK
..
..
31.52
39.03
36.74
37.65
39.24
40.44
USA
1.13
1.54
2.51
4.64
4.52
4.6
4.84
..
Source: OECD stats: https://stats.oecd.org/index.aspx?queryid=30184#.
Global Impasses in Public Services Provision
181
Table A4. Healthcare Utilization in G20.
Healthcare Utilization in G20
Doctors’
Child
Consultation Vacination
Rate
(Diphtreia,
Tetanus,
Pertussis)
Child
Vacination
Rate
(Measles)
Length of
Hospital
Stay
Hospital
Discharge
Rate (Stayed
At Least One
Day)
(Per Capita)
(% of
Children)
(Per
Children)
(Days)
(Per 100,000
Habitants)
7,800
94.6
95
4,100
17,887
83
84
91
90
7,500
8,410
Australia
Brazil
Canada
6,700
China
99
99
France
5,900
96.30
90
5,400
18,553
Germany
9,900
93
97
7,500
25,478
India
89
90
Indonesia
79
75
Italy
95.10
93
7,000
11,415
Japan
12,600
99
97
16,100
13,356
Korea
16,900
97.50
98
7,500
17,162
Mexico
2,800
88
97
Russia
9,800
96.90
98
74
70
98
96
4,100
16,588
UK
94
92
5,900
12,869
USA
94
92
5,500
South Africa
Turkey
Source: OECD stats.
9,500
4,844
9,100
Source: OECD stats.
13
8
8
8
8
4
10
10
4
2
8
7
4
4
5
4
7
5
7
2000
15
8
8
8
9
4
10
10
4
3
8
8
6
5
5
3
7
5
9
2005
16
9
8
8
11
4
11
11
3
3
9
9
6
6
5
4
7
5
10
2010
17
10
9
9
11
5
11
11
4
3
9
11
6
7
5
6
8
4
10
2015
17
10
9
10
11
5
11
11
4
3
9
11
5
8
5
6
8
4
10
2018
Current Health Expenditure as %
GDP
Health Spendings.
Argentina
Australia
Brazil
Canada
China
France
Germany
India
Indonesia
Italy
Japan
Mexico
R. Korea
Russia
Saudi Arabia
South Africa
Turkey
UK
USA
Table A5.
6
5
5
3
6
1
7
8
1
1
5
6
2
2
3
3
3
3
6
2000
7
4
6
3
7
1
7
8
1
1
6
6
2
3
3
2
3
3
7
2005
8
6
6
4
8
2
8
8
1
1
7
8
3
4
3
2
4
4
8
2010
8
7
6
4
8
3
8
9
1
1
7
9
3
4
3
4
4
3
8
2015
9
6
6
4
8
3
8
9
1
1
6
9
3
4
3
4
4
3
8
2018
6
5
5
3
6
1
8
8
1
1
5
6
2
2
3
3
3
3
6
2000
7
4
5
3
6
1
8
8
1
1
6
6
2
3
3
2
2
3
7
2005
8
6
6
4
7
2
9
9
1
1
7
8
3
4
3
2
3
4
8
2010
14
7
6
4
8
3
9
9
1
1
7
9
3
4
3
4
4
3
8
2015
14
6
6
4
8
3
9
10
1
1
6
9
3
5
3
5
4
3
8
2018
Domestic General Government Health
Government and Compulsory
Expenditure as % GDP
Contributory Health Care as % GDP
182
Sevilay Ece Gümüş Özuyar
Global Impasses in Public Services Provision
Table A6. Age Group – Lack of Support in G20.
Lack of Social Support in G20 (No Friends, No Relatives …)
Old
Middle Aged
Young
Australia
6.20
6.7
1.8
Brazil
12.7
10.4
6.1
Canada
7.4
7.1
4.3
France
9.6
7.7
6.8
Germany
9.3
6
3.1
Italy
11.7
9.2
6
Japan
10.5
9.3
6.3
Korea
34.7
17.8
5.8
Mexico
19.2
20
17.4
Russia
12
9.3
5
South Africa
13.5
13
10.6
Turkey
23.3
20.5
13.8
UK
6.2
6.4
4.5
USA
9.4
10.7
5.5
Source: OECD (2021): oecd.org.
183
184
Sevilay Ece Gümüş Özuyar
Table A7. Public Services Affected by the Covid-19.
Public Services Affected by the Covid-19
Public Service
Education
Type and Degree
of Impact
Secondarily –
highly negative
Public Service
Utilities
Type and Degree
of Impact
Seconarily –
negative/positive
Health (hospitals, Primarily – highly Arts and culture
negative
doctors, etc.)
Negligible effects
Public safety
Secondarily –
negative/positive
Natural resources
Negligible effects
Environmental
protection
Secondarily –
positive
Agriculture
Negligible effects
Justice
Secondarily –
negative/positive
Recreation
Secondarily –
positive
Competition &
consumer
protection
Negligible effects
Highways
Secondarily –
positive
Immigration &
customs
Negligible effects
Prisons
Secondarily –
negative
Global affairs
Only in terms of
vaccine
Library
Negligible effects
Transportation
Secondarily –
highly negative
Job search service
Secondarily –
highly negative
Infrastructure
Seconarily –
negative/positive
Emergency call
centers
Primarily – highly
negative
Urban planning
Negligible effects
Fire services
Negligible effects
Funeral homes
Primarily – highly Animal shelters
positive/negative Veterinary
Secondarily –
highly negative
Sanitation
Secondarily –
negative
Garbage services
Secondarily –
negative
Unemployment
insurance
Secondarily –
highly negative
Suicide revention
Secondarily –
negative
Child Protection
Service
Negligible effects
Support service of
domestic violence
Secondarily –
highly negative
Postal system
Secondarily –
negative
Telecommunication
Secondarily –
negative/positive
Public
broadcasting
Seconarily –
negative/positive
Law enforcement
Secondarily –
highly negative
Source: Constructed by author.
Chapter 9
Implementation of Sustainability
Özlem Tuna
Abstract
In recent years, growing concerns about the environment and climate
change, poverty problems, growing inequality among societies, and
tensions brought about by social injustice have increased the popularity
of sustainability, which is considered a multidimensional concept, among
scientists, decision-makers, academics, and companies. The perception of
these different groups of sustainability issues and the tools they suggest/use
for corporate sustainability implementations differ from each other. It can
be difficult to look for and understand sustainability tools that are handled
with different perspectives in many sources. In this chapter, the tools used
in sustainability implementation are discussed with certain classifications –
environmental management tools, sustainability reporting, and corporate
social performance – and their relations with each other. In short, this
study aims to present a holistic perspective to the sustainability (or of
corporate sustainability) implementations carried out by companies trying
to survive in a dynamic and complex economic environment. Accordingly,
the literature was reviewed, and the concept of sustainability was explained,
the reasons that push companies to sustainability implementations
were evaluated, and sustainability implementations were detailed under
environmental management tools, sustainability reporting, and corporate
social performance.
Keywords: Corporate sustainability; implementation of sustainability;
environmental management tools; sustainability reporting; corporate
social performance; climate change
Insurance and Risk Management for Disruptions in Social, Economic and Environmental
Systems: Decision and Control Allocations within New Domains of Risk, 185–205
Copyright © 2022 by Emerald Publishing Limited
All rights of reproduction in any form reserved
doi:10.1108/978-1-80117-139-720211009
186
Özlem Tuna
1. Introduction
The concept of sustainability was first used in 1713 to describe the rules of economic use of forests (such as never using more than the first harvest) (Brander, 2007;
Kuhlman & Farrington, 2010). Mass production, which increased with the industrial revolution, caused the overconsumption of natural resources and in this case
the deterioration of the ecological balance. During this period, although societies
achieved economic growth by achieving their industrialization goals, they could not
prevent the emergence of environmental and social problems. These negative issues
made it necessary to take some precautions in order for economic development to be
sustainable. While achieving economic growth, efforts to improve the environment
and the social environment have led to the emergence of the concept of sustainable development. Sustainable development was opened to discussion in the international platform in the report named “Our Common Future,” which was officially
presented to the United Nations General Assembly in 1987 for the first time. In the
report, sustainable development is defined as Sustainable development is development
that meets the needs of the present without compromising the ability of future generations to meet their own needs (Bruntland, 1987). To achieve the vision defined in the
definition of sustainable development, the contribution of the real sector is defined
as corporate sustainability (Bansal, 2005) and corporate sustainability is seen as
a precondition for sustainable development (Hörisch, Wulfsberg, & Schaltegger,
2019). Corporate sustainability reveals the strategic relationship of a company with
sustainable development. Company managers create and implement sustainability
strategies to respond to environmental and social problems. Thus, a sustainabilityoriented company becomes one that uses resource-efficient technologies and develops environmentally friendly goods and services. Formulation and implementation
of a corporate sustainability strategy is a challenge for companies, because every
company has different characteristics (e.g., industry sector, organizational structure
and internal processes, capabilities, company policies, stakeholder interests, market
changes, external factors, environment, etc.). The alignment of company strategies
with corporate sustainability issues helps them cope with environmental and social
challenges. Therefore, decision-makers should choose the appropriate sustainability
strategy in line with their company strategy (Fagerlind, Stefanicki, Feldmann, &
Korhonen, 2019). While determining their sustainability strategies, companies are
under the influence of many factors such as legal compliance, competitive advantage, cost reduction, economic performance, innovation, social and environmental
responsibility, corporate reputation, risk management, and quality management
(Kiesnere & Baumgartner, 2019). Companies implement their sustainability strategies under the influence of these driving forces and continue doing this for a long
time. Achievement of this is possible with the integration of various sustainability
practices into company activities and company processes. For this purpose, companies that use different management tools, such as environmental management tools,
sustainability reporting, and corporate social performance develop their relations
with their stakeholders with the help of these tools and increase mutual interaction.
In this part of the chapter, the relevant literature was reviewed in the light of
the above explanations, the concept of sustainability was explained, the reasons
that push businesses to sustainability practices were evaluated, and sustainability
Implementation of Sustainability
187
practices involving environmental management tools. Literature on environmental management system, environmental auditing, sustainable product design,
green marketing, sustainability reporting and corporate social performance, as
well as social audit, social management and accounting standards, and corporate
philanthropy are also reviewed.
2. Defining Corporate Sustainability
Institutional sustainability has been the subject of research in social sciences since
the mid-1900s. Research on sustainability has focused on how to ensure human
well-being and protecting the environment from irregular production activities
that cause pollution and resource degradation (Christofi, Christofi, & Sisaye,
2012). The company world has also approached the subject with sensitivity, for
example, in an article published in the Harvard Business Review, where it claimed
that “only companies that make sustainability a target in the future will gain a
competitive advantage” (Galayda, 2010). Considered to be broader in scope and
longer than other trends (Derqui, 2020), corporate sustainability constitutes an
alternative to the traditional growth and profit maximization model and is called
a management “paradigm.” While emphasizing the importance of corporate
growth and profitability in corporate sustainability, it is also pointed out that
companies should follow social goals, especially environmental protection, social
justice and equality, and economic development, which are particularly related
to sustainable development (Christofi, Christofi, & Sisaye, 2012). Corporate sustainability is an organizational commitment to provide competitive advantage
through the support of production processes to the environment and society,
and the strategic adoption and development of products, services, and innovative
human resources practices (Nemli, 2004). Table 1 includes definitions regarding
corporate sustainability.
Table 1. Definitions of Corporate Sustainability.
Corporate sustainability is to meet the needs of direct and indirect stakeholders
(shareholders, employees, customers, pressure groups, communities, etc.) of a
firm without compromising its ability to meet the needs of future stakeholders
(Dyllick & Hockerts, 2002, p. 131)
Corporate sustainability to a company’s activities – voluntary by definition –
demonstrating the inclusion of social and environmental concerns in business
operations and in interactions with stakeholders (Marrewijk & Werre, 2003, p. 107)
Corporate sustainability is business approach that seeks to create long-term value
for stakeholders by embracing the opportunities and managing risks associated
with economic, environmental, and social developments (Galbreath, 2009, p. 306)
Corporate sustainability is the adaptation of economic, social, and environmental
factors to business activities and strategies to create long-term value (Tuna,
2014, p. 18)
Source: Author compilation.
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Özlem Tuna
Today, sustainability has become more and more the task of senior executives, causing consumer expectations and other market dynamics to be shaped
differently and companies’ investments in this area have accelerated. These developments have made sustainability an integral part of company, strategy, and
activities in the new world order, where company interests do not conflict with
social interests. Economic and profit-oriented perspectives are also important,
as well as social and environmental issues. The realization of sustainability in the
long-term necessitates a simultaneous focus on economic, social, and environmental dimensions. The relationship between dimensions is called “triple bottom
line” in the literature. These three dimensions (Besler, 2009) are detailed below.
Environmental Sustainability: Environment and development are interconnected in a complex cause and effect relationship. Therefore, environmental
sustainability is seen as an integral part of development. The environment is
an important stakeholder for companies, shareholders, employees, customers, and society due to their dependence on it. Therefore, the activities of
the companies affect the environment significantly. Companies respond to
environmental threats at an individual level (integrating sustainability issues
into their mission and strategies) and group level (establishing associations to
interact with institutions) (Prasad, Mishra, & Bapat, 2019). The sensitivity of
companies to environmental issues is generally based on three reasons: legitimation, competitiveness, and ecological responsibility. Companies that see
legitimacy as the driving force focus on obeying norms and rules to keep their
operations running smoothly, and closely follow the opinions of the government, local community, and stakeholders. Companies motivated by gaining
competitive advantage aim at profitability with low cost and differentiation
strategies. Its decisions focus on the needs of customers and investors and
include cost-benefit analysis. Companies that are motivated by ecological
responsibility, on the other hand, aim to increase corporate ethics (Bansal &
Roth, 2000). For this purpose, they turn to reformist, redesign, and restructuring activities that will minimize negative ecological impacts. However, despite
many advances toward environmental sustainability in theory and practice,
companies still face many obstacles on the road to sustainability.
The first is that current economic systems make many pollutants and
waste goods appear attractively cheap because these systems do not include
all ecological costs in production or uses. Second, in the industrialized world,
consumers are accustomed to various types and levels of unsustainable
consumption. The third is pressure from interests, financial difficulties, and
organizational inaction (Shrivastava, 1995).
Social Sustainability: The traditional management approach, which takes
into account new variables such as environmental protection, social welfare,
or human rights, and aims to maximize the value of shareholders, has gradually changed since 1987 (Brundland Report), when the concept of sustainable
development was defined. This new perspective requires interconnections
between environmental, social, and economic dimensions that are valued by
the triple bottom line approach (Toussaint, Cabanelas, & Blanco-González,
2021). Among these dimensions, social sustainability (when considered
Implementation of Sustainability
189
globally) refers to a positive situation shaped by social trends, where access
to key services such as health, education, transportation, accommodation,
and recreation is equal (McKenzie, 2004). Social sustainability is defined as
a situation that increases the quality of life of societies and occurs through
various processes. These processes are listed below (McKenzie, 2004):
⦁⦁ Ensuring equality in access to key services such as health, education,
transport, housing, and recreation.
⦁⦁ By ensuring equality between generations, the activities carried out by
today’s generation do not constitute a disadvantage for future generations.
⦁⦁ Establishing a cultural relations system in which the positive aspects of dis-
similar cultures are valued and protected and promote cultural integration.
⦁⦁ Dissemination of citizens’ political participation not only in election times,
but also in all other areas of political activity (especially political activities
at the local level).
⦁⦁ Establishing a system to transfer social sustainability awareness from one
generation to the next.
⦁⦁ Developing awareness of social responsibility for the protection of the
established system.
⦁⦁ Developing methods to identify the common strengths and needs of a
community.
⦁⦁ Establishing mechanisms to meet the needs of a society as much as possible.
At an organizational level, it means taking care to develop the social sustainability employee, proactively addressing the issues that concern the society
and executing them with the stakeholders (Linnenluecke, Russell & Griffiths,
2009). However, due to its complexity and sensitivity, social sustainability is
difficult to implement and measure, and compared to environmental factors,
the company receives less attention in its operational plans. Many serious
social problems such as forced labor in general, modern slavery in the workplace, child labor, violation and abuse of labor rights, busy working hours, or
poor working conditions are the topics that need to be solved to ensure social
sustainability (Toussaint, Cabanelas, & Blanco-González, 2021). Although
social sustainability is accepted as one of the main pillars of sustainable development (by The World Commission on Environment and Development), it
is often neglected by scientists, decision-makers, academics, and companies.
There are four main reasons why social aspects of sustainable development
are relatively neglected in the business literature (Sajjad & Shahbaz, 2020):
⦁⦁ Objectives of business enterprises (such as profit maximization) to show
that they are not always aware of the social impacts they create.
⦁⦁ Considering environmental sustainability as the basis of sustainable
development.
⦁⦁ The main problems of social sustainability are generally under the control
and interest of the state and non-governmental organizations.
⦁⦁ Social sustainability deals with more sensitive issues than environmental
sustainability, which has a relatively scientific basis for measurement and
analysis.
190
Özlem Tuna
For these reasons, most of the sustainability literature deals with the environmental dimension and the studies on social sustainability are insufficient.
Economic Sustainability: Economic sustainability means that economic
well-being does not decline. It is the allocation of savings and investment to
present and future generations in a way that ensures high welfare. It is the
protection of production and natural capital in order for companies to continue their productivity. Economic sustainability is influenced by investment
choices made by institutional investors and emphasizes resource efficiency.
This means that economic sustainability manages losses and surpluses to
achieve maximum economic efficiency and focuses on trade to ensure company strategy continues (Štefko, Vašaničová, & Pachura, 2021).
The economic dimension of sustainability is the provision of necessary
goods, services, and monetary justice to leave a high quality of life to future generations, as well as the creation of a socially and ecologically balanced economic
system (Stead & Stead, 2004). In another definition, economic sustainability is
defined as the monetary gaining dimension of sustainable development. It is
possible to list the developments that will generate monetary gain as less energy
use, reduction in water costs, benefiting from tax incentives and efficiency resulting from light, temperature, and ventilation control (Mimms, 2010).
Economic sustainability has an understanding that creates added value
rather than the traditional accounting approach. For this reason, realizing
value-added activities, in other words ensuring economic sustainability, is
possible by fulfilling the following criteria (Jamali, 2006):
⦁⦁ Reducing operating expenses through systematic management of resources.
⦁⦁ Reducing the cost of doing business.
⦁⦁ Becoming attractive with new jobs with careful policies.
⦁⦁ Increasing productivity through employee motivation.
⦁⦁ Attracting new investors to the company.
⦁⦁ To put forward various ideas to be included in social responsibility investments.
3. Integrating Sustainability into Business Implementations
Corporate sustainability is based on the balance established in economic, environmental, and social (triple bottom line) dimensions in issues such as public
commitments, production processes, stakeholder participation, and public disclosure. Corporate sustainability should be compatible with the strategies and goals
of the companies. Achieving this harmony depends on the importance given to
sustainability practices (environmental management tools, sustainability reporting, and corporate social performance) (Nascimento, Araujo, & Alves, 2017). A
growing number of companies have become more sensitive to social issues and
stakeholder concerns and are striving to become better corporate citizens. The
motivation for these companies can be community, environment, government
regulations, stakeholder pressures, or economic return anxiety. However, whatever the reason, companies need to make significant changes to manage social,
Implementation of Sustainability
191
economic, and environmental impacts more effectively. There are many factors
that lead companies to make these changes (toward sustainability practices). For
example, Epstein (2009) categorized the reasons that drive companies to sustainability in four categories:
1.
2.
3.
4.
Regulations. Government regulations and industry codes of conduct require
companies to increasingly consider sustainability. In particular, the costs of
non-compliance with regulations and legislation (penalties and fines, legal
costs, loss of productivity due to additional audits, possibility of company
closure, impact on corporate reputation, etc.) are an important driving force
for companies.
Community relations. By identifying social and environmental issues that are
important to key stakeholders, companies performing well in these areas can
provide a positive reputation among stakeholders, while improving community relations and company performance.
Cost and revenue imperatives. Sustainability can create financial value for
the company through increased revenues and lower costs. Income can be
increased by increasing sales thanks to the improved corporate reputation.
Costs can be reduced due to process improvements and a reduction in legal
penalties.
Societal and moral obligations. The moral responsibilities of companies
regarding their social and environmental impacts lead them to include sustainability in company strategies.
Moreover, Yu (2004) identified reputation, government and legal pressures and
market forces as the most important motivators in his study; AICPA, CIMA &
CICA Research Study (2010) identified the driving forces as legislative and regulatory pressures, efficiency and cost savings, competitive advantage, and longterm profitability; Hahn and Scheermesser (2006) recognized ecological and
social responsibility and its image; The Economist Intelligence Unit (EIU) (2008)
customer retention, increased shareholder value and profits; on the other hand,
İMKB (Istanbul Stock Exchange) (2011) identified reputation, legal regulation,
and competition as the most important driving forces.
Regardless of the reason, with the widespread use of sustainability practices
in companies, relations, and mutual interaction with stakeholders will increase,
which will positively affect the company performance. In this respect, it is possible
to categorize the sustainability practices carried out in companies under three
main headings: environmental management tools, sustainability reporting, and
corporate social performance.
3.1. Environmental Management Tools
Today, the economic burden placed on the industry by the activities carried out to
protect the environment leads organizations to re-evaluate their operations, company performance, and corporate strategies (Ngniatedema & Li, 2014). Companies
use environmental management tools to minimize the negative environmental
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effects caused by their production. Especially in the last two decades, many management tools have been developed for corporate sustainability practices based
on environmental management. It is possible to list the commonly used environmental management tools as environmental management system (ISO 14001,
Eco-management and Auditing Scheme (EMAS)), environmental auditing, sustainable product design, and green marketing.
3.1.1. Environmental Management System. The environmental management
system helps companies manage, monitor, and control their environmental problems with a holistic approach. There are two main reference standards that determine the requirements for an environmental management system: ISO 14001 and
EMAS regulated by the European Regulation. EMAS is the most reliable and
robust environmental management tool on the market. It requires fulfillment of
more than ISO 14001 requirements, which is the international standard for Environmental Management Systems. The ISO 14001 standard has been an integral
part of EMAS since 2001. In this way, it has helped many ISO certified organizations migrate to EMAS in an uncomplicated process.1 It is easier for an organization that meets the requirements of an environmental management system such
as ISO 14001 to move to EMAS. ISO 14001 sets and certifies the criteria for the
environmental management system. It draws a road map that an institution can
follow to establish an effective environmental management system.2 ISO 14001
is suitable for all types and sizes of companies that are for-profit, non-profit,
or governmental. It provides assurance to company managers, employees, and
external stakeholders that the environmental impact is measured and improved.
It covers all environmental issues related to a company’s activities such as air
pollution, water and sewage problems, waste management, soil pollution, climate change mitigation, resource use, and efficiency. Companies should take a
strategic approach to improve their environmental performance. The ISO 14001
Standard helps organizations in the following issues:
⦁⦁ Demonstrate company compliance with current and future legal requirements.
⦁⦁ Increasing the relationship and responsibility of employees with the leader.
⦁⦁ Ensuring company reputation and stakeholder trust through strategic
communication.
⦁⦁ Including environmental problems in management activities and achieving
strategic goals.
⦁⦁ Providing financial advantage and competitive advantage by increasing effi-
ciency and reducing costs.
⦁⦁ Providing a better environmental performance by integrating suppliers into
company systems.3
1
https://ec.europa.eu/environment/emas/join_emas/emas_iso_14001_en.htm. Accessed
on April 23, 2021.
2
https://www.iso.org/iso-14001-environmental-management.html.
Accessed
on
March 30, 2021.
3
https://www.iso.org/iso/iso_14001_-_key_benefits.pdf. Accessed on February 27, 2021.
Implementation of Sustainability
193
The EMAS is a senior management tool developed by the European Commission for companies and other organizations to evaluate, report, and improve their
environmental performance. EMAS is open to any organization that wants to
improve its environmental performance. It covers all economic and service sectors
and can be applied worldwide.4
EMAS and ISO 14001 are similar in terms of their components and requirements. However, unlike ISO 14001, EMAS wants companies to explain their environmental reports, to use the best technologies to reduce environmental impacts,
and to increase transparency by making a lot more information available to the
public (Morrow & Rondinelli, 2002). While the main reason for companies to
adopt ISO 14001 is the pressure from external stakeholders for green investment
practices, EMAS is affected by internal motivations. Since there is no commitment given to the authorities in ISO 14001, it is weaker than EMAS in improving
environmental performance (Martins & Fonseca, 2018).
3.1.2. Environmental Auditing. Environmental audit is an environmental
management tool used to measure the environmental impacts of certain activities
according to specified criteria or standards (More, 2019). The definition of environmental auditing made by The International Chamber of Commerce (1989) is
as follows:
A management tool comprising systematic, documented, periodic
and objective evaluation of how well environmental organization, management and equipment are performing with the aim of
helping to safeguard the environment by facilitating management
control of practices and assessing compliance with company policies, which would include regulatory requirements and standards
applicable.
Environmental audit is a tool used to control what a company has to do.
The concept originated in industrialized countries such as Canada, the USA,
the UK, and the Netherlands in the early 1970s, under numerous approaches
and names (e.g., environmental review), depending on companies (Ingole, 2012).
Its rapid development started in 1988. As environmental auditing changes and
evolves (Fig. 1), the role of auditors has also changed and interest in auditing
has shifted to management control. Nowadays, as an extension of regular annual
operational audit, companies have begun using education, training, and internal auditors to carry out environmental audits (Ljubisavljević, Ljubisavljević, &
Jovanović, 2017).
EMAS and ISO 14001 require companies to conduct an environmental management system audit. Environmental auditing helps a company to check whether
its environmental management system, namely EMAS and ISO 14001, meets the
requirements. For example, a company that has a waste management policy and
has accepted the sectoral directives, audits its own waste management activities
4
https://ec.europa.eu/environment/emas/index_en.htm. Accessed on February 28, 2021.
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Auditors Focus of Environmental Factors
Technical
Issues
-88
Compliance
with legal
regulations
89-91
In-depth
analysis
92-94
Management
control
95 +
Time
Fig. 1. How Environmental Audit Changed Over Time.
Source: Ljubisavljević et al. (2017).
for compliance with the directives; or an environmental audit can be used to
check the compliance of the relevant company with legislation in the event that
a company wants to buy another company. Sometimes companies can use environmental auditing to check the compliance of the relevant personnel with the
procedures used to carry out important operations (United Nations Development Programme (UNDP), 2011).
3.1.3. Sustainable Product Design. In 2019, the United Nations (UN) published
data saying that 7,500 liters of water (the amount that a person drinks in seven
years) is used to produce jeans. Greenpeace, on the other hand, stated that the consumption of natural resources has doubled in the last 30 years. Such data reveals
the ecological situation faced by the world. These negativities have prompted the
UN to advocate a new production model that uses resources and energy in the most
efficient way, improves sustainable infrastructure, improves access to basic services,
and offers high-quality green company opportunities.5 Sustainable design is against
the design of products that are discarded after only one use and often incinerated
at the end-of-life. Sustainable design seeks an answer to the question “how do we
find ways to make this product a resource for new products at the end of its life?”.
Sustainable design strategy aims to extend or closing6 the lifecycle of products.7 Sustainable design is a strategic design activity that considers environmental impacts
throughout the entire life cycle of products, raw materials and materials, from
extraction, distribution, use, and end-of-life disposal (Mathieux, Brissaud, & Zwolinski, 2007). Sustainable design is one of the main stages of a company’s journey
toward sustainability. In the design of sustainable products, improving the product
development process is crucial and requires systematic incorporation of environmental aspects into the production process and the design of the final product.
5
https://www.iberdrola.com/social-commitment/eco-design-sustainable-products.
Accessed on March 3, 2021.
6
Closing a product’s lifecycle means to use materials that can be easily recycled and
from which secondary raw materials can be extracted to produce new products (https://
cyclic.design/eco-design-products/).
7
https://cyclic.design/eco-design-products/. Accessed on March 3, 2021.
Implementation of Sustainability
195
The first directive for sustainable design was issued in 2005 with the title Ecodesign of Energy-Using Products as the EU Eco-design Directive (2005/32/EC
Directive). Following this development, international standards for environmental management and sustainable design have been developed for companies. Of
these, ISO 14006: 2020 guides the management of sustainable design as part of
the environmental management system. ISO/TR 14062: 2002 explains the sustainable design concepts and practices related to the integration of environmental
issues into the product design and development process (Muthu, 2014).
The sensitivity of companies to environmental problems and their practices in
this direction will cause a decrease in expenditure costs for the improvement of
the company image, a decrease in product costs with the help of environmental
technologies, and a certain rate of improvement in income. Studies show that
companies that adopt sustainable design gain commercial advantages such as
cost advantage, accessibility to new markets, and introduction of new products
(Iranmanesh, Fayez, Hanim, & Hyun, 2018).
3.1.4. Green Marketing. The concept of sustainability has been of interest to
many disciplines and marketing is one of them. However, the fact that marketing is based on the continuous consumption model despite ecological problems
creates a contradiction with sustainability and is also seen as the antithesis of sustainability. Despite this, marketing also has the potential to influence sustainable
lifestyles and produce sustainable products. Green marketing requires meeting
customer needs, achieving organizational goals and ensuring that the processes
are compatible with the ecosystem during the development, pricing, promotion,
and distribution processes of products (Kemper & Ballantine, 2019).
Green marketing is often practiced by companies committed to sustainability and
corporate social responsibility. Many companies today realize that they can make
their products more attractive to consumers and also reduce costs in many areas
such as packaging, shipping, energy, and water use. The products of companies that
have adopted sustainability are features that are environmentally produced, do not
contain toxic or ozone-depleting substances, are made of recycled materials or are
recyclable, are made of renewable materials, do not use excessive packaging, and are
designed to be repairable or disposable (Ward, 2020). Companies go through many
processes until they reach the stage of sustainable marketing (Madeira, 2019):
⦁⦁ Phase one – ecological marketing phase that focuses on environmental issues
such as air pollution and resource depletion.
⦁⦁ Second stage – is the environmental marketing process that started in the late
1980s and was shaped by events and studies showing the vulnerabilities of the
environment. At this stage, the focus of companies is to develop cleaner technologies that enable them to create innovative products while also addressing
concerns about pollution and waste management.
⦁⦁ Third stage – the sustainable marketing process in which companies become
interested in offering products with less impact on the environment.
⦁⦁ Final stage – what is nowadays called “green marketing,” where the focus
is expanded to include reducing or avoiding the social and environmental
impacts of goods and services.
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Sustainability is no longer a global concern for companies, but also for governments and consumers. Studies support this. The number of consumers who
stated that they were familiar with the concept of sustainability increased from
12% in 2014 to 36% in 2019. In addition, 66 out of 100 people described themselves as sensitive to environmental problems and 64 out of 100 stated that their
sensitivity in this area has increased in recent years. Increasing consumer interest
in sustainability has increased the sensitivity of many companies in environmental practices. For example, Ikea has solar panels in 90% of its buildings and uses
wind farms to generate electricity. In addition, the company only sends 15% of
its waste to landfills, and its future plans include 100% renewable energy. Nestlé
focuses its environmental strategy on packaging, on the other hand, and plans to
make 100% of its container’s reusable or recyclable by 2025. Nestlé’s main goal
is to help its consumers reduce their greenhouse gas emissions by at least 20 million tons by 2030 by offering more and more green solutions from road fuels. The
company aims to recycle 100% (currently 80%) of organic waste by 2025 and to
process more than one million tons of plastic by 2030 (Frigo, 2021).
3.2. Sustainability Reporting
Investors, lenders, shareholders, and other stakeholders demand more transparency from companies on environmental and social issues. Sustainability reporting is a tool that helps companies explain these issues to the public (Özcan, 2020).
Reporting on a voluntary basis means a good reputation and a kind of “license to
operate” from the community. Sustainability reports are market-based, shaped
by the impact of several social, political, regulatory and ethical forces (marketbased, societal, political, regulatory, and ethical drivers) (Vormedal & Ruud,
2009). Reports are used to meet the needs of stakeholders, to close the information gap between the company and stakeholders, and to increase transparency
in information reporting (Aman, Saleh, Shukur, & Jaafar, 2021). Thus, reports
help to establish communication between stakeholders and companies. This
communication plays an effective role in the fulfillment of the social contract
and legitimacy process (Nilipour, Silva, & Li, 2020). The social contract between
companies and society forces companies to comply with some rules within the
framework of social responsibility, apart from making a profit. The legitimate
conduct of company activities depends on this implicit social contract between
society and companies. Sustainability reports are an important tool for informing the public about the legality of the activities of companies (Kavut, 2010).
Reports used under the influence of a number of driving forces provide a number
of benefits to companies (Clikeman, 2004):
⦁⦁ Creating a solid and reliable basis in negotiations with stakeholders.
⦁⦁ Increasing transparency of the company by providing relevant and consistent
information, especially for target stakeholders such as the local community,
investors, and government.
⦁⦁ Contributing to the reputation of the company by increasing its market share,
customer loyalty, and brand value in the long term.
Implementation of Sustainability
197
⦁⦁ Encourage and facilitate the implementation of management systems to better
monitor environmental and social risks.
⦁⦁ Helping to demonstrate the existence of company values and principles in
environmental and social issues.
The “Six Growing Trends in Corporate Sustainability” survey conducted by
Ernst & Young (EY) and GreenBiz Group (2013) evaluated the contribution of
environmental initiatives and compliance with standards to companies. According to the results, 47% of the participants’ sustainability reports and compliance
with universal standards adds credibility to the information provided to external
stakeholders, 10% stated that they used their practices to compare with industry
best practices, and 9% used it to prove the accuracy of carbon emission data.
Research shows that, albeit for different reasons, more and more companies report
their sustainability activities. KPMG’s 2020 report also supports this scenario.
The research was carried out on two samples coded as “N100” and “G250.”8
According to the report, 80% of N100 companies have sustainability reports; this
rate is 96% in G250 companies. The 10 countries with the highest sustainability reporting are Japan, Mexico, Malaysia, India, USA, Sweden, Spain, France,
South Africa, and the UK. One also notes that the Global Reporting Initiative
(GRI) continues to be the dominant global standard used by about two-thirds of
the N100 and three-quarters of the G250 (KPMG, 2020). Consequently, sustainability reports and universal standards are part of the sustainable behavior of
organizations and are a good way of demonstrating their transparency to society.
The GRI and the United Nations Global Compact (UNGC) are seen as effective initiatives in sharing the integrated performance indicators (economic, ecological, and social) of companies with society. These initiatives, which work in close
cooperation with the UN programs and operate worldwide, enable companies to
announce their efforts to minimize their negative impact on the environment and
society to all stakeholders with comparable standards (Schneider & Meins, 2012).
GRI is an international, multistakeholder, independent, and non-profit organization that supports economic, environmental, and social sustainability. GRI
was established in 1997 in partnership with the United Nations Environment
Program. The organization has developed sustainability reporting guidelines
that provide a comprehensive sustainability reporting framework to all companies and organizations trying to increase the transparency and accountability of
economic, environmental, and social performance. In 2016, GRI moved from
8
The N100 refers to a worldwide sample of 5,200 companies. It comprises the top
100 companies by revenue in each of the 52 countries and jurisdictions researched
in this study. These N100 statistics provide a broad-based snapshot of sustainability
reporting among large and mid-cap firms around the world.The G250 refers to the
world’s 250 largest companies by revenue as defined in the Fortune 500 ranking of
2019. Large global companies are typically leaders in sustainability reporting and
their reporting activity often predicts trends that are subsequently adopted more
widely (KPMG, 2020).
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providing guidelines to setting the first global standards for sustainability reporting (GRI Standards). Topic Standards on Tax in 2019, Waste in 2020 are the
first of them, and new ones continue to be developed.9 Based on standards, this
sustainability reporting provides information about an organization’s positive
or negative contributions to sustainable development. Information provided
through sustainability reporting allows internal and external stakeholders to
form opinions and make informed decisions about an organization’s contribution to the sustainable development goal.
GRI Standards are prepared in three groups (economic topics, environmental
topics, and social topics). The economy realm includes, economic performance, market presence, indirect economic impacts, procurement practices, anti-­corruption,
anti-competitive behavior, and tax; the environmental category includes material
information, recycling, energy consumption, water use, water resources, impact on
biodiversity, greenhouse gas emissions, carbon reduction, solid and liquid waste,
and compliance with environmental legislation. Social issues are detailed in topics
such as employment, labor/management, relations, occupational health and safety,
training and education, diversity and equal opportunity, non-discrimination, freedom of association and collective bargaining, forced or compulsory labor, child
labor, human rights, assessment of local communities, public policy, customer
health and safety, and customer privacy (GRI Standards, 2020).
Another universal standard that companies utilize in reporting their environmental impact analysis and sustainability is the UNGC. The convention consists
of 10 basic principles under the headings of human rights, labor standards, environment, and anti-corruption. The 10 Principles of the UN Global Compact are
based on the universally accepted UN declarations on the subject. As of 2019, it
has reached more than 12,000 participants in 130 countries.10
3.3. Corporate Social Performance
Efforts to integrate social issues into corporate sustainability management
in recent years have been striking. Therefore, sustainability management is
closely concerned with concepts such as corporate social performance (Hahn &
Scheermesser, 2006). The focus on social performance emphasizes an interest in
corporate action and success in the social sphere. Acting within a performance
framework, companies formulate and implement social goals and programs,
and integrate ethical sensitivity into all decision-making, policies, and actions.
Corporate social performance provides a perspective on standard criteria that
evaluates job performance in terms of quantity, quality, effectiveness, and efficiency (Carroll, 1991). Social performance is the sensitivity of a company to the
impact of its processes and products on the society, worker health and safety,
fair wages and compliance with the laws, performance, and safety of its products
(Clikeman, 2004). Management tools that will help ensure social performance
9
https://www.globalreporting.org/about-gri/mission-history/. Accessed on April 10, 2021.
www.unglobalcompact.org. Accessed on April 10, 2021.
10
Implementation of Sustainability
199
can be listed as social audit, social management, and accounting standards, such as
AA1000 and SA8000 and corporate philanthropy (Hahn & Scheermesser, 2006).
Management tools developed in the form of standards, whether they can be
documented or not, enable the implementation of practices that provide improvements in the performance of companies in social issues. Many companies use
standards to attest and measure their social performance. Social performance
tools mean high social standards and more transparency, especially for multinational activities in developing countries. These tools also fill many gaps in supplier
activities that do not exist or are partially lacking in legal regulations, such as
defining working conditions in global supply chains (Fernandes de Andrade &
Bizzo, 2018).
3.3.1. Social Audit. Social audit, one of the effective management tools in
ensuring social performance, is a systematic, regular, and objective accounting
procedure that enables organizations to create social values and criteria by
which they can measure their internal and external performance and social plans
(Dwivedi, 2010). Social audit checks company or facility compliance with the set
of standards using a mix of methodological approaches, including documentation
review, interviews, and field visits for visual verification (Courville, 2003). Social
audit can be defined as a method that directly or indirectly affects stakeholders
and analyzes, measures, and reports social and ethical performance by examining
the non-financial activities of companies (Idowu & Schmidpeter, 2015). Key issues
for social control are freedom of association and the right to collective bargaining,
child labor, forced labor, and discrimination in the workplace (Courville, 2003).
3.3.2. Social Management and Accounting Standards. AA1000, one of the
international standards used for social control, was developed by the Institute
of Social and Ethical Accountability in November 1999. AccontAbility’s
AA1000 Series of Standards provide a framework based on principles that global
companies, private organizations, governments, and other public and private
organizations will use to become leaders in accountability, responsibility, and
sustainability. AA1000 Series Standards development include, analysis and
implementation of sustainability initiatives (AA1000AP, 2018); establishing and
implementing stakeholder engagement practices related to inclusive sustainability
(AA1000SES, 2015); It is a simple, practical, and easy-to-use guide in the titles of
ensuring reliability in reporting progress toward sustainability goals (AA1000AS
v3).11The AA1000 Standard provides content that will help evaluate the quality of
social audit by determining the standards that social auditors must comply with.
In addition, AA1000 helps determine the extent to which a reporting company
discloses sufficient and timely information about its activity, performance,
community, and environmental impacts to determine whether stakeholder
concerns have been addressed (Idowu & Schmidpeter, 2015).
Another corporate tool to help companies coordinate and configure their
responses to environmental, social, and governance issues is the SA8000 Standard. The Social Responsibility (SA) 8000 standard was established in 1997 by
11
https://www.accountability.org/standards/. Accessed on April 11, 2021.
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the Council on Economic Priorities. It is currently under the supervision of the
Social Accountability International Association. It carries out its activities with
an advisory board consisting of companies, NGOs, and trade union representatives (Davoine & Gendre, 2014).
SA8000 covers child labor, forced labor, discrimination, health and safety,
freedom of association and collective bargaining, disciplinary practices, human
rights issues including working hours and pay. SA8000 is the most widely accepted
independent workplace standard worldwide (Santos, Murmura & Bravi, 2018).
According to the data of the third quarter of 2020, there are 2,191,838 employees
in 58 different countries around the world, affected by 4,608 certified facilities and
certification.12 However, there is little empirical evidence to show whether companies that adopt such standards offer significantly better working environments
in terms of safety, health, freedom of association, and fair pay practices (Santos,
Murmura, & Bravi, 2018).
3.3.3. Corporate Philanthropy. Corporate philanthropy is the voluntary and
unconditional transfer of cash and other types of assets to those in need for public purposes such as responding to social needs, creating a positive image, and
creating strategic value (Liu, Sisto, & Li, 2021). Corporate philanthropy is needoriented and falls under the “purely ethical” category because it is not based on an
economic, legal, or political infrastructure. Corporate philanthropy deals with the
roots of a problem rather than the symptoms. For example, donating drugs for the
treatment of neglected tropical diseases such as leprosy or working with partner
organizations involved in the fight against disease to support its elimination, or a
company that designs and markets computers donating computers to high schools
in poor neighborhoods or college students from low-income families.
The social value created by enabling students to work with state-of-the-art
equipment is an investment in potential future customers. These philanthropic
practices provide better brand recognition and loyalty, reputational capital,
higher employee morale, deeper customer loyalty, and strategic benefits for the
company (Leisinger & Schmitt, 2011). In recent years, corporate philanthropy
has been evaluated beyond sustainability, growth, long-term performance,
strengthening corporate identity, creating shared value, and improving financial
results with a strategic perspective. The strategic approach requires adapting the
company objectives to the demands of internal and external stakeholders and the
inclusion of stakeholder interests in company strategies. Thus, the company will
contribute to increasing social welfare as a good corporate citizen (Arco-Castro,
Lopez-Perez, Perez-Lopez, & Rodriguez-Ariza, 2018). In addition, corporate
philanthropy has a positive effect on the social performance of businesses. For
example, it provides corporate attractiveness to potential employees and increases
employee engagement, leads to positive corporate evaluations, positively
influences consumers’ opinions about the product, and acts as a partial buffer
against possible scandals (Gardberg, Zyglidopoulos, Symeou, & Schepers, 2017).
In addition, philanthropy helps organizations secure (due to good relationships
12
http://www.saasaccreditation.org/certfacilitieslist. Accessed on April 11, 2021.
Implementation of Sustainability
201
developed) important resources controlled by their stakeholders (such as suppliers,
government, and customers). It is known that businesses with better corporate social
performance than their competitors have better credit conditions. As philanthropy
supports the corporate reputation, it increases the likelihood of institutional
investors investing in the company. However, recent research shows that corporate
philanthropy is also used to distract the public, hide suspicious corporate activities
(e.g., product security issues and environmental pollution), and hide corporate
abuses such as gain manipulation (Chen, Dong, Tong, & Zhang, 2019).
4. Conclusion
Corporate sustainability refers to the integration of the social, economic, and environmental dimensions of sustainable development into company strategies (Elkington, 1997). Companies should choose the appropriate sustainability strategy
that is compatible with their vision. While determining sustainability strategies,
this is under the influence of many factors such as legal compliance, competitive advantage, cost reduction, economic performance, innovation, social and
environmental responsibility, corporate reputation, risk management and quality
management (Kiesnere & Baumgartner, 2019). Businesses implement their sustainability strategies under the influence of these driving forces and continue these
for a long time. Achievement of this is possible with the integration of various sustainability practices into company activities and company processes. For this purpose, companies that use different management tools develop their relations with
their stakeholders with the help of these tools and increase mutual interaction.
Briefly, in this part of the chapter, sustainability implementations, which are
handled with different perspectives in different sources, are presented to business managers and researchers with a holistic approach. The literature was
reviewed and the relations between the tools used in sustainability implementations were evaluated and the tools were classified under the general headings of
environmental management tools, sustainability reporting, and corporate social
performance.
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Chapter 10
Sustainability Risk Management:
A Survey of the Literature
Oya Korkmaz
Abstract
Introduction: Looking at the risks faced by enterprises in recent years, we see
that the risks have shifted radically from traditional economic and financial
risks to those posed by environmental and social factors. Developments
in the field of activity of enterprises (climate change, the increasing
relationship between the society and enterprises through shareholders and
partners) have led to an increase in the number and diversity of risks faced
by enterprises. It is only possible for enterprises to cope with these increasing
risks by adopting a proactive and contemporary management approach.
One of these contemporary management approaches that businesses should
adopt is sustainability. Many researches have shown that the integration
of sustainability into risk management has proved successful in risk
management.
Purpose: Looking at previous literature, this study sets forth what financial
(economic), environmental and social risks businesses may face today,
explains with a few examples what measures companies can implement to
eliminate these risks, and a future perspective is presented to companies. In
addition, this study makes recommendations on how to successfully manage
the risks that companies may face and emphasizes what the positive results of
sustainable risk management can be (increasing the business value, ensuring
sustainability and increasing the shareholder value). Mention was made about
the fact that the ability of enterprises to successfully manage sustainability
risks depends on their ability to prevent, identify, mitigate and manage risks,
and it was emphasized that the environmental, social and governance risks
must, to a large extent, be taken into account by many circles (regulators
and customers), mainly investors. In addition, this study aims to identify
Insurance and Risk Management for Disruptions in Social, Economic and Environmental
Systems: Decision and Control Allocations within New Domains of Risk, 207–232
Copyright © 2022 by Emerald Publishing Limited
All rights of reproduction in any form reserved
doi:10.1108/978-1-80117-139-720211010
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and evaluate the current and possible future risks and to serve as a guide for
actions to be taken to minimize risks or keep them at an optimum level.
Methodology: In this section, a compilation study on sustainability risk
management (SRM) was done in the light of information obtained from
various reports, scientific articles and books. In other words, in this section,
information from various scientific sources on SRM was systematically collected, analyzed, interpreted and evaluated, and effort was made to present
an up-to-date, extensive conceptual framework related to SRM. In addition,
the scientific literature – especially in the historical development process of
the last decade – on the debate of SRM was examined in this study, and the
highest point reached in this debate today is revealed. Thus, the positioning
of different views on the sustainability issue and the latest developments in
the literature were also evaluated properly.
Findings: As a result of the examination of the scientific literature on SRM
in the last decade, it has been determined that SRM has led to many other
favorable outcomes, from the sustainability of the enterprise to gaining
competitive advantage, increasing its goodwill, reputation and efficiency.
Keywords: Sustainability; risk management; sustainability risk management;
corporate sustainability; sustainable enterprise; trade and logistics
JEL classifications: G32; L22; Q01; Q56
1. Introduction
Risk is an inevitable fact for companies. Risks create opportunities as much as
they cause losses. A good risk management system ensures the sustainability of a
company. Sustainability risk management (SRM) has emerged as a consequence
of the change in risk management. Companies that consider sustainability as part
of risk management create value for their shareholders and society in the long term
and use their resources efficiently to minimize their damage to the environment and
society.
SRM is a newly emerging risk area which was unknown until 10 years ago.
It is one of the critical risk areas of the twenty-first century (Zu, 2013, p. 2395).
For this reason, today companies are aware that, while managing their financial
risks, they need to manage the environmental and social risks that are created in
businesses and that these risks are priority risks that need to be managed. Today,
in parallel with climate change and social change in the world, it is observed that
the risks faced by companies are changing their direction and are shifting toward
social and environmental risks, rather than financial. Financial and regulatory
risks are gradually being replaced by social, environmental and governance risks
in the world and in Turkey. It would be appropriate to say that it will take time for
companies to recognize, assimilate and manage these new risks. Additionally, the
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limited amount of data on these new risks, result in some companies still being
incapable of recognizing, internalizing and managing these new risks.
In addition to traditional financial performance, businesses are being forced to
address environmental and social responsibility performance. The driving force
of this trend is the negative impact of increased costs of environmental and social
risks on financial gains. A series of developments indicate that the level of sustainability risks has reached new dimensions and would expand significantly in
the future.
In order to increase the resilience of companies against social and environmental risks, top management must adopt SRM and keep it on the agenda. SRM
aims to raise awareness about increased social, environmental and financial risks,
to improve institutional performance and to integrate sustainability risks into the
strategies and decision-making processes.
One observes that businesses are shifting radically from traditional economic
and financial risks to other risk areas in order to deal with the complex and interrelated risks caused by the global economy. These new risk areas create the serious risk areas for businesses. It is further observed that traditional financial and
economic risks are insufficient in estimating risks, evaluating these risks according to their probabilities and impacts, predicting and preventing crises, and that,
therefore, businesses shift to these new risk areas.
SRM is a strategy that aligns a company’s profit goals with environmental and
social policies. In other words, it is a strategy that aligns its profit targets with its
green strategies and policies. One of the reasons causing companies to adopt this
strategy is the increasing requests by regulators from companies to comply with
global and national regulations.
Risk management has become increasingly important in recent years as the
risks being managed are not limited to financial and physical risks, but have
expanded to cover all risks arising from the internal and external environment of
the company. SRM, which covers the risks arising from the internal and external
environment of a company, significantly contributes to the attainment of the strategic goals of companies, especially those trying to grow globally. SRM provides
a holistic perspective to risk management.
This study examines the change in corporate risk management in terms of
sustainability. In this study, information is given about a new approach based on
a new cooperation developed between corporate risk management and sustainability and the gains that this new approach brings to the business. This study creates awareness that businesses must respect the environment and fulfill their social
responsibilities toward the society in order to be sustainable. Thus, in this study, a
message is given to decision-makers that they should make SRM an indispensable
part of corporate governance. Additionally, this study can serve as a guide for
managers in identifying and evaluating sustainability risks that may arise in the
future, and as to what actions should be taken to minimize these risks and keep
them at the optimum level. As businesses fall behind in competition when they
only manage sustainability risks and impacts within company boundaries, this
study recommends businesses that wish to truly manage the risk to adopt SRM.
Additionally, in this study, SRM has been examined theoretically.
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The next sections of the study are as follows: in the first section, sustainability
and the multidimensional structure of sustainability is revealed. In the second
section, risk management is discussed; in the third section, SRM is discussed
in its various aspects; and in the conclusion part, the evaluations related to the
literature are listed.
2. Sustainability
Sustainability was first defined in a 1987 report entitled “our common future”
prepared by the Brundtland commission named after the chairman of the United
Nations World Commission on Environment and Development (Şen, Kaya, &
Alpaslan, 2018, pp. 3–4) as the development that meets today’s needs without
risking the means of meeting the needs of future generations. The second definition of sustainability was made in the World Bank Report (1989). According to
this report, it is clear that sustainable development is a measure of intergenerational equity. For this reason, sustainable development can be defined as the per
capita benefit that does not diminish. The third definition of sustainability was
made by the World Wildlife Fund (1991). According to this definition, sustainable development is the improvement of the quality of human life while living
within the carrying capacity of supporting ecosystems (Karabıçak & Özdemir,
2015, p. 45). Apart from these definitions, sustainable development was defined
by some authors as economic development providing justice and opportunity not
only for certain circles but for all people of the world without destroying the
world’s limited sources and by using these sources in the most efficient manner.
And as defined by other authors, is the improvement of the quality of human life
while respecting the environment (Çelik, 2006, p. 21).
The concept of sustainable development emerged in the 1970s as a compromise between continuous economic growth and conservation of nature when
current economic development policies proved to be insufficient for a system
which is ecologically sustainable and provides social justice all over the world.
Initially used to address environmental concerns (EC), sustainable development
has expanded over time to include social and economic perspectives. Thus, we
may say that sustainable development is an effort to combine social and economic
issues with ecological concerns. Sustainability is the economic development that
takes into account the environmental consequences of economic activities, and is
based on the use of resources that can be replaced or renewed and therefore are
inexhaustible (Gedik, 2020, p. 196).
The idea of sustainability has a three-dimensional (economic, environmental
and social) structure that stems from the Triple Bottom Line (TBL) concept
invented by Elkington (Kuhlman & Farrington, 2010, p. 3438). The threedimensional structure of the concept of sustainability is given in Fig. 1. Due
to this multidimensional structure of the concept of sustainability, different
branches of science studying this subject have developed different approaches
and definitions (Yeni, 2014, p. 183).
In the real sense, sustainability can only be possible with the simultaneous and
interconnected application of economic, environmental and social dimensions
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Fig. 1. Three Dimensions of Sustainable Development.
Source: Rana, Platts, and Gregory (2009, p. 7).
(Johnston, Everard, Santillo, & Robèrt, 2007, p. 60). The interconnected and
mutually reinforcing components of the multidimensional structure of sustainability are defined as follows:
Economic Sustainability: This means the efficiency in resource allocation, the
impact of limited resources on growth, the substitutability of technological
advancements and inputs, in other words, the substitutability of capital types.
Economic sustainability focuses on sustaining growth and consumption at
the highest level under natural resource constraints (Yeni, 2014, p. 187).
Environmental Sustainability: It focuses on the quality and quantity of the natural environment that provides the necessary life support for the survival of
human life, which is a precondition for the existence of an economy. This
quality and quantity is called natural capital by neoclassical and ecological
economic movements (Yeni, 2014, p. 192).
Social Sustainability: It focuses on socio-economic issues such as poverty, as well
as social exclusion, gender inequality, democracy, participation and empowerment of society (political rights and powers) (Yeni, 2014, p. 194).
These dimensions convey that an enterprise should include to its traditional
profits care for the environment, being good to people, for example, employing
disabled people and minorities, that is, they should include the social dimension
(Kuhlman & Farrington, 2010, p. 3438). These perspectives need to be synthesized in order to achieve sustainable development.
Sustainability can be divided into two as normative and positive sustainability.
While normative sustainability deals with what sustainability is, positive sustainability examines what consequences sustainability actually has. In other words,
positive sustainability is the scientific analysis of the economic and ecological
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foundations of sustainable development and sustainability. Whereas, normative
sustainability emphasizes what sustainable development means institutionally
(Osorio, Lobato, & Castillo, 2005, p. 507).
While sustainability can be divided into two as normative and positive
sustainability, it is also divided into two as strong and weak sustainability. In
other words, sustainability is divided into two as strong and weak, based on the
substitutability relationship between manmade capital and natural capital (Yeni,
2014, p. 196).
Strong sustainability fundamentally opposes the assumption that manmade
capital can be substituted for natural capital. According to strong advocates of
sustainability, it is possible to preserve the natural capital stock for future generations only if renewable resources are used. In other words, it is argued that
the natural capital stock cannot be protected by using non-renewable resources
(Karabıçak & Özdemir, 2015, p. 47; Yeni, 2014, p. 199).
Weak sustainability approach, as an anthropocentric approach, is based on
the argument that manmade capital is more important than natural capital.
Therefore, as long as sufficient amount of physical capital, such as machinery,
factories and ports are created, which can replace natural capital, it would not
be a problem for the ongoing generations to pollute the environment or to consume non-renewable resources. Weak sustainability advocates argue that beneficial alternatives can be produced through artificial capital, which would emerge if
today’s generations benefit from the potential of nature longer and more intensely
(Karabıçak & Özdemir, 2015, p. 47; Yeni, 2014, p. 197).
Enterprise sustainability, on the other hand, is defined as the process of managing an organization taking into consideration the three different aspects of
environmental, economic and social perspectives. Enterprise sustainability is also
called Triple Bottom Line approach. An enterprise can create value for its stakeholders by solving sustainability problems. Enterprise sustainability is based on
long-term thinking and not on a short-term perspective. Enterprise sustainability
not only appreciates the need for social and environmental awareness, but also
leads to a paradigm change in the manager’s mentality (Mahajan & Bose, 2018,
pp. 9–10).
Company sustainability is recognized as an evolving management paradigm.
Company sustainability is expressed as collective undertaking of social, economic and environmental responsibilities as well as financial responsibilities of
businesses. Sustainability advocates clearly argue that it is no longer possible for
businesses to continue to do business in conventional and traditional ways. This
understanding has emerged as an alternative to the traditional growth and profit
maximization model. Although this concept is not new, the new aspect of it is that
it is a strong alternative in guiding existing management approaches (Tokgöz &
Önce, 2009, pp. 249–251).
Sustainability should be considered as the strategic management agenda of the
company, rather than an exposed risk area. Many companies adopt and report
sustainability due to the imposition of legal requirements. The main focus of
sustainability extends to economic factors. Economic factors are only part of
the philosophy of sustainability, which goes beyond said economic factors.
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However, the impact of environmental and social factors can extend far beyond
the legal and compliance requirements (Soomro & Lai, 2017, p. 331).
Respect for ecosystems (environment) and people (society) is basically an
indisputable set of core values of sustainability. The well-being of both people
and ecosystem (environment and society) is considered as the success of sustainability. Therefore, an organization recognizes and responds to environmental,
social and economic risks. The traditional corporate risk management model for
governance objectives and compliance focuses on internal and controllable risks.
However, since this model has failed to assess the impact of work on society and
the environment, it has been expanded by adding the concept of sustainability
(Soomro & Lai, 2017, p. 331).
Corporate ignorance about sustainability can be very detrimental to businesses and cause unexpected financial losses. Some of the worst examples of
sustainability ignorance presented themselves through U.S. Businesses in the
wake of the 2008 financial crisis. These instances drew the ire of regulators
and damaged the public image of said companies. Several reputable financial
institutions that took great risks for potentially high profits succumbed to the
exploding crisis, resulting in the loss of trust of their clients. At the same time,
the reputation of the entire banking sector has been greatly damaged. Another
example concerns India Coca-Cola beverages, a subsidiary of Coca-Cola beverages. After India’s Coca-Cola beverage factories used more water in their production facilities, they recognized the importance of managing sustainability in
their strategy. Similarly, in 2004, when PepsiCo was struggling with excessive
water use, it began implementing its water balance program. The purpose of this
application was to reduce waste of water use. PepsiCo’s sustainability policy has
been implemented through initiatives in the agricultural sector (i.e., partnership
with farmers called friends of the farmer), recycling and improvement (Soomro &
Lai, 2017, p. 331–332).
Blackburn (2007) has proposed seven factors related to why sustainability
should be implemented, supporting the claim of sustainability which is fully in
line with the following objectives (Zu, 2013, pp. 2399–2400):
Reputation and Brand Strength: Sustainability performance is one of the strongest
determinant factors of a company’s reputation. The company’s reputation
has a significant impact on sales and stock price. Research shows that more
than 25% of a company’s corporate reputation is based on environmental
and social performance.
Competitive, Effective, and Desirable Products and Services: Companies can
encourage innovation by incorporating sustainability into their process
designs. By combining a thoughtful design process with detailed market analysis, a company can meet customer needs better, produce competitive goods
and services, and gain access to new markets.
Productivity: Many aspects of sustainability, if handled properly, can increase
the productivity of the enterprise, hence its profits. Productivity aims to
reduce the need for materials and energy consumption for production, reduce
the use of toxic chemicals, increase recycling, increase the durability and
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reliability of products, and maximize the use of renewable resources, which
can only be achieved through sustainability.
Operational Burden and Interference: Ignoring concerns about sustainability can
lead to public insecurity, more inspections by regulators, operational load
(increase in the number of processes in the production process) and cost.
Additionally, regulators’ investigations can distract executives from the
company’s objectives.
Supply Chain Costs: By working on sustainability issues together with its suppliers
and contractors, a company will ensure the availability of critical suppliers
and services and control the costs. The suppliers of the companies meet the
minimum requirements for sustainable performance.
Cost of Capital: In their investment and lending decisions, a growing number
of investors and lenders base on the assessment of social and environmental
performance and economic outcomes. Published indexes rate of sustainable
performance of corporations, and unrestricted access to information by
investors allow them to invest in high performing entities.
Legal Liability: In companies guided by sustainability principles, the likelihood
of incurring crippling legal liabilities which can affect the bottom line
of companies is very low. This is particularly true for claims arising from
environmental circumstances and unfair employment practices. These
circumstances and practices can be unusually severe and sometimes difficult
to insure. This also results in claims against directors that they are violating
their duties in the performance of their management duties.
Since sustainability gained momentum, the liabilities of directors and officer
workers have changed. If directors and officers do not take into account
sustainability, they will not have given the chance to superior environmental and
social performance to improve the risk profile, profitability, stock performance
of publicly traded companies and fiduciaries (Zu, 2013, p. 2399). However,
one notes that environmental risk management systems add value for products
and services, create a competitive advantage, improve the image of the society,
increase the morale of the staff, reduce costs and increase profits (Anderson,
2005, p. 5). It is seen that social and social rating criteria increase the image of the
company by supporting the treatment of local people, handling of human rights
issues and commitment to charitable giving (Zu, 2013, p.2401).
In recent years, sustainability has become an important framework for evaluating decisions that have long-term consequences both at the political and company
level. Although much progress has been made in the definition, measurement and
implementation of sustainability, some fundamental problems have, surprisingly,
received little attention. One of these problems is the relationship between risk
and sustainability. Sustainability is a framework that assesses the impact of current decisions on the status of future individuals. Sustainability takes into account
the consequences of current operations in the future. Any concept of sustainability that is not dictatorial must be sensitive to the concept of living in prosperity
of future individuals. Thus, the essence of sustainability extends to the future
(Krysiak, 2009, p. 483). Thanks to its capabilities, the concept of sustainability
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challenges the most progressive companies and even the most successful managers
and affects all companies.
3. Risk Management
The risk is inherent in every commercial transaction. Historically, risks used to be
managed by transferring the risk to a third party by making an insurance contract.
Over time, the concept of management risk steered toward solving financial risks
such as liquidity risk, interest risk, foreign exchange fluctuations and credit risk.
Inherently, risk management has a narrow meaning. Silo approach was used to save
risk management from this narrow meaning. Later, enterprise risk management
evolved into a more macro and holistic approach to handle an organization’s
problems with all aspects of business activity (Soomro & Lai, 2017, pp. 328–329).
Risk management has been critical for businesses due to the increase in the number
and frequency of risks, long periods of recovery from these risks, responsibility of
the focus company for unethical issues and any action at any level of the supply
chain (Rafi-Ul-Shan, Grant, Perry, & Ahmed, 2018, p. 467).
Risk management is a tool that creates a low-cost mechanism for risk separation and risk assessment with the lowest cost method. Risk management offers
alternatives for managing risk separation and risk assessment. There are several
frameworks in the literature to complete the risk management process. However,
there is consensus on five successive stages of risk management. These five stages
are risk identification, risk assessment, risk analysis, risk treatment and risk monitoring (Valinejad & Rahmani, 2018, pp. 57–58).
Risk Identification: At this stage, the risks are determined by risk checklists, classification, risk map and interviews with experts.
Risk Assessment: Occurrence probabilities of all these risks identified in the
previous stage is examined for the severity of impact and detectability.
Typical methods to be used at this stage are cognitive (brainstorming),
inferential (checklists, preliminary risk analysis, event analysis, tree analysis
and failure mode and effects analysis) and deductive (event analysis and
controlled tests).
Risk Analysis: Following the risk assessment stage, potential consequences
and root causes of each risk must be determined through consultation with
experts.
Risk Treatment: The literature mentions about four main strategies for risk
treatment:
1. Avoidance: This method refers to avoiding activities that may result
in exposure to risk. It is also referred to as elimination method. This
method is a risk prevention tool based on the elimination of the root
causes that cause risk.
2. Control: Efforts are made to reduce the likelihood or severity of risk at
this stage.
3. Share: At this stage, cooperation is established with other sectors and the
impact of risk is transferred out of the organization.
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4.
Retain: Possible losses are accepted at this stage (when the cost of each
risk treatment strategy exceeds the potential risk costs).
Risk Monitoring: At this final stage, it is necessary to continuously monitor the
effects of these strategies, identify risks, make necessary changes according
to the dynamic nature of risk management and propose new solutions to
respond to each risk.
Within the scope of developing new solutions at the final stage of risk monitoring, which is the final stage in risk management, a new and useful solution, which
can be used in the field of risk management by adapting sustainability to the risk
management, is proposed to the directors. Since the impact of each of these concepts on individual organizational performance is known, the synergy created by
combining these concepts has brought about a new risk management model.
4. Sustainability Risk Management
Anderson and Anderson (2009) defined SRM in relation to corporate social
responsibility and environmental risks, and Yılmaz and Flouris (2010) defined it
as an approach used to manage all company risks related to social, environmental
and economic perspectives. SRM is also defined as the process of managing and
defining, in a wide spectrum, new unknown risks stemming from sustainability
issues. Another definition defines SRM as a system that manages low and high
probability risks and financial and non-financial risks in a harmonized system for
the sustainability of the enterprise (Razak, Mustapha, Kasim, & Shah, 2020, p.
223). SRM has emerged as the most important tool for use in the solution of multidimensional risks arising from sustainability problems. SRM provides additional
improvements to existing risk management. The purpose of SRM is to manage
and minimize the impact of sustainability problems by using the risk management
tool for the long-term survival of the business. In this sense, SRM is a new and
proactive management tool. SRM is recognized as an important internal control
mechanism ensures that an organization operates in a sound and safe manner.
SRM has the capacity to control the behavior and activities of organizations.
Fig. 2. SRM Framework.
Source: Razak et al. (2020, p. 226).
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217
By integrating sustainability into risk management, organizations can take
advantage of risks and opportunities related to sustainability and thus direct their
behavior and activities (Razak et al., 2020, pp. 221–222). The framework of SRM
is given in Fig. 2 (Razak et al., 2020, p. 226).
Recently, the topic of sustainability has received increasing attention from
directors and researchers. For long-term sustainable development, companies
need to take into account economic, social and environmental performance at the
same time. Risk assessment is indispensable to realize sustainable operations (Liu,
Wei, Yan, Dong, & Chen, 2020, p. 3). The sustainability risk area has developed a
series of approaches to manage and measure non-financial risks (disasters linked
to extreme climate change, data fraud and theft, social diseases, etc.) that lead to
micro- and macroeconomic threats (Antoncic, 2019, p. 206).
Companies and those who provide the financial capital to companies cannot
manage risks on a global scale, even if they want to. On the contrary, these companies operate with the understanding that macroeconomic trends have microeconomic effects, mostly under the influence of microeconomic motives. For
example, companies can manage the risk created by climate change as follows.
Companies and their investors can make an effort to draw attention to sluggish
megatrends such as climate change, if manufacturing companies can manage
energy efficiency much more easily, or if they are a car manufacturer, they can
design their products very easily according to climate conditions, or if they are
banks, then they can create a loan portfolio in order to ensure the sustainability
of companies against climate change (Antoncic, 2019, p. 210).
Although SRM practices are still in the development stage, they help
companies in their strategic planning and decision-making processes thanks to
environmental, social and management standards and criteria. Therefore, SRM
should become a part of overall strategic management. Moreover, SRM practices
help measure, manage and mitigate the risks relating to environment, society and
management as well as help eliminate risk materials exposed when appropriate
(Antoncic, 2019, p. 206).
SRM emerges as a business strategy that aligns profit targets with internal
green strategies and policies. These policies try to mitigate the negative
environmental impact by reducing the use of natural resources, carbon emissions,
toxic substances and byproducts. The aim of SRM is to align the corporate goals
of sufficient growth with sustainability while protecting the environment. SRM is
considered a critical part of corporate risk management. SRM is a key element of
sustainable development and relates to the management of environmental risks,
ethics and social justice (Zu, 2013, pp. 2395–2396). Reducing environmental and
social justice risks not only helps the business, but also protects the environmental
and social system (Anderson, 2005, p. 7). It highlights a variety of social justice
issues such as SRM, safe working conditions, fair wages, indiscrimination,
diversity and human rights (Anderson, 2005, p. 5).
SRM is an approach that performs a higher level of risk management in products,
production, suppliers or supplies materials management (Zu, 2013, pp. 2395–2396).
The emergence of SRM changed the method of risk managers and dominated all
risk management approaches in the business world (Zu, 2013, p. 2397).
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What investors intuitively understand about sustainability is that known risk
management undergoes an evolutionary process. We have witnessed these evolutionary developments for decades. During the 1980s, there has been a slight difference in our understanding of risk. This difference started on the basis of credit
risk and continued with the addition of new layers of market, model, operation,
reputation and cybersecurity risks. And in the next step, namely when the 2000s
started, sustainability risks, such as reputational risk, were included in addition
to the risks in the previous step. Over the past decade, the profile of these risks
has gradually shifted from traditional economics to ideas that emphasize ominous environmental and social diseases that pose significant economic threats. In
recent years, the World Economic Forum (WEF) has identified the highest priority risks for both probability and magnitude as extreme weather events, natural
disasters, water-related crises, failure to mitigate and adapt to climate change,
cybersecurity concerns, data fraud and data theft. WEF global risk landscape is
given in Fig. 3 (Antoncic, 2019, p. 208).
According to international reports (The United Nations Global Compact
and BSR, 2010), sustainability risks consist of greenhouse gas (GHG) emissions,
natural disasters, accidents, energy consumption, packaging wastes and environmental damages during supply and transportation. In addition, sustainability
risks include sanctions against a company’s products, claims actions against a
company for damages caused by environmental accidents, violation of rules and
regulations, unethical conducts, lack of social justice, energy carriers and the rising prices of basic goods. Therefore, sustainability risks are risks that threaten
the sustainable development of a business with long-term economic, social and
environmental impacts. Thus, SRM is used to identify and control the risks that
contribute to the long-term sustainability of an enterprise (Valinejad & Rahmani,
2018, p. 57).
Fig. 3. WEF Global Risks.
Source: Antoncic (2019, p. 209).
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219
SRM is defined as minimizing damage caused by hazards and/or increasing
resilience to these hazards in both humans and buildings to promote economic
efficiency, social welfare and equality, as well as environmental improvements in
the long term. The theoretical meaning of this definition is the holistic handling
of performance indicators related to technical, economic, social, institutional and
environmental issues (even at different levels of importance depending on the
context). In fact, the true extent of the risk cannot be understood due to the vulnerability of the systems exposed to the risk. Therefore, the physical, economic,
social, political and environmental aspects of risk should be examined as a whole
(Edjossan-Sossou et al., 2020, p. 3). In other words, SRM is a business strategy
that aligns a company’s profit objectives with the company’s environmental and
social policies. The aim of SRM is to adequately align a business’ goals of sustainability and growth with these concepts (environmental and social responsibility) while protecting the environment and fulfilling its social responsibilities. One
of the main reasons companies adopt SRM is the growing demand for compliance with global and national regulations (Tech Target, 2010).
Under the heading of SRM, studies so far focus on only one aspect of
sustainability (the main environmental issues), or, in a few cases, all three
dimensions of the sustainable development model are taken into account. The
traditional sustainable development approach is a three-dimensional triangular
model of the economic, social and environmental dimensions of development.
However, these dimensions do not adequately cover and handle the concept of
sustainability (Valinejad & Rahmani, 2018, p. 57). In order to bridge this gap,
studies have recently been carried out focusing on a five-dimensional sustainable
development model for SRM. Considering the increasing importance of technical
and institutional discussions in today’s world, the addition of these two new
dimensions (technical and institutional) to these three dimensions has made the
sustainable development model even more attractive (Valinejad & Rahmani,
2018, p. 55). Iddrisu and Bhattacharyya (2015) are the first researchers to
propose a five-dimensional sustainability model that included social, economic,
environmental, institutional and technical dimensions. The five-dimensional
sustainability model proposed by Iddrisu and Bhattacharyya (2015) is given in
Fig. 4 (Valinejad & Rahmani, 2018, p. 57).
Fig. 4. Five-dimensional Approach to Sustainability Assessment.
Source: Valinejad and Rahmani (2018, p. 57).
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Technical Sustainability
This dimension demonstrates the ability of this system to meet the present and
future needs of society. It evaluates the technical dimension, inputs, outputs,
structure of the system and infrastructures of this system (Valinejad & Rahmani,
2018, p. 57).
Economic Sustainability
This dimension takes into account whether investments are economical to encourage reinvestment due to sustainability. This dimension evaluates the suitability of
this system for the consumption of society (Valinejad & Rahmani, 2018, p. 57).
Social Sustainability
This dimension expresses the benefits of systems for society. This dimension
measures social acceptance and society access for this system (Valinejad & Rahmani,
2018, p. 57).
Environmental Sustainability
This dimension evaluates the negative effect of this system on the environment. One
of the criteria for evaluating these systems is the amount of pollution and environmental impacts (Valinejad & Rahmani, 2018, p. 57). Companies may be responsible
for environmental damage caused by water consumption or overloading the atmosphere. Companies managing environmental challenges by balancing or reducing the
negative impacts of their products and operations on the environment, can be evaluated within the scope of environmental sustainability (Zu, 2013, p. 2401).
Corporate Sustainability
This dimension shows the degree of local participation in the control and management of systems, the identification of local skills, local regulations, national
development schemes and the degree of protection of investors and consumers.
This dimension evaluates political decisions about the future structure of a system (Valinejad & Rahmani, 2018, p. 57).
Since each of the three aspects of sustainability is associated with uncertainty,
it results in a complex structure with a strong impact on SRM, managerial strategic thinking and decision-making (Brătianu, 2020, p. 636). Moreover, SRM
needs to be a critical part of corporate risk management. By monitoring SRM,
a company will increase its competitive advantage and financial performance
resulting in a better reputation. SRM can be considered as a “Triple Bottom
Line,” and the TBL is calculated as follows (Anderson & Anderson, 2009, p. 26;
Yılmaz & Flouris, 2010, p. 167) (Fig. 5):
Maximize: F + E + SR = TBL
Sustainability Risk Management
Financial ( F )
Perform ance
Environmental ( E )
Perform ance
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Social Justice ( SJ )
Perform ance
Fin . Perf .
– Risk C osts of E
– Risk C osts of SJ
= TBL
M axim ize TBL by R e ducing Risk C osts of E + SJ
Fig. 5. TBL Concept to Corporate SRM.
Source: Yılmaz and Flouris (2010, p. 167).
where F = financial performance; E = environmental performance; SR = social
responsibility performance; and TBL = F − risk costs of E − risk costs of SR.
SRM was first developed by John Elkington, one of the UK’s leading consultants, and Forks, author of Cannibals, and referred to as triple bottom line.
Sustainability risks include issues affecting the natural ecosystem, financial
statements, adherence to rules and regulations, its social responsibilities toward
employees, customers, trading partners, governments and societies (Valinejad &
Rahmani, 2018, p. 56). In addition, Anderson (2005) defined six areas of sustainability risk to provide a background to the scope and identification of sustainability risk. Anderson (2005) classified these areas as the responsibility of global
warming/climate change, boycott (job cuts taking place, employees’ morale going
down, company’s reputation and brand damaged), environmental responsibility,
ecosystems, social responsibility, directors and officers (Anderson & Anderson,
2009, p. 26). If nothing can be done to reduce sustainability risks, the cost of
adverse effects is estimated to range from 5% to 20% of the world gross domestic
product. One of the challenges in SRM is the spending of money by a company
today to prevent events that may happen 20–30 years from now. Therefore, many
businesses do not adopt this long-term perspective (Anderson & Anderson, 2009,
p. 38).
SRM is there to assess the risks of current decisions imposed on future individuals. In other words, sustainability needs to be expressed in terms of risks
rather than in terms of certainty. In sustainability models, and especially in the
economy, this point has been surprisingly and largely ignored. The uncertainty of
the results of the decisions taken at the moment has either been ignored or uncertainty has been handled as a reason in the definition of sustainability which is not
certain yet. Ignoring uncertainty is a problematic act. This is because uncertainty
allocates all costs relating to risk to future generations, which contradicts the
main principle of sustainable development. Therefore, it is not an appropriate
option to ignore the risks, at least in the context of decision-making. Sustainability is often used as a risk management tool. The above definition of sustainability
provides us with a chance to balance the risks that harm and do not benefit future
individuals (Krysiak, 2009, pp. 483–485).
The deferral of risks arising entirely from current activities for future generations contradicts the concept of ethical notion of sustainability. In forming
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sustainability, risk can aid sustainability as a concept of the burden of fulfillment
of current and future needs which are compared to each other. In addition, any
application of sustainability within actual decision-making processes must define
sustainability in terms of weight of risks, not in terms of certainty (Krysiak, 2009,
p. 491).
Sustainability risk is an uncertain social or environmental event or condition. If a sustainability risk occurs, it can have a significant negative impact on
the company. Sustainability risk can create opportunities for the organization,
as social or environmental factors vary (World Business Council for Sustainable
Development (WBCSD), 2017, p. 7).
Many businesses view sustainability as a constraint for businesses. Still, if
sustainability is implemented proactively, it can create opportunities for businesses. Companies that believe in sustainability risk have built-in opportunities
and use their abilities to take advantage of these opportunities. Through process
improvement and new product development, stakeholder value will increase consequently. Thus, if sustainability risk is managed strategically, it can be turned
into a source of competitive advantage. Increasing awareness among stakeholders
on the issues to which the company is exposed, such as scarce resources, GHG,
energy consumption, the impact of sustainability issues on reputation and quality
of life, put enormous pressure on top executives and boards of directors to invest
in and consider the sustainability strategy. For example, General Electric (GE)
is committed to energy and environmentally friendly technologies. GE decided
to create a new global market for environmentally friendly products and focus
much more on these products. With these products, the aim was to meet the clean
energy needs of companies and developing countries. GE planned to reduce its
energy consumption by up to 30% and GHG emissions by up to 1%. PepsiCo,
which is another example, committed to maintaining production and achieving
competitive power by reducing water use by up to 20% in all production operations (Soomro & Lai, 2017, p. 331).
Sustainability risks such as consumer empowerment, climate change and
resource restrictions were not well understood until 20 years ago. Sustainability
risks are not widespread due to global and regional megatrends. Many sustainability risks that have emerged are presented in Table 1 (WBCSD, 2017, p. 18).
In fact, various risks may arise as a result of the sustainability issues encountered. Main risk factors relate to human activity, technological development,
physical infrastructure, economic development, political governance, natural disasters, financial crises and corporate scandals. For example, the company scandals of Enron, WorldCom, Polly Peck and Parmalat show the devastating impact
of these scandals that had impact on the whole society in the last decade. These
company scandals not only damaged confidence in business ethics, but also had
an operational and financial impact for business partners who lost a large number of customers and suppliers (Lenssen, Dentchev, & Roger, 2014, p. 672).
Other than those listed above, sustainability risks include the risk of safety
and poor quality operations, the risk of inefficiency and unreliability in operations and procedures, the risk of losing key customer-focused sustainability, the
risk of losing the market for sustainability-focused competitors and substitute
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Table 1. Top 10 Risks Sorted by Likelihood or Impact.
Source: WBCSD (2017, p. 18).
products, negative public opinion risk and reputational risk due to excessive use
of resources, the risk of investing in unsustainable projects and the risks of noncompliance with legal and voluntary requirements. As can be seen, SRM is a
series of corporate risk management that is concerned with financial, environmental and social responsibility risks (Wijethilake & Lama, 2018, p. 145).
Financial risks occur in the market environment as a result of fraudulent
behavior of companies and individuals, pollution of environmental resources,
recycling, waste generation, social inequality, child labor, tax evasion, sanctions,
bribery, fluctuations in energy prices, financial crises, population issues, lack of
natural resources, drought and scarcity of supplies. The possible consequences
of these risks cannot be easily solved by the measures taken by the management,
thus leading to adverse effects on companies (Valinejad & Rahmani, 2018, p. 56).
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Environmental risks include heavy carbon dioxide emissions from coal and oil
released by businesses into the atmosphere, especially global warming caused by oil
companies and automobile manufacturers, rise in the sea level, severe drought and
storms due to global warming, and harmful wastes caused by businesses to the environment. Therefore, companies producing heavy carbon are at risk. This is because
if governments impose restrictions on GHG emission, companies will not be able to
adapt to this new situation in a short time as they have not yet made a plan for this
regulation and will lose 30–40% of their market value (Zu, 2013, pp. 2397–2399).
The current risk management approach hardly evaluates other unmeasurable risks and emerging risks arising from unforeseen events. The awareness of
most companies around the world on environmental hazards leads to sustainable
development. Sustainability is creating a paradigm shift in business operations in
these days. Swiss Re (2021) defines sustainability risks as ethical concerns about
environmental, socio-economic impacts of our commercial transactions and the
reputational risks arising therefrom. In order for companies to achieve their sustainability goals, they need to develop a systematic process to identify sustainability risks. Sustainability practices capture three important values covering
growth, return on capital and risk management. A company that fails to manage
the risk associated with sustainability will be subject to immense fines by regulators and its corporate reputation will be tarnished. SRM is a process that handles
and manages a wide spectrum of unknown new risks derived from sustainability
issues in order to survive for a long time and achieve sustainability value. Failure
to bring together the three components of sustainability, which are economic,
social and environmental aspects, may lead to ineffective performance in the long
term (Aziz, Manab, & Othman, 2016, pp. 3–4). Sustainability in essence encourages people to live better, protects the environment of the world and guarantees
companies to live longer (Aziz et al., 2016, p. 8).
SRM deals with environmental and social responsibility risks. In other words,
companies are pressured to deal with traditional outcomes (economic) in addition
to environmental and social responsibility performance. If organizations really and
proactively adopt (adapt) SRM, only then can they succeed in high quality environmental and social responsibility management. SRM is a basic requirement for
the sustainable development of organizations, because failure in managing sustainability risks can lead to unfavorable consequences for the business to survive in the
long term and gain competitive advantage (Wijethilake & Lama, 2018, p. 143).
SRM principles provide corporate loyalty and reputation to organizations
and which in turn develops financial performance and sustainable competitive
advantage (Wijethilake & Lama, 2018, p. 145). In addition, SRM reduces
financial losses, increases profits, increases the stock value of the company and,
consequently, the financial gain of a company and its stakeholders. Ignoring
these risks will produce a counter-effect and endanger the life of the company
in the worst case. If a company focuses solely on economic performance, then
the cost of risk within the areas of environmental and social justice increases,
and, consequently, the company’s financial conditions deteriorate. Companies
that properly address and manage sustainability risks reject sustainability risks
(Anderson, 2005, p. 11).
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When measuring corporate sustainability performance, financial and nonfinancial performances serve as dependent variables. Derivation of tangible and
intangible benefits from the implementation of the enterprise sustainability risk
management (ESRM) framework, leads to increased return on assets (ROA),
return on equity (ROE) (financial performance), internal business process
development, increased customer satisfaction, stronger investor relations and
increased competitive advantage due to EC (non-financial performance). Nonfinancial performance includes competitive advantage, tactical knowledge
of employees, organizational culture and structure, processes, practices and
technology. Financial performance in terms of cumulative, ROA and ROE
demonstrates a solid financial and operational performance for stakeholders
(Soomro & Lai, 2017, p. 333).
Some companies focus solely on profit maximization, without considering the
costs for environmental and social responsibility, which will reduce their profits. However, recent developments in the field of risk management highlight the
importance of a SRM focusing on environmental and social responsibility risk
management for organizations (Aziz et al., 2016, p. 2).
Organizations consider integrating sustainability into organizational strategy
as a way of addressing sustainability issues that involve sustainability risk. A
corporate governance approach should be adopted for this perspective specified.
The corporate governance approach advocates that sustainable risk should be
managed at different levels such as organizational, individual, sectoral, national
and supranational. Recent studies have revealed that organizations use sustainably
focused basic values as a management control system in the construction of
sustainable development (Wijethilake & Lama, 2018, p. 145).
Although the sustainability risk in general is mostly externalized, the increasing importance of sustainability issues reflects on the strategy of the organization and affects organizations with the internalization of these strategies, which
causes sustainability to take on an internal dimension. In addition to organizational strategies, the support of senior management is also very important
in terms of sustainability. A top management team that makes a commitment
to sustainability seems much more likely to support activities oriented toward
sustainability practices than a top management team that does not. For example, within the scope of supporting sustainability activities, top management
undertakes to minimize the sustainability issues arising from operations, evaluates the impact of sustainability on organizational operations, defines sustainability as a tool that provides competitive advantage, creates awareness about
the sustainability strategies of competitors, evaluates the sustainability needs
of the sector, understands customer concerns, and communicates sustainability
strategies and activities to organizational stakeholders (Wijethilake & Lama,
2018, p. 146).
Any approach to company sustainability can be beneficial for risk managers.
Company sustainability should address specific risks. In other words, it should
address industry-specific indicators of climate change, not climate change. Industry examples selected in this context and the specific effects of climate risks on
this industry are given in Table 2 (Antoncic, 2019, p. 213).
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Table 2. Selected Industry Examples – Specific Effects Related to Climate
Risks.
Industry
Topic
Sustainability Accounting Standards
Board (SASB) Metric
Real estate
Energy management
Energy consumption data coverage —
percentage by floor area (%)
Processed
foods
Water management
(1) Total water withdrawn and (2) total
water consumed, percentage of each
in water-stressed regions (m3, %)
Oil and gas
Reserves valuation and
capital expenditures
Sensitivity of reserves to carbon pricing
(MMbbls, MMscf), estimated emissions
embedded in reserves (CO2-e)
Electric
utilities
GHG emissions and
energy resource planning
Scope 1 emissions (metric tons
CO2-e), percentage covered under
regulatory programmes (%)
Automobile
Fuel economy and usephase emissions
Sales-weighted average passenger fleet
fuel economy, by region (mpg, l/km,
gCO2/km, km/l)
Asset
managers
Incorporation of,
Amount of assets (US$) that employ
environmental, social
ESG integration, thematic investing
and governance factors in and screening
management and advisory
Source: Antoncic (2019, p. 213).
An effective sustainability framework can help identify emerging problems
that may affect supply chain operations and production. For example, the availability of renewable energy sources, the depletion of non-renewable resources, or
changing government regulations can be listed as examples of emerging problems
(Tech Target, 2010).
Today, only a quarter of companies have corporate risk management integrated with sustainability. Other companies do not consider the sustainability
factor at all. However, it is unlikely that this will remain that way for long, partly
due to market forces and partly to regulations. In 2017, Bill McNabb of the Vanguard Group published an open letter calling for public companies. In this letter,
Bill McNabb recommended that a company adopt to explain the sustainability
risks associated with the hope of creating value in the long term, and to use a
framework such as the SASB standards. In 2018, Larry Fink, CEO of BlackRock,
stated that they wanted SRM to be a tool that every manager should consider by
making more sense of SRM (Antoncic, 2019, p. 214). The Erin Brockovich case
showed how not having SRM systems can result in huge liabilities. Pacific Gas
& Electric paid $333 million for water poisoning to settlers in the small town of
Hinkley, CA. It was determined that those who reside in this region suffered from
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227
cancer, kidney problems, liver failure, severe respiratory problems and colon disease (Anderson, 2005, p. 2).
Organizations should walk before they start running. Sustainability is generally managed separately from the risk function. Traditional silo-style bureaucratic organizations overcome the risk management problem. In other words, silo
perspective is used for risk management. Using a sustainability framework that
focuses on financial importance helps transform the ESG into the language of
finance and risk and remove sustainability barriers. This type of approach can
also prevent a company from having to reinvent the wheel. Financially important
ESG problems can be easily integrated into a company’s traditional enterprise
risk management (ERM) framework (Antoncic, 2019, p. 214).
Since non-financial risks will turn into financial risks after a certain period
of time, companies should implement SRM. As in traditional risk management,
market risk turns into credit risk of the counterparty in contracts. The credit risk
of the counterparty may become liquidity risk. Liquidity risk can eventually and
quickly become fatal for a company (Antoncic, 2019, p. 211).
Almost every organization has come to prepare the sustainability reports in
recent years. Indeed, 85% of S&P 500 companies now draw up sustainability
reports. However, the carelessness shown in the preparation of traditional
financial reporting is widely criticized. These criticisms did not slow down
the proliferation of the corporate sustainability framework (Antoncic, 2019,
p. 212).
Why are non-financial risks, or at least some of them, poorly managed? Yet,
a large consumer products company that manages non-financial risks well has
recently earned USD 15 billion as consumer preferences have shifted toward
much healthier, more natural alternative packaged foods. However, when risk
managers establish clear connections between macroenvironmental trends and
the microeconomic levers of change, as well as managing non-financial risks
well, these managers will be able to sit in the driver’s seat much more comfortably
(Antoncic, 2019, p. 211).
In recent years, ESG factors have emerged as important signals of risk and
return for all organizations. Most importantly, investors in global capital markets have demonstrated a rapidly increasing appetite for incorporating important ESG information into allocation decisions. For example, 85% of EU-based
chartered financial analysts agreed that it would be appropriate for institutional
investors to consider ESG factors when making investment decisions. Although
companies that take these factors into account when making investment decisions already exist in the market, an increasing number of companies have started
to follow suit today. The assets inflated under the responsible managements that
signed the investment principles (Principles for Responsible Investment) can be
shown as evidence for this situation (Antoncic, 2019, p. 207).
When we look at the theoretical basis of SRM, one notes that the sustainability management (SM) and ERM literature has put forward various theories and approaches to adopt ideas on these issues. Clarke (1998) and Lantos
(2001) suggest two approaches, namely the stakeholder approach and the classical approach, regarding the role of companies in society. According to the
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classical approach of Brummer (1991), businesses should work with economic
responsibility rather than social and environmental responsibilities. On the other
hand, Freeman (1984) assumed that companies are responsible for satisfying not
only their shareholders but also various stakeholders based on the stakeholder
approach. This argument was supported by Branco and Rodrigues (2006). Most
of the corporate risk management literature has classical views. According to
the classical view, the ultimate goal of corporate risk management practice is to
maximize the company’s profit as well as increase the value of the shareholders.
Some literature discusses corporate risk management with incomplete concepts
and frameworks, without considering external risk, such as environmental and
social risks. Therefore, integrating sustainable management is imperative for
companies that put at their strategic point of focus the preoccupation of making
profits and maximizing the wealth of their shareholders. Sustainable management must be sensitive and react to environmental and social problems in the
company’s external operating ecosystem. The integration of SM into corporate
risk management processes should be a good sign to bridge the existing gap of
external risk monitoring that might exist aimed at protecting the interests of
external stakeholders (Soomro & Lai, 2017, p. 334).
ESRM framework is based on the theories of organizational behavior (institutional theory), governance (agency theory and resource dependence theory)
and strategical management (stakeholder theory). Institutional theory, for example, supports the idea of satisfying government regulations and emerging stakeholder expectations to guarantee organizational legitimacy by complying with
the rules and norms of the corporate environment. Agency theory, on the other
hand, assumes that by harmonizing principal and agent interests, the governance mechanism will reduce the scope of opportunistic behavior and information
asymmetry. And resource dependence approach suggests environmental relations
which are related to uncertainty and reducing environmental interdependence.
Meanwhile, stakeholder theory focuses on taking stakeholders into account in the
strategic decisions of the organization rather than focusing only on shareholders
(Soomro & Lai, 2017, pp. 334–335).
In summary, ESRM is based on the arguments of theories related to institutional, agency, resource dependence and stakeholder theory. Companies can
create value for their stakeholders and increase their sustainability performance
by implementing the ESRM program. ESRM practice leads to some financial
and non-financial benefits for the company and its stakeholders. These benefits
include results such as reduction in earnings volatility, strengthening management confidence in business operations and monitoring risk, creating smooth
governance procedures, providing exciting corporate reputation, improving the
quality of organization-wide decision-making and of chain of command, promoting corporate entrepreneurship, increasing profitability, increasing positive
engagement with communities, developing new products, increasing the ability
to identify and seize new opportunities, motivate employees and increase the customer base. The benefit gained from the implementation of the ESRM framework can contribute to an organization’s distinctive competitiveness (Soomro &
Lai, 2017, pp. 332–333).
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SRM is generally used to help protect insurance and other risk financing tools,
companies and other potentially responsible parties (Anderson, 2005, p. 3). ESRM
guides organizations about the sustainability risks (environmental and social
problems) they face while pursuing their economic goals, and the elements that
must be fulfilled to manage corporate risks. It is assumed that the integration of
sustainable management and ERM creates value within the ESRM framework.
The ESRM aims to achieve enterprise sustainability performance by taking into
account environmental and stakeholder concerns as well as financial measures
(Soomro & Lai, 2017, p. 336).
5. Conclusion
Having recently emerged as a result of the commercial activities of companies,
the risks of sustainability can harm the business with both direct and indirect
effects. Although these risks do not disrupt the operational processes of the companies, they lead to intense stakeholder response and a decrease in organizational
performance. To eliminate these negative effects of sustainability risks, first of all,
the risks and the methods to eliminate these risks should be identified. This study
was conducted with this perspective in mind. The risks arising from economic,
environmental and social dimensions of sustainability were touched on and the
decision-makers are advised in the following paragraph on what methods should
be followed in order to eliminate these risks. In other words, this study provides a
conceptual and theoretical explanation of SRM and also proceeds with the perspective of identification and evaluation of sustainable risks.
The ability to better manage the sustainability risks faced by businesses in
their operational processes depends only on making good quality decisions. For
this, businesses need to identify, evaluate and analyze sustainability risks in a
wider spectrum. Risks arising from environmental events are at the core of sustainability risks. Therefore, the need to prioritize the management of environmental risks arises. For this, businesses are advised to reduce the amount of waste
by recycling or to use their wastes in energy production and to earn additional
income by selling the excess amount of this energy produced by the enterprise
and to reduce the GHG emissions they release to the atmosphere. In this way,
the enterprise will benefit from restricted resources at the maximum level while
protecting the environment that created it and will reduce the costs in operational
processes. This study also suggests to business that they should start projects
that will protect the environment, increase social welfare, contribute to social
awareness or contribute to projects that will increase the welfare of the society
and protect the environment by collaborating with relevant institutions. In addition to all these, businesses need to behave in accordance with human rights and
improve the physical and psychological conditions of the work environment in
order to eliminate the risks arising from the social dimension of the sustainability
risk. In this way, the business will increase the reputation of its stakeholders and
the brand value of its products by managing both environmental and social risks.
In addition to all of these, enterprises need to act in accordance with human
rights and improve the physical and psychological conditions of the work
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Oya Korkmaz
environment in order to eliminate the risks arising from the social dimension of
the sustainability risk. In this way, the enterprise will improve its reputation in
the eyes of its stakeholders and increase the brand value of its products by managing both environmental and social risks.
Enterprises must benefit from the power of technology and their creative staff
to deal with these risk areas that are new to them. Enterprises can only change
or regulate their existing risk management systems in this way. In addition, the
support to be given by top management to this process and its vision should not
be overlooked. In this process, businesses need to invest in technology, employ
creative staff and reinforce their existing staff structure.
In order to an organization to survive in a highly volatile and unstable environment, the concept of SRM should be taken into account in the design of all divisions of the organization. SRM is an important tool that helps managers identify
and prevent risks (Valinejad & Rahmani, 2018, p. 54). Lack of concern about
sustainability risks threatens the future of organizations. Unless sustainability is
integrated into risk management, risks arising from current activities will be conveyed onto future generations.
If appropriate SRM techniques are not developed and implemented in the
business world, disastrous and inevitable financial consequences will be experienced in the future. The good news is that there is still enough time to develop
and adapt SRM strategies (Anderson, 2005, p. 18). Having enough time means
businesses that ignore sustainability are given the time they need to adapt sustainability to their risk management processes.
The negative effects of risks are not completely eliminated by SRM. However,
with the actions taken in economic, environmental and social issues, the negative effects of the risks arising from these issues can be minimized. Since SRM is
still at an early stage, more needs to be done regarding SRM. There are a limited
number of studies on SRM in the literature. For this reason, obviously there is
much to be done by governments, businesses, societies and academics to fill in
this gap. In addition, researchers who are interested in this subject are advised to
consider that the level of sustainable risk will expand with the addition of new
levels depending on the changes in the future, and perform studies focused on
these new levels.
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Chapter 11
Financial Institutions’ Governance
Innovation and Credibility Strategy
Tjaša Štrukelj, Sabina Taškar Beloglavec,
Daniel Zdolšek and Vita Jagrič
Abstract
Purpose: This chapter focuses on the enterprise’s ethics and social responsibility, which are interdependently resulting in an enterprise’s credibility and better
performance. The authors provide a comprehensive tool that can help enterprises and humankind to find a better way toward new economic and social
conditions, thus society’s transformation, beginning with the enterprise-level
innovation of decisions that originate from the (key) stakeholders’ personal
level innovation of decisions. The purpose is to show a possible path toward
requisitely holistic enterprises’ governance, management and practice.
Method: The authors use a qualitative methodological approach, based
on three relations (the law of requisite holism, the law of hierarchy of
succession and interdependence, and the law of entropy) and three elements
(10 guidelines defining the subjective starting points and objectives, and 10
guidelines on assuring the agreed policy to survive in latter steps of working
process) of Dialectical systems theory. This chapter methodologically
also follows the ethics of interdependence. Based on the research, the
authors propose to use the supplemented credibility strategy as a possible
methodological way of introducing enterprise ethics into practice.
Findings: The authors introduce a supplemented model of the strategy of an
enterprise’s credibility. The authors propose using this new model to develop
an enterprise’s social responsibility and ethics in a broader sense. The authors
focus is on financial institutions’ governance and credibility. The main finding
of this chapter is that strong regulation of the financial sector contributes
positively to all four dimensions in the strategy of an enterprise’s credibility –
if it is requisitely holistic rather than one-sided and short-term.
Insurance and Risk Management for Disruptions in Social, Economic and Environmental
Systems: Decision and Control Allocations within New Domains of Risk, 233–255
Copyright © 2022 by Emerald Publishing Limited
All rights of reproduction in any form reserved
doi:10.1108/978-1-80117-139-720211011
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Originality and Significance of Findings: The strategy of an enterprise’s
credibility could be used as a practical implementation tool for (key)
stakeholders. They can use the strategy of an enterprise’s credibility to
innovate its behavior toward appropriate holistic behavior and sustainable
development stimulating. This new tool can lead enterprises toward (more)
social responsibility, enterprise ethics and credibility. In applying this theory
to financial institutions, the authors find that such financial regulation (and
supervision) significantly strengthens multiple dimensions of enterprise
credibility. In this regard, the authors find it favorable and encourage such
regulation in all enterprises engaged in financial services, including nonbank institutions. Besides, to add to more comprehensive social benefits,
the authors find it favorable to encourage similar development in other
economic sectors, not the opposite, deregulation.
Keywords: Enterprise governance; banks; financial institutions; credibility;
innovation; social responsibility; sustainability
JEL classifications: G20; G30; G41; L21; M14; O35
1 Introduction: The Selected Challenge and Viewpoint of
Dealing With It
The trustworthiness of counterparties in a contractual relationship is a precondition in all business activities. Building it up requires transparency, reliability,
security, fairness and enables confidence and accountability. In investments, trading with financial instruments, financial activities trustworthiness is a crucial prerequisite for maintaining financial stability and economic survival. Among many
other phenomena, bank runs are prominent evidence for it. While it can be objectively derived from the problem of maturity mismatch, investors’ psychological
factors (depositors) matter. As experimentally shown by Oege (2017), the depositor’s psychological state, like, for example, the presence of background fear, may
be essential and can increase the likelihood of withdrawal, possible leading to a
subsequent bank run.
The necessary trustworthiness can be well supported if one applies social
responsibility, as defined in ISO 26000 (ISO, 2010), that exposes three basic attributes: responsibility for one’s influences over society, interdependence, and holistic
approach (similar see in Mulej, 1974; Mulej et al., 2013). Such behavior is in
ISO 26000 well backed by seven principles: (1) Accountability; (2) Transparency;
(3) ethical behavior; (4) respect for stakeholders’ interests; (5) respect for the
rule of law; (6) respect for international norms; and (7) respect for human rights
(Mulej, 1974; Mulej et al., 2013). Given the international norm that customers are
entitled to accept only total quality of products and services, the attributes of
social responsibility, briefed above, do not require businesses to innovate their
behavior as fanatics of friendly behavior, but as customers that are fully entitled to
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be selfish (Mulej, Hrast, & Mihec, 2020), including both the short- and long-term
criteria of decision-making. This includes financial services, banking and insurance: more trust of depositors leads to more deposits and loans, hence profits.
The thesis: for that end, enterprise policy innovation may be needed (Štrukelj &
Gajšt, 2019; Štrukelj, Nikolić, Zlatanović, & Sternad Zabukovšek, 2020). Implementation of the credibility strategy must result from the responsible enterprise
policy briefing, which must be in line with the development policies of those
business and social environments where enterprise operation occurs. Often, an
enterprise needs the innovation of its enterprise policy to achieve its credibility
strategy (Štrukelj, Zlatanović, Nikolić, & Sternad Zabukovšek, 2021). So, does
the financial industry.
This chapter is organized as follows. The introduction is followed by a review
of the literature (part two) explaining the methodological approach used (part
three). We introduce values, culture, ethics and norms (also) in the financial business in the fourth part and enterprises’ credibility strategy in the fifth part. We
present applications for the financial industry in the sixth section. Finally, we
sum up concluding remarks and directions for further research in section seven to
complete a report on this research in this phase.
2 Theoretical Backgrounds
Oege (2017) finds that women are significantly more likely to withdraw than men
but in case of fear. Preventing bank runs is based on depositors’ trust that they
will repay their savings in the future by the bank or, in case of guaranteed schemes,
another entity. In this case, there are no grounds for a bank run. However, moral
hazard is a well-known consequence, requiring additional action from the bank
supervision authorities. In the literature, other similar or additional mechanisms
in the financial market are also studied. For example, Voellmy (2021) analyzes the
US case – whether redemption fees and gates reduce the “first-mover advantage,”
which is the primary motivation for asset withdrawal, leading to possible runs,
in the studied cases of a money market fund. According to a study by Voellmy
(2021, p. 106065), the fees have two roles:
(i) they ensure that redeeming investors internalise the cost
of liquidating assets and (ii) they can be used to implement a
redistribution among investors that incentivises investors to
remain invested in the money market fund when others run.
His results suggest that gates are less valuable than fees, and, in the case of a fund
being able to charge fees, gates have a preventing role only if there are regulatory
restrictions regarding the fees.
Further, the policy-makers, governments, international organizations, and
many other parties involved recognize and promote green economic development
and digitalization at the forefront of future economic course. Within
digitalization, a waste proportion is represented by the development, inclusion,
and usage of artificial intelligence, in all sectors across the economy, including
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financial services, banking and insurance. Here again, the importance of involved
counterparties’ trustworthiness is emphasized. OECD Recommendation of the
Council on Artificial Intelligence (2021, p. 6) are based, among others, on the
recognition
that trust is a key enabler of digital transformation; that, although
the nature of future artificial intelligence (A.I.), applications and
their implications may be hard to foresee, the trustworthiness of
A.I. systems is a key factor for the diffusion and adoption of A.I.;
and that a well-informed whole-of-society public debate is necessary for capturing the beneficial potential of the technology while
limiting the risks associated with it.
Social responsibility backs it.
While trustworthiness and credibility of the monetary policy are well studied in
the financial literature (e.g., Andrieş, Nistor, & Sprincean, 2020; Goy, Hommes, &
Mavromatis, 2020; Henckel, Menzies, Moffatt, & Zizzo, 2019), the credibility
concerning individual financial institutions are studied, understood and explained
predominantly indirectly – through (a) most prominent factors impacting it or
(b) phenomena, reflecting its consequences. First, let’s look at changes regarding
the business environment, including the financial services operators’ business
environment. Khmara and Kronenberg (2020) identify degrowth as one of the
most far-reaching forms of sustainability transitions and report that transition
experiments incorporate a wide range of innovations, denoting, among others,
financial, institutional, legal or social ones. Degrowth is realized through
initiatives, which change the market placement of goods and services for actual
usage of these goods. When turning to services, voluntary participant activities
play a significant role and substitute the partly waged labor. Further, an antiutilitarianism circulation of goods is set in action, at least to some extent, by
exchanging mutual donations (Khmara & Kronenberg, 2020).
From the financial market perspective, we argue that this transition’s essential
feature is built-in capitalist dynamics to accumulate and expand, changing investment opportunities. Finally, Khmara and Kronenberg (2020) also show that
degrowth practices have often changed stakeholders’ relations, as relationships
among participants play a crucial role, being community-based and resulting
from collective action. The role of a financial institution and its business models
is changing. Consequently, partially the peer-to-peer FinTech industry is changing the landscape, but not to lower the extent of the financial industry size or the
size of the financial activities as a whole. The FinTech industry is regarded as part
of the financial industry despite short-term differences in formal undertakings.
Still, in the long run, they contribute to the sustainability transformation of the
industry. In cases it might hold, in general, FinTech is not to be equated to the
informal market of financial services, as they continue to exist.
While the trade-off between risk and return is at the forefront in finance, the
empirical evidence from the UK (Harkin, Mare, & Crook, 2020) indicates how different governance arrangements affect risk and return in banks and the influence
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of the heterogeneity in corporate governance arrangements within banks. For
example, separation of the roles of CEO and Chairman increases bank risk without causing a concurrent increase in return. In contrast, the probability of bank
failure is lower in the case of supervision by a Remuneration Committee and
Non-Executive Directors (Harkin et al., 2020).
Cuong and Hau (2021) explore data for a transitional economy, Vietnamese
small- and medium-sized enterprises. They found that more innovative enterprises and older and legal firms are less likely to seek informal loans for covering
their funding needs. Besides, the authors find that innovative activities improve
the firm’s exports and the chances of government financial support, reducing
their need to turn to the informal loan market (Cuong & Hau, 2021).
Further, informal loan opportunities matter for the formal credit market’s stability, as borrowers in communities with more significant social capital are less
likely to default on their loans, regardless of income level and other characteristics like wealth or homeownership. The effect of social capital is most remarkable among most creditworthy borrowers, suggesting the social cost of defaulting
might be affected. In the financial services industry, trustworthiness is strengthened, for example, with financial supervision. While the transition to innovative
market solutions is often conducted outside financial institutions’ position, it is
worth studying the factors influencing the trust of the financial service operator,
when the financial supervision role is weaker or in the absence of guarantee and
solvency schemes for depositors and investors. Osakwe et al. (2020) studied bank
markets in Africa with high growth potential. They found that bank reputation
crucially promotes the development of trust and customer loyalty and argues that
management should build reputational strategies to improve the competitiveness
of their bank products, considering subtle institutional differences and fostering
success in their internationalization strategies. The results on 356 banks from 50
countries over the period from 2002 to 2017 by Gaganis, Lozano-Vivas, Papadimitri, and Pasiouras (2020) indicate that governance on risk-taking depends on the
macroprudential policies being in force in a bank. Further, when none or only a
few macroprudential policies are in place, bank corporate governance has a negative impact on bank stability. Conversely, it becomes positive when the number
of macroprudential policies increases (Gaganis et al., 2020). Hence, more social
responsibility makes sense and profit.
Empirical evidence in the literature indicates that trustworthiness reduces risktaking in banks in the 16 Middle East and North Africa countries. At the same
time, governance quality reduces risk-taking behavior (Albaity, Md Noman, &
Mallek, 2020). The impact of trustworthiness on risk-taking changes with good
governance, which is according to Albaity et al. (2020) due to the substitution
effect of trust on risk-taking for the reason of the existence of weak formal institutions in the analyzed sample of countries, of key importance. Lee, Wang, and
Ho (2020) found in research on banks from 40 OECD and non-OECD countries
that banks, that are located in states/countries with a higher level of financial
innovation, exhibit superior growth in assets, loans, and profits. Simultaneously,
their results indicate that (1) bank regulations; (2) financial reforms; and (3) country governance indicators show a tendency to weaken the relationship between
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financial innovation and bank growth, while globalization tends to strengthen
this relationship (Lee et al., 2020).
The role of banks is changing and non-bank financial institutions, like money
market funds, hedge and investment funds, have an increased impact, for example, regarding the liquidity risk, also because of investors, who shift funds from
banks’ savings products to other investments when seeking for returns in a
lower-for-longer interest rates environment. ECB (2020a) reports on seemingly
increased risk-taking on behalf of the non-bank financial intermediaries and the
non-bank financial sector, providing significant financing for enterprises after the
initial coronavirus shock. Further, inflows’ return enabled investment funds to
increase their longer duration and lower-rated non-financial corporate debt exposures (ECB, 2020a). On the other hand, cash holdings of corporate bond funds
went back in 2020 to prior levels. The fund sector as a whole has increased investments into less liquid assets. Insurance companies have stable liquidity positions
(ECB, 2020a). While banks are well capitalized and resilient, they suffer from
weak profitability, and these prospects continue to go on in the lower-for-longer
interest rates environment. In the insurance industry, profitability pressures arise
from lower underwriting volumes and higher claim provisions stemming in 2020
from two main origins, the pandemic and natural catastrophes (ECB, 2020a).
The just described business environment of financial institutions indicates rising risks and results in a vulnerable financial institution position. Micro- and
macroprudential supervision of financial institutions promotes financial stability;
however, not all parts of the financial sector fall under the same regulation. The
financial sector, especially banks and insurance companies, are among the most
regulated undertakings in the economy. ECB (2020a) underlines that financial
stability has been safeguarded during the COVID-19 pandemic, mainly due to
economic and prudential measures.
In the literature, one can discover arguments for banks’ micro- and macroprudential supervision’s positive results. For example, Ely, Tabak, and Teixeira
(2021) study the effect of transmission mechanisms of macroprudential policies
on banks’ risk-taking. They use data from a broad list of countries and strengthen
bank stability, enhancing the risk-return relation of banks and reducing leverage
when tools are applied to address vulnerabilities from interconnectedness and
contagion of the financial system, like limits on asset concentration interbank
exposures. The study has also shown that banks reduce their equity when policies
impose limits on domestic and foreign currency loans. Simultaneously, the extent
of the impact varies according to the instruments implemented, market concentration, size of banks, liquidity, leverage and risk level (Ely et al., 2021).
To closer examine an example, we are looking at a recent case of regulatory
measure in the banking sector, namely the ECB’s Recommendation on dividend
distributions during the COVID-19 pandemic (ECB, 2020b, 2020c, 2020d). The
COVID crisis is a health-triggered economic crisis; therefore, it differs from
the other financial crises (e.g., financial crisis of 2008 or the sovereign debt –
Euro-crisis) in its origin and its extent. In the COVID pandemic, governments
have supported the enterprises (this text is written in 2021). Already at the very
beginning of the COVID pandemic, ECB issued the recommendation to the
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239
banks regarding dividend distribution, which was (among others) grounded with
following argumentation (ECB, 2020b, p. 1):
[…] [it is] crucial that credit institutions can continue to fulfil their
role to fund households, small and medium businesses and corporations amid the coronavirus disease 2019 (COVID 19) related
economic shock. For this purpose, it is therefore essential that
credit institutions conserve capital to retain their capacity to support the economy in an environment of heightened uncertainty
caused by COVID 19. To this end, capital resources to support
the real economy and absorb losses should take priority at present
over discretionary dividend distributions and share buy-backs.
ECB (2020a, p. 1) adopted a recommendation that
no dividends are paid out, and no irrevocable commitment to pay
out dividends is undertaken by the credit institutions … and that
credit institutions refrain from share buy-backs aimed at remunerating shareholders.
Additionally, ECB (2020b) also underlined that it would be “appropriate that
discretionary dividend distributions should also not be made by less significant
credit institutions.”
Looking even closer to banking, as stated by Hakkarainen (2021), the transformation of traditional banking due to digitalization through beneficial technological innovation brings gains to the customers, like offering them the services
they need in an unbundled manner, under the best terms in the most convenient way, easy-to-use by making a few simple clicks whenever they want. On the
other hand, it brings new risks and new challenges for the supervision to ensure
financial stability, prudential soundness and consumer protection (Hakkarainen,
2021). Banks are enterprises that heavily differ from other undertakings due to
the nature of their services.
And here, the trust of customers remains central. Hakkarainen (2021) sees a
significant portion of banks’ customers are trusted, among others, thanks to their
reliable personal data gatekeeping record. Hakkarainen (2021) sees in this fact a significant advantage over technology platforms, and even more, sees it as necessary for
banks’ future survival. Data protection and the possibility of data misuse are already
a concern of the banking supervisor, as reported by Hakkarainen (2021). This is
predominantly relevant in big tech’s data-driven business models, where data can be
available via their non-banking activities. This new practice violates the traditional
prerequisite for the availability of data to traditional banks. Further, concentration
and the use of third-party service providers are typical for the bank’s development,
simplification and technological modernization are encouraged by all stakeholders,
including supervisors. However, the outsourcing arrangement must not result in a
bank becoming an “empty shell.” Not to forget, banks remain responsible for and
control all risks arising from their activities (Hakkarainen, 2021).
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Additionally, the trustworthiness of banks is strengthened by ECB as an
authority within the Single Supervisory Mechanism safeguarding the soundness
of the European banking system and thereby the safety of deposits (De Guindos,
2021). The latter applies deposit insurance, which in the European case is at the
national level. Thus, the level of confidence across different European countries
may differ. For depositors’ confidence, the chance of failure, which might result
in financial losses, is crucial. De Guindos (2021) stated that banks, predominantly
deposit-funded and small- or medium-sized, have less loss absorption capacity.
Therefore, they are more vulnerable. When considering the differences in national
liquidation rules for banks, the distinction in the depositors’ position becomes
apparent (De Guindos, 2021).
Enterprise policy must be socially responsible. In this way, it promotes enterprise’s ethics and enables (also) the balance between working and leisure time.
Thus, it enables (1) a better enterprise stakeholder quality of life; (2) happiness;
(3) well-being; and (4) enterprise stakeholders’ trustworthiness; this is easier to
attain when promoting enterprise trust (Duh, Belak, & Milfelner, 2010; Šarotar
Žižek & Mulej, 2013). Concerning their impact on financial stability, we argue
that financial institutions should be explored regarding their governance and
trustworthiness in the changing business environment.
The second argument offering grounds for this research is the immense
number of scandals connected to the financial industry over recent history.
Cumming, Johan, and Peter (2018) reviewed scholarly literature on financial
market institutions, governance, agency costs and misconduct concerning the
role of auditors, boards of directors, CEOs, ownership and financial market
regulation; they identified the comparative analysis of the academic literature
about the importance of these topics over time. The authors propose future
policy implications regarding research on governance and financial market
misconduct. Bahoo (2020) identifies in his bibliometric review of 819 papers
in the period from 1969 to 2019 following significant themes in the research
on corruption in banks: (i) the manipulation of the interbank offered rate; (ii)
the determinants of banks’ lending corruption; (iii) the effect of corruption on
banks’ credit and operational risk; (iv) the effect of bank corruption on firms;
(v) the impact of politics on bank corruption; and (vi) the impact of corporate
governance and regulations on bank corruption. ISO (2010) acknowledges that
social responsibility fights corruption.
After the Lehman Brothers crisis, several other scandals harm the industry’s
reputation in the financial industry. Stenfors (2018) has explored the cases in
the global foreign exchange and money markets by empirically investigating the
determination of bid-ask spreads in the USD/JPY and USD/NOK FX swap markets and addresses paradoxes regarding reciprocity, trust and conventions by analyzing the bid-ask spread in traditional market microstructure theory. He finds
that both markets appear competitive in line with market microstructure theory.
But also, he finds indices of anti-competitive behavior. Our motivation derives
from several studies (similar as shown in Stenfors, 2018) pointing to financial
institutions’ behavior as a financial market participant and offering grounds for
discussing their role as credible market participants.
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Additionally, to all arguments laid down in previous paragraphs, more reason
might be given for this research. Banks, central (see Hurlburt, Miller, & Voas,
2009; Schelkle, 2011) and commercial are sought to be the reason and river of
2008 financial crises. Excessive risk-taking, profit-seeking, social irresponsibility
and lack of supervision and regulative frames lead to crises consequences as not
seen before.
The current economic, human, social and ecological crisis has been caused by
decades of prevailing neo-liberal (more monopolized than competing) economy
and aging of the human population (Mulej & Dyck, 2014; Štrukelj & Sternad
Zabukovšek, 2019; Štrukelj et al., 2021). Another response to changing needs
is requested on personal, enterprises’ and governmental decision-making levels
(Dankova, Valeva, & Štrukelj, 2015; Šarotar Žižek & Mulej, 2013). Innovation
in governance is reflected in enterprise policy innovation (Dankova et al., 2015;
ISO, 2010; Štrukelj & Šuligoj, 2014). Enterprise’s governance is closely related
to the decision to adopt either an opportunistic or an ethical, socially responsible and sustainable enterprise policy (see, e.g., Je Belak, 2013; Kock, Santaló, &
Diestre, 2012; Štrukelj et al., 2021). Sustainable socioeconomic development is
at the forefront of emerging economic development literature. In this research,
reported in this chapter, we argue that examining the credibility of a financial
institution is worth deriving for two primary arguments:
(a) changing the business environment for financial institutions, including among
others, financial innovation, digitalization and artificial intelligence, lowerfor-longer interest rates, changes in financial regulation and supervision,
aging society; and
(b) financial regulation has been constantly improved to strengthen the social
benefits from the financial industry.
3 Methodology Used
In this research, we use a qualitative methodological approach. Dialectical systems
theory originates in systems thinking that tries to overcome the crucial oversight
caused by over-specialization (see, e.g., Mulej et al., 2013, pp. 11–26). In the Dialectical systems theory, there are three relations and three elements (Mulej et al.,
2013, pp. 156–158): the three relations are the law of requisite holism, the law of
hierarchy of succession and interdependence, and the law of entropy; the three
elements are 10 guidelines defining the subjective starting points and objectives,
and 10 guidelines on assuring the agreed policy to survive in latter steps of working process; in both global phases a methodology of creative cooperation aimed
at making the Dialectical systems theory viable in the daily practice as informal
systems thinking, is foreseen. We used the Dialectical systems theory because systemic integration is a current path toward requisitely holistic enterprises’ governance, management and practice (Lebe & Vrečko, 2014; Štrukelj & Šuligoj, 2014;
Štrukelj et al., 2021). This chapter methodologically follows also the ethics of
interdependence (Mulej & Kajzer, 1998). Based on the research, we propose to
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use the supplemented strategy of credibility (Thommen, 2003, pp. 43–83) as a possible
methodological way of introducing enterprise ethics into practice (Chapter 5).
4 Research of Values, Culture, Ethics and Norms (Also) in
the Financial Business
The old needs, resulting from the old values and satisfied with the one-sided
neoliberal practice, no longer work well: neither for humans nor for organizations
(including the financial ones) nor society. Therefore, values innovation in the
direction of the unavoidable, not only desired ethical (core) values achieving is
needed (Hrast, Mulej et al., editors, IRDO conferences 2006–2020; Lencioni,
2002; Malbašić, Rey, & Potočan, 2015; Morris, Schindehutte, Walton, & Allen,
2002; Mulej, 1987; Štrukelj & Sternad Zabukovšek, 2019; Vitezić, 2011). Hence,
new enterprise governance/policy is needed, too (Kavčič, Meško, Meško Štok, &
Markič, 2015; Štrukelj, Mulej, & Šarotar Žižek, 2020; 2021; Štrukelj, Mulej, &
Sternad, 2012; Štrukelj, Mulej, & Sternad Zabukovšek, 2020; Štrukelj & Šuligoj,
2014). The differences in enterprises’ business policies result from differences
in enterprise’s (key stakeholders’) values, culture, ethics and norms, which are
interdependent (Mulej et al., 2013, p. 84), and from resulting interests, which
should be oriented toward social responsibility and enterprises’ ethics (Dankova
et al., 2015). Social responsibility is needed (Vrečko & Lebe, 2013) for enterprises’
non-economic performance (Blanchflower & Oswald, 2011; Šarotar Žižek &
Mulej, 2013; Štrukelj & Gajšt, 2019) and their economic performance (Milfelner,
Potočnik, & Šarotar Žižek, 2014; Wagner, 2010). Therefore, the sustainability of
enterprises should be researched (Crnogaj, Rebernik, Bradač Hojnik, & Omerzel
Gomezelj, 2014; Peršič & Markič, 2013) and socially responsible routine use
supported (Glavočević & Radman Peša, 2013; Šebjan & Tominc, 2015; Sternad,
Gradišar, & Bobek, 2011).
Enterprise policy expresses enterprise governance. We argue that enterprise
business policy must be oriented toward the enterprise’s responsible and sustainable behavior (Štrukelj et al., 2020, 2021; Štrukelj & Šuligoj, 2014), and should
enable the use of the strategy of enterprise’s credibility (Je Belak, 2013). Therefore, enterprise policy innovation for enterprise’s credibility may be needed. And
to achieve the planned development, a knowledge creation process is required
(Duh, 2014; Štrukelj et al., 2021) in interdependence with values, culture, ethics and norms, supporting social responsibility (Štrukelj et al., 2020; briefed in
Introduction).
The present-day problems and values’/financial/economic crisis crucially
depend on the perception of deciding key stakeholders what should be included
in the considered effort, cost, time horizon, benefit, tackled circles of persons, etc.
If this perception is narrow-minded, short-term and disregarding interdependence, rather than requisitely holistic, the one-sidedness of decisions outcomes
and failures of processes’ outcomes are hardly avoidable (Mulej & Dyck, 2014;
Štrukelj & Gajšt, 2019). Enterprise is a part of its broader social environment,
and enterprise ethics is changing from an instrument for profit-making to a precondition (Je Belak, 2013; Duh et al., 2010). Therefore, the enterprise’s long-term
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development depends on effectiveness, efficiency and ethical behavior, which
matches ISO 26000 – Social responsibility standard seven principles (mentioned
before) (ISO, 2010, pp. 10–14).
The crucial integral parts linking these principles are the holistic approach and
interdependence. ISO 26000 is the guidance that offers the possibility of operating in a socially responsible way. It can be seen as complementary guidance to the
E.U. (2011) call on “the responsibility of enterprises for their impacts on society.”
Ethical behavior is in ISO 26000 defined as one’s values of integrity, equity and
honesty, that is, concern for the environment and people and devotion to pay
attention to the impact of its decisions and activities on all stakeholders’ interests.
Therefore, the enterprise policy (which should result from enterprise ethics) need
to be innovated toward more benefit for all enterprise’s stakeholders (see, e.g.,
Je Belak, 2013).
Enterprise policy is influenced by (1) enterprise values, culture, ethics and norms,
resulting in (key) stakeholders’ interests; (2) strengths/weaknesses; (3) opportunities/threats; and (4) existing enterprise policy (Štrukelj & Šuligoj, 2014; Štrukelj
et al., 2020). Enterprise policy derives from an enterprise vision and includes it
(Ja Belak, 2010; Belak & Duh, 2012). To assure better enterprise stakeholders’
quality of life, happiness and well-being, we present a selected instrument for
achieving their enterprise business trust (Chapter 5). The proposed instrument
must be promoted through enterprise policy direction. It can be used as an instrument for values, culture, ethics, norms and resulting interest’s innovation, strengths
gaining and enterprise policy innovation influencing. This is why in the paper’s
continuation, enterprise credibility as a part of an enterprise’s ethical behavior
(also values, culture, ethics and norms determinants influencing enterprise policy)
is examined (Chapter 5). It should be implemented from top to down, from its
vision and policy to its basic realization process (Je Belak, 2013).
What one requires as a customer, one must offer as a supplier, to survive – values, culture, ethics and norms of social responsibility wise – otherwise, potential
customers do not see enough credibility and walk away.
5 The Strategy of Enterprise’s Credibility Research and
Discussion
Thommen (2003, pp. 43–83) has developed a strategy of enterprise’s credibility that helps enterprise’s key stakeholders (owners and top managers)
achieve more credibility, making all enterprise stakeholders believe and trust
their enterprise. Enterprises can achieve their credibility and business ethics
through requisitely holistic enterprise ethics development/planning (Belak,
Duh, Mulej, & Štrukelj, 2010; Morris et al., 2002). Enterprise’s key stakeholders should promote the enterprise’s credibility and ethics in the enterprise’s
vision, enterprise’s policy and resulting management and basics realization
process (Belak et al., 2010).
Enterprise ethics cannot be realized without all enterprise stakeholders’ ethical
behavior because enterprise credibility is confirmed in its environment! According
to Je Belak, (2013, p. 531), enterprise key stakeholders with their values influence
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the enterprise’s vision and policy and, therefore, its implementation of ethical
behavior using its credibility strategy. Thommen (2003) considers credibility
as enterprises’ top leading guideline. He, therefore, proposes to enterprises to
consciously and actively implement the strategy of credibility, which is based
on communicative, responsible and innovative behavior. All three components
of the enterprises’ credibility strategy are highly interdependent and can only
interdependently lead toward the desired goal – enterprise credibility and
enterprise ethics (Fig. 1).
Communicative behavior generally means that the various stakeholders that
set out the requirements (Thommen, 2003, pp. 53–76) are perceived as communicating business partners. They are for enterprise not only recipients but also
transmitters of information. Therefore, enterprise needs also to observe and recognize their environments’ values and needs (Kock et al., 2012). These values are
not constant (Mulej et al., 2013, p. 84) and constantly influence enterprise governance, management and practice (Je Belak, 2013). According to the author of
the strategy of the enterprise’s credibility (Thommen, 2003), from the enterprise’s
Responsible
behaviour
Communicative
behaviour:
communication
relationships with
internal enterprise
stakeholders*
The strategy
of the
enterprise's
credibility
Innovative
behaviour
Communicative
behaviour:
communication
through public
relations
Fig. 1. The Strategy of the Enterprise’s Credibility Interdependent Elements
Overview.
Source: Adapted from Thommen (2003, p. 48), supplemented by the author’s insight;
own design. Note: * Authors contribution.
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viewpoint, in the phase of the exchange of information, public relations are in
the foreground. In this way, enterprises try to explain their behavior. To attain
requisite holism (Mulej, 2007; Mulej & Kajzer, 1998) and social responsibility
(Milfelner et al., 2014), the enterprise should consider all essential stakeholders
and develop its credibility strategy ethically (in ISO 26000 terms; ISO, 2010).
We suggest that enterprises closely monitor their public relations (as suggested
by Thommen, 2003) and other external and internal stakeholders. Any enterprise
must establish an appropriate, that is, ethical and credible communicative behavior; it should be consistent with their values (Lencioni, 2002; Malbašić et al., 2015;
Morris et al., 2002) (Table 1).
Table 1. The Strategy of the Enterprise’s Credibility Insight: A Communicative
Way of Behaving.
(a) A communicative way of behaving: communication via public relations (and
with all enterprise external stakeholders’ categories*)
• The way of behaving of employees must be credible: each informant
transferred information must be trustworthy
• With the conversation, we detect the desired facts the public (and/or other
external stakeholder categories*) wants to know and properly notify them
about all detected issues
• Open notification of the public (and/or other external stakeholder
categories*) with any and complete/whole information
• Accept that the public (and/or other external stakeholder categories*) values
and opinion may be different from the values and opinions of the enterprise –
this requires the requisite holism of actions and decisions*
(b) A communicative way of behaving: communication relationships with
internal enterprise stakeholders (with different categories of internal enterprise’s
stakeholders’)*
• The way of behaving of each employee must be credible: each internal
enterprise stakeholder is the informant transferring information and must be
trustworthy*
• With the conversation, we detect the desired facts all enterprises internal
stakeholders categories want to know and properly notify them about all
detected issues*
• Open notification of all enterprise internal stakeholders categories with any
and complete/whole information*
• Accept that the viewpoint of some internal enterprise stakeholders categories
may be different from the values and opinions of other internal enterprises’
stakeholders’ categories, as well as from the values and opinions of the
enterprise – this requires the requisite holism of actions and decisions*
Source: Adapted from Thommen (2003, pp. 53–76), supplemented by the author’s insight; own
design. For the previous version, see Štrukelj and Mulej (2014).
Note: * Authors contribution.
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Tjaša Štrukelj et al.
Responsible behavior: “Being responsible” (Thommen, 2003, pp. 48–52)
includes one’s practice of “answer, give answers” and thereby assumes the consequences of one’s action and behavior. The author of the strategy of enterprise’s
credibility (Thommen, 2003) proposes a liability that is imposed on the enterprise
because of (1) its role in its society/-ies (society expects their credible behavior;
see, e.g., Filbeck, Gorman, & Zhao, 2009; van Beurden & Goessling, 2008); (2) the
responsibility to remove the damage caused; and (3) ability of responsibility and
response-ability – to prevent (future) damage if the enterprise is (was) capable of
solving a problem (Table 2). Hence, in practice, the enterprise (1) shall consider
all (internal and external) stakeholders; (2) be socially responsible (Crnogaj et al.,
2014; ISO, 2010; Kock et al., 2012; Stiglitz, et al., 2009); and (3) maintain the existing civilization and the planet Earth (Blanchflower & Oswald, 2011; Hardjono &
de Klein, 2004; Judge & Kammayer-Mueller, 2011; Mulej & Dyck, 2014; Štrukelj
et al., 2021).
Innovative behavior: the ethical and entrepreneurial behaviors influence each
other; sometimes, they are even mutually preconditioned (Thommen, 2003,
pp. 76–83) because entrepreneurial behavior primarily means innovativeness. This
is precisely what requires explicitly also ethical behavior, and vice versa. Innovative
solutions for the current and possible new problems need to be found for one’s
partners to adopt. According to the author of the enterprise’s credibility strategy
(Thommen, 2003), innovative and creative thinking is necessary for behaving
ethically. Thommen (2003) mentioned that innovation is not necessarily new in
terms of the overall economy, but it can be new only for its users. The author
differentiates three types of innovation: social innovation, process innovation,
and product innovation. Whereas it is necessary to innovate all the enterprise
governance processes (see Mulej, O’Sullivan, & Štrukelj, 2020, 2021; Štrukelj et al.,
2012), we should also not forget that the enterprise may influence the innovation of
Table 2. The Strategy of the Enterprise’s Credibility Insight: A Responsible
Way of Behaving.
A responsible way of behaving (with all enterprise’s stakeholders and society
considering the planet Earth*)
• Accountability resulting from the (significance and*) role of enterprise in the
environment* and society from the viewpoint of perceptions of external and
internal enterprises’ stakeholders*)
• Causal liability for any problems caused by the enterprise (directly and/or
indirectly*) (with their activities, products and services* and/or information*)
• The ability to take liability and responsiveness* in all circumstances for which
the enterprise can provide a solution to the difficulties that occurred
• Liability to the enterprise as an interest institution that connects people and
property*
Source: Adapted from Thommen (2003, pp. 48–52), supplemented by the author’s insight; own
design. For the previous version, see Štrukelj and Mulej (2014).
Note: * Authors contribution.
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Table 3. The Strategy of the Enterprise’s Credibility Insight: An Innovative
Way of Behaving.
An innovative way of behaving (using radical and small innovation*, technological
and non-technological innovation*)
• Innovation of products, services and/or financial outputs concerning quality,
quantity, price (value)*, time and/or spatial dimension
• Processes innovation in the process of conducting business (creating products,
services and/or financial outputs) (the fundamental realization process
innovation)*
• Other processes innovation: governance and management process innovation
and information process innovation
• Social innovation concerning people (especially in the governance and
management system and enterprise organizational system)
• Enterprise values innovation (values of internal and external stakeholders of
the enterprise) and social values*
Source: Adapted from Thommen (2003, pp. 76–83), supplemented by the author’s insight; own
design. For the previous version, see Štrukelj and Mulej (2014).
Note: * Authors contribution.
its (internal and external) stakeholders’ values and societal values (Vitezić, 2011);
therefore, its core values should be ethical (Duh et al., 2010; Morris et al., 2002;
Štrukelj et al., 2020). While behaving innovatively, the enterprise should promote
and consider the entire invention–innovation–diffusion process (see Mulej et al.,
2013) (Table 3).
The enterprise vision of an ethical and credible enterprise should be used. In
this way, an enterprise can gain the enterprise’s stakeholders’ ethical behavior.
Also, request for ethical behavior must be incorporated into the enterprise’s
policy. Responsible enterprise policy can make an enterprise credible and
trustworthy and ensure its success in the long run (Je Belak, 2013; Duh et al.,
2010; Štrukelj et al., 2020, 2021). Using enterprise ethics, all Earth inhabitants can enjoy social responsibility and a better quality of life. In such a way,
enterprises and countries’ competitive ability and a better quality of life of
employees and citizens can be achieved. Therefore, governors, managers and
employees should support and apply such thinking, innovating it toward more
social responsibility and ethics quoted above (Mulej & Dyck, 2014; Rožman
& Štrukelj, 2021a, b; Šarotar Žižek & Mulej, 2013; Štrukelj, Mulej, & Šarotar
Žižek, 2020, 2021).
6 The Strategy of Enterprise’s Credibility Implications for
Financial Institutions
We derive from the research findings presented in Section 5 and apply the developed strategy to financial institutions. Financial institutions are operating in a
particular business environment that has undergone significant changes over the
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last decade. These changes have notably contributed to the importance of all
four dimensions of enterprise credibility strategy presented in Fig. 1. Next, we
describe all four dimensions applied to financial institutions.
1.
Communicative behavior – communication through public relations (and other
enterprise external stakeholders by groups/categories of enterprise’s external stakeholders): To protect financial stability, regulation obligates financial
institutions, bank and non-bank institutions, to meet specific and growingbody of requirements regarding reporting and disclosure of data to external
stakeholder, among which there are capital market participants: investors
and creditors, non-institutional investors like households. But transparency
over, for example, business activity, investments or the institution’s risk-exposure
for evaluating solvency risk is only a part of data disclosure. Moreover, financial institutions disclose a large amount of additional data on their customers and business activities to financial supervisors, criminal investigation
and taxation authorities, and to other authorities regarding other regulatory
purposes, like, anti-money laundering or anti-terrorism financing. Moreover, as seen in the literature review, macro- and microprudential supervisions
strengthen the here described dimension.
2. Communicative behavior – communication relationships with internal enterprise stakeholders (internal communication between different groups/categories of internal enterprise’s stakeholders): Financial institutions deal in
daily business operation with personal data on their depositors and customers, including data on their assets and financial data on their business
activities, which obligates them to special standards when managing operational cyber risk and other exposure, which also includes the way of internal
communication.
3. Responsible behavior (toward all enterprise’s stakeholders, society and the
planet Earth): Financial institutions, including banks, insurance companies,
investment and hedge funds, promote economic development and growth by
financing businesses, contribute to long-term financial sustainability when
opting for long-term investments; they ensure financial stability, which is a
prerequisite for the financial security of business and households. In addition, they importantly support businesses in risk management and, through
risk mitigation, contribute to stability in business activities. Likewise, the
insurance industry enhances households’ social security in an aging society
when providing health insurance products or life and pension insurance.
When mitigating business risks, security and environmental risks, risk
of climate change, and the change in demographic structure, the insurance
industry’s position is at the forefront of the future society. Similarly, the
choice of investments in hedge funds and banks’ lending activities may significantly contribute to environmental goals. Financial supervision authorities gain insights into financial institutions’ business activities by demanding
adequate capital buffers and safeguarding financial stability. They contribute
to the warrant of trust into financial institutions offering social securities for
households’ savings and future insurance policy’s claims. Non-institutional
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or unregulated companies or innovative business undertakings, which may
be offering low-cost products similar to bank or insurance products, may not
meet sufficient warranties for the society, taking the profits but leaving the
households and customers with potential losses. The financial industry is one
of the most regulated industries for a reason, to safeguard financial stability
and social security of households investing and trusting the industry. Therefore, financial regulation has been, on a global level, constantly improved.
Responsible behavior in the case of financial institutions is also reflected
in terms of their investment choices, whereby one dimension is the inclusion
of environmental, social and governance (ESG) assessment into investment
decisions. For example, OECD (2020) reports that the number of signatories
of the UN Principles of Responsible Investment – to be as of 2018 over 2.300,
and their size in terms of assets under management is over USD 80 trillion.
When including sustainability considerations into the investment decisions,
investors are enabled to monitor, among others, risk management practices
reducing (1) the impact of climate change on corporate performance and (2)
the impact from their investments, for example, in reducing carbon emissions
or sticking to human rights standards etc.
4. Innovative behavior (this can be radical and small innovation and technological
and non-technological innovation): The digitalization of business activities
has long arrived in the financial industry: offering new opportunities, like
enhancing the capital market transparency, automated high-frequency trading opportunities, quantitative risk modeling, real-time transaction settlement, etc. But big data and other new phenomena, like artificial intelligence
in the financial industry, also bring new and often more complex risks, like
cyber risk. The digitalization of financial markets and the financial industry
enhances the financial markets’ interconnection and lowers the classical diversification effects. The inclusion of FinTechs and InsurTechs into the financial
industry and not letting them bypass the formal financial market infrastructure gives grounds for gaining from their innovative potential but keeping the
warrants for investors, customers and the society at the same time.
7 Conclusions
Policy-makers struggle to address new economic challenges in preparing
their economies to succeed in the future economy, characterized by growing
uncertainty. In a complex and challenging global economic environment,
it is crucial that the country/region/E.U., etc., has a solid basis to support
socioeconomic development and growth, including the quality of life and wellbeing of all people. All successful appeals to the individual/enterprise sustainable
development, social responsibility and ethics confirm this truth (International
examples: the standard 26000 on social responsibility guidelines by ISO, 2010;
E.U., 2011 directions on social responsibility; Stiglitz, et al., 2009 about quality
of life, sustainable development and environment; the OECD “Your Better Life
Index” of well-being measurement – YBLICN, 2011, UN Global Compact, UN
SDGs, etc.). Therefore, these viewpoints have to be considered when establishing
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new socioeconomic arrangements (Blanchflower & Oswald, 2011; Clark, Hasan,
Lai, Li, & Siddique, 2021; Duh & Štrukelj, 2011; Judge & Kammayer-Mueller, 2011;
Rocha, Antunes, & Partidário, 2019; Rožman & Štrukelj, 2021a, b). Our society
needs a new, requisitely holistic way of researching and measuring economic
and social development. Therefore, we need also innovation in the context of
enterprise policy innovation (see, e.g., Je Belak, 2013; Dankova et al., 2015;
Štrukelj & Šuligoj, 2014) toward enterprise’s credibility. All these facts tackle the
financial industry critically.
This research showed that the financial sector’s strong regulation contributes positively to all four dimensions of credibility in the presented model. We
can conclude that an enterprise’s ethics is needed, therefore an enterprise policy
innovation also. Enterprise’s social responsibility, thus also ethics, at least in the
longer turn, pays off (Duh et al., 2010; Milfelner et al., 2014; Štrukelj & Gajšt,
2019). The same is valid in the financial industry and for all other industries,
regardless of the enterprise’s size, if they are governmental or non-governmental
organizations. Our society needs social responsibility, requisite holism of enterprise behavior, the innovation of habits/values/culture/ethics/norms, not only
technology, and requisite holism of owners (shareholders) and managers responsibility to all stakeholders, environment, society and vice versa (Mulej et al., 2013).
The use of systems theory is indispensable (Mulej, 2007; Štrukelj et al., 2021).
Acknowledgments
Tjaša Štrukelj acknowledges the financial support from the Slovenian Research
Agency (research core funding No. P5–0023, “Entrepreneurship for Innovative
Society”) and Erasmus+ programme (grant No. 2019–1-PL01-KA203-065050,
“Economics of Sustainability”).
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Chapter 12
CSR 4.0 Dimensions in Relation to
the Advantages of Industry 4.0
Anca Băndoi, Cătălina Sitnikov, Anca Tănasie and Ionut Riza
Abstract
We can speak of CSR 4.0 only when the companies that are part of the field
of Industry 4.0, exceed the economic expectations (the company expects
a company to produce goods and services to sell and make a profit), legal
expectations (the company expects a company to respect the law), ethical
expectations (types of behaviors and ethical norms that the society expects
to be observed) and voluntary activities such as philanthropic contributions.
To properly understand the concept of Industry 4.0, we should compare this
specific industrial revolution with previous technological breakthroughs. The
purpose of this study is to analyze the way in which managers in Romania
perceive the system of corporate social responsibility of companies (CSR 4.0) in
accordance with the new concept of Industry 4.0. We resorted to the approach of
a statistical-mathematical analysis of quantitative type for data collection, using
the questionnaire as a research tool. In the stage of processing and analyzing
the collected data, we used the special statistical research software SPSS. The
main findings obtained from the research study highlighted the fact that there
is a causal correlation between the manifestation dimensions of CSR 4.0 and
the advantages of Industry 4.0. The originality and significance of the findings
consist in identifying the following correlations: economic dimension (CSR 4.0),
cost dimension (Industry 4.0), moral dimension (CSR 4.0), time dimension
(Industry 4.0), sociological dimension (CSR 4.0), flexibility dimension (Industry
4.0), political dimension (CSR 4.0) and the integration advantage (Industry 4.0).
Keywords: CSR 4.0; technology; Industry 4.0; production; advantages;
companies
JEL classifications: M14; P23
Insurance and Risk Management for Disruptions in Social, Economic and Environmental
Systems: Decision and Control Allocations within New Domains of Risk, 257–275
Copyright © 2022 by Emerald Publishing Limited
All rights of reproduction in any form reserved
doi:10.1108/978-1-80117-139-720211012
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1. Introduction
We are facing the fourth industrial revolution known as Industry 4.0. It is the subject
of many scientific and industrial fairs and conferences around the world. The slogan
“Industry 4.0” is also associated with the terms Internet of Things (IoT) and Industrial Internet of Things (IIoT). If we consider that in the last 15 years, the variety of
products has doubled while the life cycle has decreased by 25%, it is easy to imagine
that the development and manufacturing process has an increasing complexity and
requires new models and technological solutions to be able to meet customer needs.
We believe that from this point of view it can be said that Industry 4.0 has
emerged as a necessity for streamlining production processes. The exponential
technological advancement, manifested by the processing power, the storage
capacity and the multitude of developed applications have made the industry to
evolve up to this level.
We can say that regardless of the field of production, technological innovation
is essential for the future of any successful business. Industry 4.0 represents the
new wave in the technological evolution of production, pushing more and more
companies to meet the new standards set by a constantly changing market, by
transforming production units into smart factories. This aspect involves the use
of software that allows the integration of Computer Numerical Control (CNC),
the use of IoT technologies, Big Data & Analytics and the interconnection of
systems used in factories.
The digitization of production brings manufacturers into an area of high
competitiveness due to the transformation of factories into connected and
self-organized units. Such production centers have an increased efficiency by
manufacturing products in a shorter time and at lower costs, which automatically
determines a higher profit.
Gilchrist (2016) considers that to reach this level, however, two important
characteristics of industrialization must be taken into account:
the need for a good understanding of both business values
in relation to new technological solutions and the concept of
digitization of production and the actual adoption of the systems
that correspond to the Industry 4.0 paradigms.
Industry 4.0 a significant transformation of the entire industrial production by
unifying digital technologies and the Internet with conventional industry. Opinions are divided on the use of the terms revolution or evolution.
In Europe, the concept was launched and is supported by Germany through
government programs and top companies such as Siemens or Bosch. In America
the approach is more often called Smart Manufacturing, in China there is talk
of Made in China 2025 and in Japan Innovation 25. They all aim to develop an
industry that launches products faster, increases flexibility and increases resource
efficiency through digitization.
We can say that corporate social responsibility (CSR), from the perspective
of Industry 4.0, promotes the well-being of the company and less profitability
CSR 4.0 Dimensions
259
and the interests of the owners of the company. This type of behavior aims to
go beyond accepted business models, such as employee benefit schemes, philanthropy, sponsorships focused on certain causes and public relations strategies.
Taking CSR 4.0 seriously can lead to substantial changes for companies involved
in Industry 4.0, with possible consequences raising many concerns for the business environment.
Bakan (2005) believes that the Industry 4.0 is a concept with its own technical
standards, which everyone should follow. Industry 4.0 is a strategy to improve
technology, created by Europeans at the standards of the Industry 4.0. The Industry 4.0 Movement is a strategic and intentional approach for shaping the future,
while accessing an industrial revolution helps us understand what has already
changed and what are the trends in industrial change. By being actively involved
in shaping the future, by adopting a global strategy, we will be able to respond to
change better.
The decision-making problem from which we start in this research approach
is the answer to the following questions: What is the perception of managers in
Romania about the corporate social responsibility system (CSR 4.0)? What are
the major benefits of Industry 4.0 for manufacturing companies? Is there a correlation between CSR 4.0 and Industry 4.0?
Thus, the purpose of this chapter is to try to clarify how Romanian managers
from production companies perceive the CSR 4.0 in parallel with the concept of
Industry 4.0.
From a practical point of view, the results obtained in this chapter can
provide real support in making managerial decisions, generating a number of
contributions:
⦁⦁ They could help company managers find the necessary justification to invest in
the development of Industry 4.0 strategies, investments that can create, in the
long run, effects on CSR 4.0, such as trust, satisfaction, loyalty and devotion
to the company.
⦁⦁ They offer company managers a starting point in the form of answers to the
questions: Is CSR 4.0 a cost to the company or a long-term investment? What
are the main opportunities of Industry 4.0 that should be implemented by the
company?
⦁⦁ They certify that the effects of CSR 4.0 initiatives carried out by companies
also depend on several factors of Industry 4.0.
To all this is added the economic, technological, political and social context, as
well as the sociodemographic characteristics of consumers.
Although this chapter has a number of merits and contributes to the enrichment of general knowledge regarding the concept of CSR 4.0 from the point of
view of Industry 4.0 advantages, it also has a number of limitations, which corroborated with the empirical results obtained offers the possibility to investigate
new research directions.
One of the limitations of the research refers to the disadvantages offered by
the design and application of the online questionnaire, which does not allow
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the interaction with the respondents. In this regard, resorting the face-to-face
questionnaire could be a viable alternative to using e-mail.
Another limitation of the research refers to the limits imposed by the Google
platform in the design of the questionnaire. Thus, some inconveniences can
be mentioned: the impossibility of creating questions that would allow the
respondent to rank some criteria, the difficulty of preparing the questionnaire,
the impossibility of downloading it in an editable format.
Finally, a very important limitation was related to time. Thus, a longitudinal
research could have been more relevant in highlighting the relationships that can
be established, having as mediator CSR 4.0, between the advantages of Industry
4.0 and companies considered to be the most socially responsible, thus being able
to see how these relationships evolve depending on factors such as the economic
and social context.
2. Literature Review
The term Industry 4.0 first appeared in 2011, through a strategic initiative of the
German government. The aim of the initiative is to transform industrial production through digitization and exploit the potential of new technologies. In April
2013, the term Industry 4.0 reappeared at an industrial fair in Hanover, Germany,
and quickly became Germany’s national strategy. Industry 4.0 describes the trend
toward automation and data exchange in technologies and manufacturing processes that include cyber-physical systems, the IoT, the IIOT, cloud computing,
cognitive computing and artificial intelligence (AI) (Koh & Michael, 2019).
Dimitrov (2018) believes that from the economical point of view Industry
4.0 is a chance of recovery, production retrofitting and development of
business models for services and products. Politically and socially, the aim is
to reindustrialise Europe for sustainable development, after two decades in
which production was transferred to Asia and only one in 10 companies in the
EU has been able to manufacture. The European Commission has drawn up
a plan called the European Industrial Renaissance. In 2014, the value added in
production represented only 14.5% at EU level, and the growth plan projects
20% by 2021 (Gilchrist, 2016).
Propris and Bailey (2020) stated that Industrialization 4.0 is the fourth industrial revolution defined by CPS, IoT, cloud and AI. When we talk about production companies, Industry 4.0 involves a major transformation of the entire
production by unifying digital technologies and the Internet with conventional
industry. Thus, the basis of production automation and interconnection of its
processes is an integrated system of equipments, machines, employees, mobile
devices and IT systems, all of which being able to communicate with each other
both inside and outside the factory. The transition to Industrialization 4.0 makes
it possible to optimize all stages of the product life cycle, by digitizing factory
operations, which also means improving the position of producers on the market
(Matt, Modrák, & Zsifkovits, 2020). The transition from automated industry to
Industry 4.0 occurs in all industrialized countries, but at different paces and with
different expectations from country to country (Fig. 1).
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261
Fig. 1. The Transition from Automated Industry to Industry 4.0.
Source: Adaptation and processing after Barzotto, Corradini, Fai, Labory, and
Tomlinson (2020).
Latour (2007) points out that the decision-makers in such businesses have a
well-developed strategic direction for digital transformation, implementing software solutions tailored to their needs. Thus, it is understandable that businesses
that do not keep pace in this area, will not be able to compete with manufacturers,
who have decided to use software systems that reduce production costs and time,
while efficiency, quality and profit are increasing (Barzotto et al., 2020).
Consistent with Industry 4.0, the concept of CSR 4.0 is more and more
defined as common global goals, innovative partnerships and stakeholder involvement. The application mechanisms of CSR 4.0 include various panels of actors
involved, transparent reporting, a new wave of social entrepreneurship (Bakan,
2005). The combination of the terms corporation and responsibility can make
sense if we consider the corporation as a human organization, made to achieve
the goals desired by people that produces effects that are entirely attributable to
it. The third term of the construct – social – can mean both the society as a whole
and parts of it: social groups, communities, nations, employees of a company,
social networks, civil society, etc. In fact, as we will see below, the scope of the
term social makes the difference in defining the term corporate social responsibility
(Doppelt, 2003).
We believe that it is important for the study of CSR from the perspective of
Industry 4.0 to know the emergence and evolution of the two concepts:
For Frederick (2006) the definition of CSR is the central theme of several
papers. He links the concept of CSR to the historical evolution of American
society – to the social movements that have taken place over time and to the
way in which the business environment has changed in response to these challenges. At the same time, the author captures the evolution of the confidence that
the American public had in the business environment in the various periods analyzed. This parallel is extremely interesting, because it demonstrates a remarkable
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Anca Băndoi et al.
fact: the more the corporation has evolved, the lower the level of confidence of
the American population in the results generated by the business environment. A
moment that marked the fact that the social is taken into account in the definition of CSR, is the period of the 1950s and 1960s, characterized especially in the
United States by increasing economic and political power of corporations, a large
number of employees organized in strong unions, the desire to limit regulation
and state intervention in the market economy, the exercise of enlightened leadership by corporate leaders, the increase of the strength of professional managers
and their desires to obtain a favorable public image.
During the mentioned period, the first form of CSR appears, which Frederick
(2006) codifies in the formula CSR 1.0. In the case of CSR 1.0, companies have
an obligation to act to increase social welfare.
The term “obligation” is implicit and acts as a constant function
during all phases – central and peripheral – of the company’s operations. The obligation may be recognized and exercised by the company voluntarily or may be coercively imposed by the government.
CSR 1.0 as a vision does nothing but consacrate the paternalistic principle
of relationships with employees and communities, being an extension of the
noblesse oblige thinking. The purpose of corporations was to maintain constant
profits, constant revenues for employees and prevent new players from entering
the market, while public confidence in large companies being of 66% (Kotler &
Lee, 2005).
Industry 1.0 (1760–1840) refers to the first industrial revolution. During this
period, manufacture evolved from the focus on manual labor, performed by
humans and assisted by working animals, to a more optimized form of labor
performed by humans through the use of water engines, steam engines and other
types of machine tools. The progress of civilization has led to the invention of
several key inventions. The most important event took place in 1769, when Watt
invented his steam engine. The next inventions were a spinning machine and a
weaving machine, thanks to which the emerging companies managed to start
mass production in the textile industry. The rapid development of the metallurgical, mining and textile industries led to the development of machines. The steam
engine was used to build a steam locomotive and steam engines. Industrialization
covered not only England but also the United States and France, as well as other
European countries (Propris & Bailey, 2020).
Environmental, pacifist, anti-racist, feminist movements for consumer rights
and work ethic have led to the emergence of CSR 2.0: corporate social responsibility. CSR 2.0 is just a reaction of the business system – in contrast to CSR 1.0,
where we are dealing with an initiative coming from within the corporate governance system. Therefore, CSR 2.0 characterizes rather the management of the
organization and the relationship between the management of the company and
society, being a behavior characteristic of the 1970s, because it comes, as I have
already pointed out, as a response, as a reaction to social movements: the movement of the population of color for their rights, the ecological movement, the
CSR 4.0 Dimensions
263
emancipation movements of women, the movements of consumers; demonstrations against war and guns; and revolt against the authoritarian style of corporate
management (Goodpaster, 2007).
Industry 2.0 (1870–1914) is the second industrial revolution or better known
as the technological revolution. It was possible by the extensive railway networks
and the telegraph that allowed faster transfer of people and ideas. It is also
marked by the increasingly present electricity, which allowed the electrification of
the factory and the modern production line. In 1852, Lukasiewicz developed the
first methods of refining crude oil, which meant that it began to be used as fuel.
Thanks to the light bulb invented by Edison in 1879, electricity was popularized.
The next progress was the construction of a diesel engine by Diesel. Oil has displaced less useful and less calorific coal, and metallurgy of aluminum and copper
has developed (Dimitrov, 2018).
The CSR 3.0 stage – the social rectitude of corporations – appeared in the
1980s and 1990s, when the confidence of the American population in corporations had dropped to 28%. Thus, corporate policies and plans are undergoing a
transformation. Lack of regulation is at its peak. Managers of organizations can
hardly afford the luxury of not producing a certain level of profit for shareholders or investors (Doppelt, 2003). If the level of amortization of financing did not
meet the requirements expressed by the managers of mutual funds, pension funds,
sub-premium funds, private equity partnerships, the heads of companies were
changed (Crane, Matten, & Moon, 2008). CSR 3.0 marks the stage in which corporate policies and plans are characterized by an ethical culture, which includes
the fundamental moral principles of humanity; ethics becomes an essential part
of managerial decisions. The company hires only those managers who accept and
follow ethical principles in decision-making, master sophisticated methods to
detect and realistically anticipate ethical issues that arise during the exercise of
the activity and can realistically adapt to them (Boatright, 2007).
Industry 3.0 took place at the end of the twentieth century under the name of
digital revolution. It represented a huge progress, in front of which the appearance of computers and automation led the industrial scene. The great changes in
technology, science and industry that were initiated have been taking place since
the 1950s. A characteristic feature of this revolution is the close interdependence
of the changes introduced in all fields. The most important aspects of the third
revolution include computerization, the use of alternative energy sources, the
automation of work processes, the development of the production of synthetic
materials, as well as the improvement of means of transport and telecommunications (Dimitrov, 2018).
Since 2005 there is an awareness that companies are beginning to show about
the damage caused by their activities on the environment, so, following the pattern
already stated, we can consider the emergence of CSR 4.0 by the fact that many
companies have supported and signed the Rio and the Kyoto Protocol, marking
the awakening of ecological awareness of the business environment (Latour, 2007).
A careful analysis of the definitions shows that the forms of CSR correlate with
the spirit of the age and are not part of a broader movement to reposition the
relationship between the social and the economic (Boatright, 2007).
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Industry 4.0 is a concept in which processes, people and machines integrate to
increase production flexibility. The Industry 4.0 was initiated by several new technologies. It is possible to mention here the so-called Internet of Things or Industrial Internet of Things. The IoT is related to sending huge amounts of data and
advanced methods of processing them. Therefore, data analysis technologies (big
data) are being developed. The Internet has changed the industry, business, financial services, the media and our daily lives. The IoT through a global network, will
communicate with each other items and devices for daily use, such as refrigerators, washing machines and clothes. The industry will use its industrial version
or the IIoT. Global Internet coverage will result in increased interaction between
machines as well as between machines and people (Koh & Michael, 2019).
In conclusion, technology is, therefore, one of the main reasons why incomes
have stagnated or even declined for the majority of the population in high-income
countries. Demand for super-skilled staff has intensified, while the demand for
employees with a basic level of education has diminished. The result is a labor
market with strong demand at both ends, but with gaps in the middle segment.
In terms of future research directions, an assessment of the dimensions of CSR
4.0 from the perspective of Industry 4.0 benefits could be important research. At
the same time, it would be useful to create a scale for measuring these perceptions,
the literature being quite poor in this respect. Also, a longitudinal research could
provide a series of results that we would not be able to obtain otherwise, about the
impact of the benefits of Industry 4.0 on the dimensions of CSR 4.0.
3. Research Methodology
The aim of the research is to identify the way in which Romanian managers perceive the manifestation dimensions of CSR 4.0 through the perspective of the
main advantages brought by Industry 4.0.
CSR 4.0 can manifest itself in the form of four dimensions:
D1 – The economic dimension: Socioeconomic or financial aspects, including
the description of CSR 4.0 in business terms.
D2 – The moral dimension: CSR 4.0 is used, both to justify certain corporate
behaviors and, equally, as an argument of society members when they want
responsible behavior from the business environment.
D3 – The sociological dimension: This dimension refers to the social arguments, which can legitimize and lead to the explanation of the emergence and
development of CSR 4.0.
D4 – Political dimension: Specific measures on taxation, loans and bureaucracy and taking concrete action to support CSR 4.0.
The use of advanced manufacturing capabilities and IT tools throughout the production process, brings companies in the field of Industry 4.0 four major advantages:
A1 – Time: Data entry and planning of operations is done automatically – the
time saved can be allocated to activities that produce value to the company.
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265
In addition, employees become more productive in the context of an optimized
system, and orders are delivered faster.
A2 – Cost: The data are accurate and presented in the right context and
format – resulting in informed and well-documented decisions and, implicitly,
better cost and revenue planning.
A3 – Flexibility: Any change can be easily adopted due to flexible systems
open to new opportunities, which allows the optimization of processes based
on data analysis.
A4.Integration: The production process takes place with a small number of
interruptions, due to the integration of the systems used with the factory
resources (employees, machines and equipment), making possible the simultaneous development of the product and the manufacturing process.
Based on the purpose of the scientific research, the following objectives were
drafted through which the necessary information was identified.
The objectives of the research are:
1.
2.
3.
4.
Identifying the dimensions that define the concept of CSR 4.0.
Identifying the specific elements of the Industry 4.0 concept.
Analyzing the advantages of Industry 4.0.
Identifying the correlations between CSR 4.0 and Industry 4.0.
Based on studies and theories in the field of literature, the following hypotheses
were formulated:
H1. There is a strong correlation between economic dimension (CSR 4.0) and
cost (Industry 4.0).
H2. There is a very significant positive relationship between the Moral Dimension – CSR 4.0 and Time – Industry 4.0.
H3. Between the Sociological Dimension – CSR 4.0 and Flexibility – Industry
4.0 there is a very significant positive relationship.
H4. There is a very significant positive relationship between the Political
Dimension – CSR 4.0 and the Integration – Industry 4.0 advantage.
H5. The major advantages of Industry 4.0 are specific to the field of IT
production.
The research plan underlying the study involved the following steps:
Step 1 – Establishing the research community: Managers in Romania who perceive
CSR 4.0 activities.
Step 2 – Identification of the survey unit: It is represented by the managers of
companies from four production fields (from Industry 4.0): automotive, IT,
energy, and food – who perceive the activities of CSR 4.0.
Step 3 – Development of the questionnaire: Instrumental underlying the article
and using which the opinion of managers (within Industry 4.0) on CSR 4.0
was surveyed.
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To test the hypotheses, the questionnaire was divided into several sections:
1.
2.
3.
4.
5.
6.
Demographic characteristics.
Elements of the economic dimension of CSR 4.0.
Elements that define the moral dimension of CSR 4.0.
Elements that define the sociological dimension of CSR 4.0.
Elements that define the political dimension of CSR 4.0.
Elements of Industry 4.0.
A number of 512 valid questionnaires were obtained, which allows us to use
a large number of statistical techniques to analyze the data collected. Designing
and applying online questionnaire was made using Google Forms.
Step 4 – Determination of the sampling method: Simple random sampling was
used.
Step 5 – Exploratory quantitative analysis: Data collection took place between
December 2020 and February 2021.
In the processing, processing and analysis of the collected data, the special statistical research software Statistical Package for the Social Sciences (SPSS). The
benefits of Industry 4.0 are generated by multicriteria decision-making processes,
which we used in the study of the method of maximum global utility in order to
identify the most representative advantage that defines Industry 4.0. Modeling
seeks to make the most of the information base scientifically, and the procedures
for imitating the rational mode of decision-making are, in more or less elaborate
forms, the conceptual essence of models. The steps of the global utility method
are as follows:
Step 1. Build the utility matrix with elementele,
i = 1,…, r si j = 1,…, n.(1)
Each element of the matrix is calculated for the maximum criterion with the
expression:
xij = uij =
xij − xi min (2)
xi max − xi min
and for each criterion of minimum with the expression:
xij = uij =
xi max − xij (3),
xi max − xi min
where xij = the value of indicator i associated with indicator j; xi max = the minimum
value of indicator i; and xi min = the maximum value of the indicator i.
CSR 4.0 Dimensions
267
Step 2. Calculate the overall utility for each project as the sum of the products
in the element of the utility matrix (the column vector corresponding to the
project) and the important coefficient given for each indicator.
r
r
i =1
i =1
UG j = ∑ αi uij , where ∑ αi = 1 (4)
Step 3. Choose the project that corresponds to the maximum global utility.
max {UGj} ⇒ Vj, where j = 1,…,n(5)
For the division of some decision Vi variants (n variant) and for the selection
of the best one offered by the simultaneous consideration of several criteria of
appreciation (Cj, j = 1,…, n) and the global utility. Finding the best combination
of attributes (characteristics of a variant) forms the object of the multiattribute
problem.
This involves the transformation of all numerical values aij (expressed in associated units of measure) and qualitative characteristics into utilities uij, that is,
numerical values (adimensionale) located in the interval [0, 1]. The basic assumption in the correct function of the weighted sum method is the independence of
the criteria. The largest of the synthesis utilities indicates the best option.
Below are presented the results obtained after the development of the exploratory qualitative stage, respectively the analysis of the data collected with the help
of the questionnaire.
4. Results and Discussions
To validate H1–H4, we used the most common and by far the most useful, the
Spearman’s rho correlation coefficient, using the special statistical research software SPSS (Table 1).
Following the analysis of the Spearman’s rho correlation coefficient, we can
observe the following correlations between the different levels of CSR:
1.
There is a very large positive relationship between Economic Dimension –
CSR 4.0 and Cost – Industry 4.0 (rho = 0.97, df = 512, p < 0.001). From the
scatter plot (Fig. 2) it can be seen that the point spread is relatively limited,
which indicates a strong correlation (R2 = 0.81). The slope of the scattering
of the results is relatively straight, indicating a linear rather than a curvilinear
relationship. It can be stated that H1 has been validated.
CSR 4.0 is based on managerial responsibility – the initiatives it would
take anyway as part of the normal conduct of business, the reasons may be
other than market constraints, or they may reflect social pressures and ethical concerns. If organizational management were done in this way, the idea
of CSR 4.0 would take into account all groups or individuals that would
be affected by the activity of the corporation. Fluctuating stakeholders can
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Table 1. Spearman’s Rho Correlation Coefficient Values.
Advantages Industry 4.0
Dimensions of CSR 4.0
Economic
dimension
Cost
Flexibility Integration
correlation coefficient 337**
0.971** 0.237**
0.423**
Sig. (Two-tailed)
0.000
0.000
0.000
512
512
512
N
The moral
dimension
Time
512
Correlation coefficient 0.981** 0.434** 0.528**
0.614**
Sig. (two-tailed)
0.000
0.000
0.000
N
512
512
512
512
The
Correlation coefficient 0.334** 0.581** 0.964**
sociological Sig. (two-tailed)
0.000
0.000
dimension
N
512
512
512
0.611**
The political Correlation coefficient 0.423** 0.484** 0.495**
dimension Sig. (Two-tailed)
0.000
0.000
0.000
0.912**
N
512
512
512
0.000
512
512
Source: Developed by the authors based on the collected data.
** Correlation is significant at the 0.01 level (two-tailed).
Note: The bolded values of the Spearman’s Rho correlation coefficient play the role of highlighters of the absolute maximum value (degree of intensity) of the linear relationship between the
two variables.
Fig. 2. Dispersion Diagram – Correlation Between: Moral Dimеnsion (CSR 4.0)
and Timе (Industry 4.0).
Source: Developed by the authors based on the collected data.
CSR 4.0 Dimensions
2.
3.
269
decisively influence the outcome of CSR 4.0. The company must have a
strategy and even support programs for them. Offensive stakeholders can go
a long way in achieving CSR 4.0 goals, and there is little risk that they will be
threatening. However, changes in company behavior can trigger reactions in
their behavior. Cost (Industry 4.0) presents accurate data in the right context
and format needed to make informed decisions.
It can be seen from Table 1 that there is a very significant positive relationship between the Moral Dimension – CSR 4.0 and Time – Industry 4.0 (rho
= 0.98, df = 512, p < 0.001). The scatter plot (Fig. 3) reveals that the point
spread is relatively limited, indicating a strong correlation (R2 = 0.67). The
slope of the scattering of the results is relatively straight, indicating a linear
rather than a curvilinear relationship. It can be concluded that H2 has been
validated.
CSR 4.0 has developed as a metaphysical responsibility, because beyond
its own interest, due to the increase of the power that man and technology
have over life; man becoming dangerous, not only for himself, but for the
whole biosphere. Time (Industry 4.0): each employee becomes more efficient
when working in an optimized process. Engineers spend 31% of their working hours looking for information, which can be used for value-producing
activities.
Between the Sociological Dimension – CSR 4.0 and Flexibility – Industry 4.0
there is a very significant positive relationship (rho = 0.96, df = 512, p < 0.001).
Fig. 3. Dispersion Diagram – Between: Sociological Dimension (CSR 4.0)
and Flexibility (Industry 4.0).
Source: Developed by the authors based on the collected data.
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Anca Băndoi et al.
Fig. 4. Dispersion Diagram – Correlation Between: Political Dimension (CSR 4.0)
and Integration Advantage (Industry 4.0).
Source: Developed by the authors based on the collected data.
4.
In Fig. 4, the scatter plot reveals that the point spread is relatively limited,
indicating a strong correlation. The slope of the scattering of the results is
relatively straight, indicating a linear rather than a curvilinear relationship.
It can be stated that H3 has been validated.
In this process of transformation, Industry 4.0 could play the following
roles: demolition – breaking the old system; reform – improving the old
system through changes that will make it better and stronger; construction –
helps to develop growth points for a new society. Flexibility (Industry 4.0)
creates flexible systems ready for change and ready for new opportunities.
Analyzing the Political Dimension – CSR 4.0 and the Integration – Industry
4.0 advantage, a very significant positive relationship results (rho = 0.91, df
= 512, p < 0.001). The scatter plot (Fig. 5) reveals that the point spread is
relatively limited, indicating a strong correlation (R2 = 0.61). The slope of
the scattering of the results is relatively straight, indicating a linear rather
than a curvilinear relationship. In this sense, H4 was validated.
Table 2 presents the informational basis of the study, respectively the weight
of the importance it attaches to the management of each procedure regarding the
protection of personal data of human resources.
CSR 4.0 Dimensions
271
100
FOOD %
80
60
ENERGY %
40
AUTOMOTIVE
%
20
0
IT %
A1
A2
A3
A4
Fig. 5. The Weight of Industrial Advantages 4.0.
Source: Developed by the authors based on the collected data.
Table 2. The Importance of the Advantages of Industry 4.0.
Benefits
Industry 4.0
Field of Production Within Industry 4.0
IT %
Automotive %
Energy %
Food %
(v1)
(v2)
(v3)
(v4)
A1 (c1)
16.45
22.35
27.5
12.5
A2 (c2)
10.55
15.15
11.9
23.61
A3 (c3)
8.9
13.25
9.8
10.54
A4 (c4)
23.45
16
11.82
23.55
Source: Developed by the authors based on the collected data.
The results resulting from the management of Industry 4.0 take into account
the advantage of A4 – Integration (the production process takes place with a small
number of interruptions, due to the integration of systems used with factory resources,
equipment and employees) possible simultaneous product development and manufacturing process), and ultimately A3 – Flexibility (any change can be easily adopted due
to flexible systems open to new opportunities, which allow process optimization
based on data analysis) (Fig. 5).
Going through the calculation algorithm involved:
Step 1: Building the matrix of units with the elements xij (Fig. 6).
 0.26

1,00

 0,00

 0,99

0,66
0,65
1,00
0,36
1,00
0,90
0,21
0,00
0,00 

0,00 

0,38 
1,00 
Fig. 6. Matrix of Units.
Source: Developed by the authors based on the collected data.
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Anca Băndoi et al.
Table 3. Results of the Calculation of Global Units.
Global Utility
Result
IT
2.25
Automotive
2.66
Energy
2.10
Food
1.38
Source: Developed by the authors based on the collected data.
Step 2. Calculation of global utilities for each organization (Table 3):
Step 3. From Table 3 it is observed by the calculation of global utilities, the
highest global utility o production companies in the field of AUTO – so we
can say that H5 has not been validated.
Therefore, following the application of the calculation algorithm of the maximum global utilities method, it can be concluded that the organization in the field of
AUTO has best assessed the importance of the advantages brought by Industry 4.0.
5. Conclusions
Industry 4.0 cannot exist outside a nation-state, which gives it legal personality.
However, the phenomenon of globalization has placed the relationship between
corporations and nation-states, their political systems and civil society in general, in increasingly varied and complex relations. As the economic strength and
communication capacity of Industry 4.0 increases, so does its social influence.
Thus, not only managers but also Industry 4.0 are morally responsible. We can
no longer speak only of responsibilities toward the shareholders, but toward all
the groups that, directly or indirectly, contribute to achieving profit, as well as
toward the groups affected by the company’s activities. That is employees and
their families, suppliers, distributors and creditors, consumers, the local community, even society as a whole and future generations. Managers as well as Industry
4.0 are expected not only to generate a legal profit, but also not to harm others,
to minimize the inevitable harm in economic activities and to do good, identifying community problems in which to invest. All these responsibilities, beyond the
minimum moral, belong to what we call CSR 4.0.
Those companies that will continue to practice CSR 1.0 will lag behind
quickly. By contrast, the companies that will assimilate and implement CSR 4.0
will be the ones that will be able to collaboratively contribute to solving global
problems and, as a result, the market will reward their efforts. CSR 4.0 involves
the conscious assumption of an obligation arising from the role of citizen of the
planet, not only from individuals, but also from corporations or legal entities.
Although the concept of philanthropy and that of CSR are often equated, equality between the two phenomena can only be placed on the part of someone with
superficial understanding and knowledge.
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273
There are significant development opportunities for Romania in the context
of Industry 4.0. The direction of the industry is very clear. Data management and
security will be key issues to address. To realize the true potential of Industry 4.0,
companies need to plan for digital transformation. Manufacturers need to start
looking for and training the best talent with digital skills today and come up with
a clear plan for what the digital factory will look like. Companies need to understand the importance and urgency of digitization, both success and bankruptcy
will happen at very high speeds.
While Industry 4.0 is constantly evolving, we may not have a complete
picture until we look back 30 years. While many organizations may still be
denying how Industry 4.0 could affect their business, other companies are
already implementing changes and preparing for a future where smart cars are
improving their business.
Disruptive changes in business models will have a profound impact on the
labor market landscape in the years to come. The rapid pace of change will translate into distortions of current business models, which will lead to a permanent
need for new skill sets. In parallel, this will require concentrated efforts to adapt.
The future of gowns will be seriously influenced by the Industry 4.0 concept.
Certainly the skills required in the factories of the future will be different from
those of today. Many of the activities carried out today, service of production
machines, precision positioning, assembly, quality inspection will be performed
by robots. They are not only more efficient, but also communicate perfectly with
decision and control systems.
Along with the various advantages of Industry 4.0, there are also disadvantages related to technology when implementing machine automation practices:
1.
2.
3.
4.
5.
6.
Limited creativity: Production technology completely limits creativity due to
the abundance of automation/machines and the lack of employees in the
production facility. Employees are able to think about controversies while
counteracting a particular issue, while machines are optimized/set to perform
exactly as required, despite errors that may occur.
Unemployment growth: Unemployment has been a major concern for production since automation began to play a very important role. As manufacturing technologies have become predominant, there are many concerns
about what human labor means in production companies.
Contribution to environmental issues: Global warming is a major concern for
many people around the world – production being a substantial contribution to this. With production technology, which menas more equipment and
technologies that are built into production facilities, comes a greater impact
on the environment – mainly due to fuel sources such as gases and chemicals.
IoT Security: The IoT is a major concern. Companies are working to address
security gaps.
Technology implementation: Industry 4.0 requires considerable implementation time as well as industry-wide efforts.
They cannot perform complicated tasks: Although machines offer an increase
in quality and redundancy, current automation technology has failed to
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7.
8.
Anca Băndoi et al.
address the issue of complex production. People, at least for now, are the
only workers capable of performing customized or complex production
tasks.
High initial costs: While automatic machines will save you money in the long
run, they require a significant initial investment.
Requires maintenance and training: Current employees will need to be trained
to properly implement, operate and maintain automated systems to ensure
their continued operation.
The labor market will change, but it is difficult to estimate whether there
will be more or fewer jobs, as a whole. Robots are still in their infancy and
cannot replace humans in all activities. On the other hand, the rate of return
on investment in a fully automated factory is not attractive now. All forecasts
are based on historical data, but exponential technologies are completely new,
so the effect of evolution and widespread use is difficult to estimate. The risk
is to have massive unemployment for certain categories and the lack of staff
with digital skills.
The concept of CSR 4.0, however, remains vulnerable to those who deny
its strategic role and who advocate, in the event of a recession, to reduce the
costs involved in social investment. In order to face the critics, the concept of
CSR 4.0 must be analyzed and promoted from the perspective of the concrete
economic benefits it brings. This involves passing the most difficult test, that
of added value and profit. The need to test CSR 4.0 policies in terms of profit
has emphasized the need to measure their impact on the basis of quantitative
and qualitative indicators. Opinion polls and social and environmental audit
are the most effective methods of measuring the opportunity of social and environmental policies.
References
Bakan, J. (2005). The Corporation: The pathological pursuit of profit and power. London:
Constable.
Barzotto, M., Corradini, C., Fai, F., Labory, S., & Tomlinson, P. (2020). Revitalising lagging
regions: Smart specialisation and Industry 4.0. London: Routledge.
Boatright, J. (2007). Ethics and the conduct of business. Englewood Cliffs, NJ: Prentice
Hall.
Crane, A., Matten, D., & Moon, J. (2008). Corporations and citizenship. Cambridge:
University Press.
Dimitrov, K. (2018). Cyber Defence in Industry 4.0 systems and related logistics and IT
infrastructures. Amsterdam: IOS Press.
Doppelt, B. (2003). Leading exchange toward sustainability. Sheffield: Greenleaf Publishing
Ltd.
Frederick, W. (2006). Corporation, be good! The story of corporate social responsibility.
Indianapolis, IN: Dog Ear Publishing.
Gilchrist, A. (2016). Industry 4.0: The industrial internet of things. New York City, NY:
Apress.
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Goodpaster, K.E. (2007). Conscience and corporate culture. Oxford: Blackwell
Publishing.
Koh, C., & Michael, D. (2019). Industry 4.0: Navigating the manufacturing revolution in
ASEAN. Chicago, IL: Independently Published.
Kotler, P., & Lee, N. (2005). Corporate social responsibility: Doing the most good for your
company and your cause. Hoboken, NJ: John Wiley & Sons.
Latour, B. (2007). Reassembling the social: An introduction to actor-network-theory. Oxford:
Oxford University Press.
Matt, D., Modrák, V., & Zsifkovits, H. (2020). Industry 4.0 for SMEs: Challenges, opportunities and requirements. London: Springer Nature.
Propris, L., & Bailey, D. (2020). Industry 4.0 and regional transformations. London:
Routledge.
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Chapter 13
European Insurance Market Development
under the Economic Welfare: Advanced
Econometric Approaches
Mirela Cristea, Grațiela Georgiana Noja*,
Silviu-Valentin Cârstina and Elena Sorina Caragiani
Abstract
Purpose: The connection between insurance and the degree of economic development of countries has been long studied in the literature, being argued
that they are potentiating each other. Against this background, the objective
of this chapter is to appraise the way in which the insurance activity, overall,
and, distinctively, considering only the life insurance field, is interconnected
with the economic development of the European Union (EU) Member States.
Method: In order to assess the insurance development, we considered
the insurance density and penetration degree indicators (total and life
insurance), and, for the wellbeing dimension, we applied the Human
Development Index (HDI), associated with other economic indicators.
The research methodology consists of an advanced econometric procedure, namely macroeconometric models – robust regression, for the period
2007–2019.
Findings: The results obtained highlight significant positive associations
between insurance development and wellbeing at the level of EU countries.
Originality and Significance of Findings: This research considers an integrative indicator that measures the wellbeing dimension, including the human
factor (HDI), in addition to the economic development degree, that has not
been addressed so far in the literature, which reveals the originality of this
study. Thereby, adjusted policies and strategies developed to sustain the
* Grat‚iela Georgiana Noja (gratiela.noja@e-uvt.ro) is the corresponding author.
Insurance and Risk Management for Disruptions in Social, Economic and Environmental
Systems: Decision and Control Allocations within New Domains of Risk, 277–289
Copyright © 2022 by Emerald Publishing Limited
All rights of reproduction in any form reserved
doi:10.1108/978-1-80117-139-720211013
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main components of HDI (education, life expectancy and living standards)
became paramount keystones in order to promote insurance development.
Keywords: Insurance; European Union; wellbeing; human development;
econometric approach; human factor
JEL classifications: G22; I31; O15
1. Introduction
The insurance market, by the side of reducing the degree of uncertainty of the
manifold risks that may arise, grasps a significant role in the development of a
country, in particular, through the financial function held in the life insurance
field and by the investments on the financial market (Apergis & Poufinas, 2020).
Within developed countries, insurance represents a part of the education and tradition, while in developing states, the insurance activity is not very representative
among people’s needs (Cristea, Marcu, & Cârstina, 2014).
The structural analysis of the activity sectors at the European level in 2020
indicates that the financial and insurance activity accounted a share of 14.5% of
the total sectors, ranking on the second place at the European Union (EU) level,
while on the first position was placed the banking sector (EIOPA, 2020). These
facts and figures entail the potential of this market for economic development. In
terms of the main indicators that reveal the size of the insurance market, namely
the degree of penetration of insurance in the gross domestic product (GDP) and
the density degree (that highlight how much an inhabitant pays, on average, over
a year, for the purchase of insurance), at the EU Member States (MS) there are
significant differences from one country to another.
With regard to the interlinkages between insurance and economic growth
(for which the GDP was used as proxy), there are numerous studies (Apergis
& Poufinas, 2020; Ege & Sarac, 2011; Mohy Ul Din, Regupathi, & Abu-Bakar,
2017; Outreville, 2013; Ozen & Grima, 2020) that substantiated these connections, both for the total market, and of each insurance segment (life and non-life),
but an integrative indicator, which also encloses the human factor (such as the
Human Development Index – HDI), was not addressed so far in the literature.
On this frame of reference, the objective of our research is to assess how the
insurance activity, on the total and, in particular, in the field of life insurance, is
interconnected with the economic welfare (including human dimensions on economic development) of the EU MS, and to propose specific policies and strategies
for enhancing insurance and economic wellbeing. Thereby, our objective follows
two research hypotheses, namely to appraise the interlinkages between total
insurance market dimensions and the welfare level of the EU-27 countries, on the
one hand, and, in particular, the connections between life insurance attainment
and the degree of welfare of the EU-27 MS, on the other hand. The analyzed
lapse of time is 2007–2019, and the methodology consists in applying macroeconometric models, namely robust regressions. Different to previous studies, the
European Insurance Market Development
279
originality of our study is brought by including human components for welfare
measure, in relation to insurance dimensions. Main results are expected to provide the underpinnings for specific policies and strategies advanced to promote
insurance activity in relation to economic wellbeing.
The structure of this chapter comprises five sections, which, together with
the introduction part, contains a brief review of the literature, aiming the interconnection of the insurance with the wellbeing, followed by the description of
the data used in this research and the methodology applied. Then follows the
description of the obtained results, accompanied by discussions related to those
obtained by other authors and conclusions.
2. Literature Review
The interconnection between insurance and the economic development degree of
countries has long been studied in the literature, proving that they are mutually
reinforcing.
Accordingly, regarding the interconditionality between insurance and economic growth, it is acknowledged that the engine of progress and development
of countries is achieved through economic and social levers, which enclose also
instruments of market of insurance (Kessler, Montchalin, & Thimann, 2017;
Mohy Ul Din et al., 2017).
The direct favorable link between insurance and the degree of economic
development has been demonstrated in all regions of the world. Ege and Sarac
(2011) explored the correlation between economic growth, reflected by the GDP
growth rate, and the insurance market, highlighted by the growth rate of gross
collected premiums, at the level of 29 countries of the Organisation for Economic
Co-operation and Development (OECD), revealing the existence of a close direct
linkage between growth potential of the insurance market and the economic
growth. Alhassan (2016) withal substantiated the long-term direct and mighty
connection between the insurance market activity (measured by the degree of
penetration in GDP) and economic growth in eight of African countries.
Another study (Ghosh, 2013, p. 31) that assessed the connection between
insurance and economic growth, expressed by GDP, proved the favorable impact
that insurance has on economic growth in India, “through financial intermediation, risk aversion and generating employment.”
Mohy Ul Din et al. (2017) have analyzed the effects of insurance on economic
growth in three types of countries (developed, emerging and developing states),
namely the USA, the UK, China, India, Malaysia and Pakistan, for the period
1980–2015, dividing their economy in different phases. Following the analyzes
performed, they concluded that there is a positive and significant relationship
between life insurance, non-life insurance, trade openness, the development of the
stock market and long-term economic growth. The results showed a strong and
positive correlation between non-life insurance and short-term economic growth
in developed and emerging countries, the intensity of the correlation declining to
a significant level for developing countries.
The analysis undertaken by Chen, Lee, and Lee (2012, p. 865) highlighted
that there is a favorable link between life insurance and economic growth, and
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Mirela Cristea et al.
the factors influencing the conditioning between the insurance market and economic growth in a country are “the degree of financial development, private saving rates, interest rates, social security expenditures, income, young dependency
ratio, life expectancy, and geographic regions.”
At the European level (Haiss & Sümegi, 2008), for 29 countries (1992–2005),
insurance is measured by their investments and share in GDP, and economic
growth by GDP growth rate. For the old EU states (EU-15), there is a positive
relationship between life insurance and economic growth, while for the new EU
MS, the biggest impact was highlighted for liability insurance.
Cristea et al. (2014) proved a significant correlation, for Romania, only for the
indicators of the degree of penetration and the degree of density of insurance, on
the one hand, and GDP per capita, on the other hand. However, when the growth
rates of the two components were considered, the correlation was not verified.
Zerriaa, Amiri, Noubbigh, and Naoui (2017), analyzing the determinants of
life insurance in Tunisia, for the period 1990–2014, proved that the demand for
life insurance increases with people’s earnings and financial development. However, other economic variables, such as inflation and interest rates, do not influenced life insurance consumption in Tunisia. Socio-demographic variables, such
as old dependency ratio, life expectancy at birth and the level of urbanization of
the country stimulate the demand for life insurance, while the level of education
decreases it. Akhter, Pappas, and Khan (2020), referring to insurance demand
in Asia and OECD countries, have shown that the coronavirus pandemic has
negatively affected general insurance demand, especially in high-income regions.
Education positively influences the demand for insurance in Asia, so a higher
literacy rate can help attracting potential customers in insurance.
Therefore, there are a number of studies on the interlinkages between insurance, on the total, but also on each segment (life and non-life), and economic
growth, for which GDP was used, but an integrative indicator, which to enclose
the human factor was not previously addressed in this interconditionality.
3. Data and Methodology
To achieve our objective, namely, to assess the interplay between insurance activity, with a particular focus on life insurance field, and the economic welfare at the
level of EU-27 countries, we have considered two main categories of indicators,
related to insurance market and wellbeing, as follows:
⦁⦁ Insurance market indicators: Degree of insurance penetration, for total activity
(IP_t) (% of GDP), insurance density, for total market (ID_t) and life insurance (ID_l) (USD/capita) (extracted from Swiss Re Institute (2008–2020)).
⦁⦁ Welfare indicators: HDI (ranking 0–1), education index (E_I) (values 0–1), life
expectancy index (LE_I) (values 0–1), from the database of the United Nations
Development Program – UNDP (2021); GDP per capita (GDP_C) (constant
prices 2010, USD) – data extracted from The World Bank (2021); poverty rate
(Pov) (%), employment rate for age segment 20–64 years (ER_20_64) (%), net
earnings of a couple with two children (ERN) (purchasing power parity) and
inflation (Inf) (%), from the database of the European Commission (2021).
European Insurance Market Development
281
According to data availability, the analyzed period is 2007–2019.
With regard to the insurance market dimension in 2019, it is observed that
the countries with the largest insurance contributions in GDP (Fig. 1a) were the
old EU MS (developed countries), with the highest contribution of Denmark
(10.68%), followed by Finland, the Netherlands and France, and the lowest ones
in the new EU countries, namely Romania (1.16%) and the Baltic States (Lithuani, Estonia and Latvia). Regarding the average amount paid over a year by a
person for insurance (Fig. 1b), the values oscillate between a maximum of 6,384
USD/capita, in Denmark, and a minimum of 135 USD/capita, in Romania. In
terms of life insurance, the amount paid by an inhabitant over a year for insurance agreements the range was between 17.7 USD/capita in Latvia and 4.757
USD/capita in Denmark (Fig. 1c).
The HDI, as a representative welfare indicator, developed by the United
Nations Development Program (2021), depicts a composite index that integrates
Fig. 1. Insurance Market Indicators, EU-27, 2019: (a) IP_t; (b) ID_t; (c) ID_l.
Source: Authors processing in R, based on Swiss Re Institute data (2008–2020).
Note: AT, Austria; BE, Belgium; BG, Bulgaria; HR, Croatia; CY, Cyprus; CZ, Czech
Republic; DK, Denmark; EE, Estonia; FI, Finland; FR, France; DE, Germany;
GR, Greece; HU, Hungary; IR, Ireland; IT, Italy; LV, Latvia; LI, Lithuania; LU,
Luxembourg; MT, Malta; NL, Netherlands; PL, Poland; PT, Portugal; RO, Romania;
SK, Slovak Republic; SL, Slovenia; ES, Spain. Values interval: (a) 1.16–10.68 (%);
(b) 135–6384 (USD/capita); and (c) 17.7–4757 (USD/capita).
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Mirela Cristea et al.
the human factor, not only the economic development dimension. Thereby, HDI
includes the evaluation of three dimensions, namely: “long and healthy life,”
measured, primarily, by life expectancy at birth; knowledge acquiring by education; and living standard, assessed by Gross National Income per capita (United
Nations Development Program, 2021). Nevertheless, HDI does not reveal other
dimensions of human development, such as poverty, integration on the labor
market, inequalities or other life keys aspects.
The economic welfare at the level of EU-27 in 2019, measured by HDI, discloses ranks between 0.816 (Bulgaria) and 0.955 (Ireland) (Fig. 2a). The higher
values of the human development across the EU-27 were registered, also in developed countries, while the lowest, in developing ones, countries from Central and
Eastern Europe. With regard to GDP per capita (Fig. 2b), the most common
indicator used to measure the economic development of a country, the situation
is almost similar to those of HDI results, the most significant welfare being registered in Ireland (118,586 USD/capita), and the modest one in Bulgaria (8,861.9
USD/capita), subsequent to Romania, Hungary and Latvia.
The composition of the HDI reflects more wider values for long and healthy
years (Fig. 3b), enclosed between 0.816 (Bulgaria) and 0.955 (Ireland) (being in
line with aggregated values of HDI) than the education index (Fig. 3a), grasped
between 0.765 (Romania) and 0.943 (Germany).
The summary of descriptive statistics of the variables used in this research is
shown in Table 1. It can be observed significant discrepancies among countries
and years included in the analysis lapse of time, with large gap between minimum
Fig. 2. Welfare Indicators, EU-27, 2019: (a) HDI; (b) GDP_C.
Source: Authors processing in R, based on UNPD (2021) and The World Bank
(2021) data. Note: AT, Austria; BE, Belgium; BG, Bulgaria; HR, Croatia; CY,
Cyprus; CZ, Czech Republic; DK, Denmark; EE, Estonia; FI, Finland; FR,
France; DE, Germany; GR, Greece; HU, Hungary; IR, Ireland; IT, Italy; LV,
Latvia; LI, Lithuania; LU, Luxembourg; MT, Malta; NL, Netherlands; PL, Poland;
PT, Portugal; RO, Romania; SK, Slovak Republic; SL, Slovenia; ES, Spain. Values
interval: (a) 0.816–0.955 (index); (b) 8,861.9– 18,586 (constant 2010 USD).
European Insurance Market Development
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Fig. 3. Welfare indicators, EU-27, 2019: (a) E_I; (b) LE_I.
Source: Authors processing in R, based on the UNDP (2021) data. Note: AT,
Austria; BE, Belgium; BG, Bulgaria; HR, Croatia; CY, Cyprus; CZ, Czech
Republic; DK, Denmark; EE, Estonia; FI, Finland; FR, France; DE, Germany;
GR, Greece; HU, Hungary; IR, Ireland; IT, Italy; LV, Latvia; LI, Lithuania;
LU, Luxembourg; MT, Malta; NL, Netherlands; PL, Poland; PT, Portugal; RO,
Romania; SK, Slovak Republic; SL, Slovenia; ES, Spain. Values interval: (a) 0.765–
0.943 (index); (b) 0.816–0.955 (index).
Table 1. Descriptive Statistics of the Variables, EU-27, 2007–2019.
Indicators
N
Mean
SD
Minimum Maximum
GDP per capita (GDP_C) 675
30,358.38 21,036.22
3,781.9
118,586
Earnings (ERN)
675
40,994.92
35,134.3
−74,215.2
311,052
Insurance penetration
total (IP_t)
346
5.315838
2.939694
1.09
13.6
Insurance density total
(ID_t)
318
2,230.101 1,881.167
107.2
7,171.4
Life insurance density
(ID_l)
318
1,316.59
1,316.041
17.7
5,715.1
Human Development
Index (HDI)
650
0.8469246 0.0559244
0.68
0.955
Poverty (Pov)
419
24.17971
7.965716
12.2
61.3
Employment rate, 20–64
years (ER_20_64)
630
68.75746
6.202115
51.7
82.4
Education index (E_I)
650
0.7918769 0.0785192
0.558
0.943
Life expectancy index
(LE_I)
650
0.8469246 0.0559244
0.68
0.955
Inflation (Inf)
638
3.33605
−1.7
154.9
N
675
Source: Authors processing in Stata.
7.733597
284
Mirela Cristea et al.
and maximum levels, and means more nearer to the minimum interval limit, for
all considered variables.
To ensure the stationarity and adequate comparability among variables, the
data were adjusted by the logarithm procedure.
The research methodology grasps robust regression models (RREG), applied
for the entire panel of the EU-27, for the period 2007–2019. We built six RREG
models, comprising two series of independent variables for each considered
dependent variable, namely: the degree of insurance penetration, on total market
(IP_t), insurance density, on total market (ID_t) and insurance density for life
insurance class (ID_l). The independent variables, associated with each dependent variable, consist of: HDI and other welfare variables, on the one hand, and
HDI components (education index, life expectancy index and GDP per capita),
together with the other welfare variables, on the other hand. RREG models are
presented in equations (1) and (2).
log_IP_t/log_ID_t/log_ID_l = δ + β1log_ERN + β2HDI + β3log_Pov(1)
+ β4log_ER_20_64 + β5Inf + θi + λt + ε
log_IP_t/log_ID_t/log_ID_l =δ+β1log_ERN + β2log_GDP_C + β3log_Pov
+ β4log_ER_20_64 + β5E_I + β6LE_I + β7Inf(2)
+ θi + λt + ε
where δ and β are the parameters that need to be estimated; ε – stochastic element;
and θi and λt – variables accounting for spatial and time effects.
We put up our investigation for testing the following research hypotheses:
H1. The dimensions of the total insurance market at the level of EU-27 MS
are influenced by the welfare level of the countries.
H2. Life insurance attainment is influenced by the degree of welfare of the
EU-27 countries.
4. Results and Discussions
In order to assess two research hypotheses, we have firstly assayed the influence
of welfare degree of all EU-27 MS, measured by the HDI, people’s earnings,
poverty, employment and inflation over insurance market dimensions (insurance
penetration and insurance density). Accordingly, we have obtained (Table 2) a
first set of three RREG models for each considered dependent variable, namely:
total insurance penetration degree (IP_t) (model 1); total insurance density
(ID_t) (model 2); and life insurance density (ID_l) (model 3).
The appraisals foreground that over 50% of the variation in the insurance
contribution to GDP creation (Table 2, model 1, the determination coefficient is
0.530), over 77% of total insurance density (Table 2, model 2, the determination
coefficient is 0.774) and almost 73% of life insurance density (Table 2, model 3,
the determination coefficient is 0.728) may be rendered by the variation of the
welfare selected variables.
European Insurance Market Development
285
Table 2. Results of RREG Models, Considering HDI Dimension, at EU-27
MS, 2007–2019.
Variables
log_ERN
HDI
log_Pov
log_ER_20_64
Inf
_cons
N
R2
(1)
(2)
(3)
log_IP_t
log_ID_t
log_ID_l
0.198***
0.959***
1.154***
(0.0550)
(0.114)
(0.167)
7.450***
15.23***
20.32***
(1.018)
(1.506)
(2.213)
−0.269*
−0.348*
−0.580*
(0.112)
(0.156)
(0.229)
0.216
−0.490
−1.851***
(0.269)
(0.372)
(0.547)
0.0113
0.0695***
0.0787**
(0.0124)
(0.0182)
(0.0268)
−7.233***
−13.31***
−14.12***
(1.414)
(1.982)
(2.914)
326
297
297
0.530
0.774
0.728
Source: Authors processing in Stata.
Note: Standard errors in parentheses: *p < 0.05, **p < 0.01, ***p < 0.001.
The results substantiate that the size of the European insurance market,
measured by the penetration degree (Table 2, model 1) and insurance density
(Table 2, model 2) are favorably influenced by the degree of human development
(HDI), the earnings obtained by people (ERN) and the mitigation of poverty
(Pov). The results are in line with those obtained by Alhassan (2016) highlighted
a long-term relationship between insurance penetration and economic growth
in African countries, and Zerriaa et al. (2017) revealed a positive influence of
earnings on demands of life insurance in Tunisia. Inflation (Inf), also, acts as
a would-be positive factor for people’s contributions for buying the insurance
(model 2). However, these increases in insurance allowances could be due to the
devaluation of the purchasing power of money, induced by inflation.
As for the life insurance attainment (Table 2, model 3), the results attest
significant positive implications of earnings, human development, poverty and
inflation (higher than those obtained for the total insurance market – model 2),
on the one side, and negative one for the employment rate of people aged 20–64
years (ER_20_64). The results are related to those obtained by Haiss and Sümegi
(2008), which measured the economic development of the European countries
by GDP growth rate and insurance dimensions, by insurance penetration and
insurers’ investments, for the period 1992–2005.
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Mirela Cristea et al.
Table 3. Results of RREG Models, Considering HDI Components, at EU-27
MS, 2007–2019.
Variables
(1)
(2)
(3)
log_IP_t
log_ID_t
log_ID_l
−0.0323
−0.108
−0.211
(0.0582)
(0.0798)
(0.125)
0.204
1.204***
1.561***
(0.110)
(0.128)
(0.201)
−0.192
−0.199
−0.425*
(0.101)
(0.114)
(0.178)
0.461
0.631*
−0.474
(0.250)
(0.283)
(0.443)
−4.250***
−3.444**
−5.956**
(0.962)
(1.185)
(1.855)
11.04***
10.47**
15.22**
(2.727)
(3.257)
(5.099)
Inf
0.00619
0.00677
−0.0217
(0.0116)
(0.0140)
(0.0219)
_cons
−7.744***
−12.44***
−12.42***
(1.272)
(1.423)
(2.228)
326
298
298
log_ERN
log_GDP_C
log_Pov
log_ER_20_64
E_I
LE_I
N
2
R
0.623
0.878
0.838
Source: Authors processing in Stata.
Note: Standard errors in parentheses: *p < 0.05, **p < 0.01, ***p < 0.001. E_I omitted because
of collinearity.
Considering the components of HDI, namely education and life expectancy,
along with GDP per capita (as main measure of economic development or
people’s living standard), earnings, poverty employment rate and inflation, we
have generated a 2nd set of RREG models for each considered dependent variable
(Table 3), namely: total insurance penetration degree (IP_t) (model 1); total
insurance density (ID_t) (model 2) and life insurance density (ID_l) (model 3).
We found that over 62% of the variation in the insurance contribution to GDP
creation (Table 3, model 1, the determination coefficient is 0.623), almost 87% of
total insurance density (Table 3, model 2, the determination coefficient is 0.878) and
almost 84% of life insurance density (Table 3, model 3, the determination coefficient
is 0.838) can be reflected by the variation of the welfare selected variables.
European Insurance Market Development
287
The results (Table 3) show that earnings (ERN) do not have any conclusive
influence over the insurance market dimensions (total or life insurance), while
GDP per capita (GDP_C) acts as a favorable factor for insurance density, both
of the total market (model 2) and more pronounced for the life sector (model 3).
Poverty mitigation (Pov) induces higher allocations of financial resources for life
insurance (model 3), while employment rate of population aged 20–64 years, consistent financial orientation for all types of insurance (model 2). The education
component (E_I) of HDI was omitted due to multicollinearity, while long and
healthy life, measured by life expectancy index (LE_I) positively influences the
insurance penetration and density, more marked for life insurance field (model
3), being similar with results obtained by Zerriaa et al. (2017), which revealed that
life expectancy at birth supports the demand for life insurance, while the level of
education decreases this component.
Based on these results, H1 and H2 are validated.
5. Conclusion
This research reveals that, at the level of all EU-27 MS, the size of the insurance
market, in total, but also in the life insurance segment, is influenced by the degree
of human economic development.
As such, to stimulate the connection of insurance-human economic development, we recommend the following intervention policies: improving the level
of financial education of the population in all countries, especially in developing countries; measures to support jobs in key sectors, to increase the employment rate, especially in the current pandemic period caused by SARS-COV-2
infection, with an impact on poverty reduction and GDP per capita increasing;
ensuring a policy for a long and healthy life, but also for the achievement of
knowledge, by increasing the participation rate in education, while reducing
school dropout.
The main constraints of this research consist in the limited availability of data
series, hence a part of the empirical results registered no statistical significance
for the estimated coefficients. Another shortcoming consists in building in this
research only for one panel comprising all EU-27 countries. Therefore, the future
research will focus on revealing dissimilarities among EU countries in terms of
insurance and wellbeing, with distinctive assessment on panel groups of EU MS,
developed and developing ones, including additional socioeconomic variables
and advanced econometric procedures.
Acknowledgments
This work was supported by the grant POCU380/6/13/123990, co-financed by the
European Social Fund within the Sectorial Operational Program Human Capital
2014–2020.
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Index
AA1000 Standard, 199
Accountability, 234
Ad hoc stress tests, 35
Administrative Law principles, 158
Agency cost theory, 121
Agency theory, 228
Agenda for Sustainable Development
(2030), 167
Aggregation techiniques, 156
“All or nothing” approach, 51
Artificial intelligence (AI), 260
Autocorrelation, 136
Bajada Carmel et al. v. Middle Sea
Insurance Company
Limited, 53
Bank, 236–237
markets, 237
regulations, 237–238
supervision during pandemic,
34–35
Best-shot, 156
BIST-100 index, 84, 87, 90
Borg Alfio v. Fogg Insurance Agencies
Limited, 58–59
Borsa İstanbul (BIST), 125
Brand
recognition, 200
strength, 213
trust, 110
value, 229–230
#BREAKFREEFROMPLASTIC
(BFFP movement), 5
British rule in Malta, 40
Brotherton v. Aseguradora Colseguros
SA, 51
Bucharest Stock Exchange (BVB),
111
Business continuity, 109
C. N. T. E. E. Trans Electrica, 113
Camilleri Bertu v. Bartoli Harold Et
Nomine, 46
Capital movements, 87
Capital structure decisions, 119
autocorrelation tests results related
to models, 136
correlation coefficients of
independent variables, 133
data and methodology, 125–130
descriptive statistics, 146
empirical results, 130
F-probability values, 137
financial failure, 118–119
and financial failure risk, 119–122
financial failure score, 140
literature review, 122–124
models and hypotheses, 131
panel data analysis results, 139
panel unit root tests results,
147–148
results of cross-sectional
dependence and
homogeneity tests, 135
results of estimator selection tests,
138
unit root tests for homogeneous
series, 134
Carter v. Boehm, 50
Case law, 42
Civil Code, 40, 59
Civil Service Code (2010), 160
Classical approach, 227
Classical capital structure theory, 120
Climate change, 5, 192, 208, 217–218,
222
Commercial Code, 40
Communicative behavior, 244, 248
Company sustainability, 212, 225
292
Index
Compilation of Federal Ethics Law
(2021), 160
Computer Numerical Control (CNC),
258
Conpet S. A., 114
Consumer behavior in new economic
reality
aim, 68
economic aspects and perspectives,
75–78
method, 68–69
person-centered care model,
72–75
personalized medicine and personcentered care, 70–72
potential of PM, 69–70
Consumer Confidence Index (CCI),
83
Consumer Insurance (Disclosure &
Representations) Act, 42,
51–52
Consumer Insurance Contracts Act,
58
Consumer price index (CPI), 84
Content analysis, 110
of official documentation, 12–13
of selected documentation, 1, 3
Control variable, 125–126
Corporate governance approach, 225
Corporate ignorance, 213
Corporate philanthropy, 200–201
Corporate social performance,
198–201
Corporate social responsibility (CSR),
110, 258
application mechanisms, 261
CSR 1.0, 262
CSR 2.0, 262
CSR 3.0, 263
CSR 4.0, 259
emergence, 263
and reporting, 114
research methodology, 264–267
results, 267–272
study, 261
Corporate sustainability, 186–190,
220–229
Cost of capital, 214
Cost reduction, 77
Countercyclical capital buffer to
banks, 35
Country governance indicators,
237–238
COVID-19 pandemic, 6, 30–31, 108,
150
crisis, 238
and dilemmas in provision of
public services in G20s,
160–167
Credibility, 234
Cross-sector collaboration (CSC), 2,
9–11
Cross-validation (CV), 93
Culture, 242–243
Decision-making area of financial
managers, 119
Degiorgio Charles noe v. Austin Agius
et, 48
Deposit insurance, 240
Descriptive statistics, 130 146
Determinations coefficient (R2), 90
Dialectical systems theory, 241
Discriminant analyses, 122
Domestic retail oil price, 84
Dow Jones Sustainability Indices, 109
Duty on insurer, 53
Earnings (ERN), 287
ECB, 238–239
Eco-management and Auditing
Scheme (EMAS), 192–193
Economic
factors, 212–213
growth, 82
power, 5
risk, 108
sustainability, 190, 211, 220
Economist Intelligence Unit (EIU),
191
Index
Elmo Insurance Services Ltd noe. v.
Edwin Pace et, 46
Elmo Insurance Services noe. v. Edwin
Pace et, 59
Energetica Electrica S. A., 114
English Law, 42
of insurable interest, 57
Enterprise, 242
credibility strategy, 243
governance, 242
implications for financial
institutions, 247–249
policy, 235, 240, 242–243
research, 243–247
sustainability, 212
Enterprise risk management (ERM),
108–109, 227
(see also Sustainability risk
management (SRM))
literature review, 109–111
methodology, 111–112
results, 112–114
Enterprise sustainability risk
management (ESRM), 225,
228
Environment Resource Authority
(ERA), 7
Environmental, social and governance
(ESG), 108, 249
Environmental audit(ing), 193–194
Environmental concerns (EC), 210
Environmental management
system, 192–193
tools, 186, 191–196
Environmental risks, 224
Environmental sustainability, 188,
211, 220
Equity/total debt (E/TD), 122
Ernst & Young (EY), 197
Ethic(al), 242–243
behavior, 234
culture, 263
Ethical Standard for Providers of
Public Services (ESPPS),
160
293
European insurance market
development
data and methodology, 280–284
literature review, 279–280
results, 284–287
European Ombudsman (EUO), 160
European Policy Framework, 69
European Union (EU), 3, 278
Harmonization, 41, 47, 61
interview responses, 61–62
Excessive debt
financing, 120
level, 120
Exchange rate (INF), 82–83, 84
External equity (EXE), 121
F-test, 137
Fair presentation, 54–55
Finance firms, 31
Financial crisis (2008), 125
Financial failure, 118–119
capital structure and, 119–122
models, 121
representatives and formulas,
127–128
risk, 121
score, 140
Financial Information News
Network, 129
Financial institutions, 30
challenge and viewpoint, 234–235
methodology, 241–242
research of values, culture, ethics
and norms, 242–243
stimulates financial institutions to
provide more credit, 33
strategy of enterprise’s credibility,
243–249
theoretical backgrounds, 235–241
Financial managers, 119, 121
Financial markets, 30, 82
Financial reforms, 237–238
Financial regulation
approach to bank supervision
during pandemic, 34–35
294
Index
approach to financial regulation
during pandemic, 32
delay recognition of significant
increase in credit risk, 33
diversify financial system, 32
literature review, 30–32
lower reference interest rate to
boost economic activities,
33
maintaining adequate liquidity in
financial system, 32–33
providing stimulus packages to
general economy, 34
stimulate financial institutions to
provide more credit, 33
Financial risk, 108, 223
Financial sector policy, 31
Financial stability, 238, 248
Financial statements, 109
Financial system, 31
diversify, 32
maintaining adequate liquidity in,
32–33
FinTech industry, 236
First-mover advantage, 235
Fiscal policy measures, 31
Fisher hypothesis, 83
Five-dimensional approach to
sustainability assessment,
219
Fixed effects model, 130, 137
Flexible supervisory framework, 34
Food, 125
chain, 2
companies, 125, 141
companies and stock exchange
codes, 126
financial statement data of, 141
Fossil fuels economy, 5
Fraudulent claims, utmost good faith
and, 53
G20 countries, 151
COVID-19 pandemic and
dilemmas in provision of
public services in, 160–167
and provision of public goods and
services, 156–160
G250 code, 197
G4 guidelines, 110
GDP per capita (GDP_C), 287
General Electric (GE), 222
Generalized cross-validation criterion
(GCV), 89
Genomic biomarker, 69
Global Action Programme for
Protection of Marine
Environment from Land
Based Activities (GAP), 7
Global financial crisis (2008), 31
Global impasses, 150
COVID-19 pandemic and
dilemmas in provision of
public services in G20s,
160–167
G20 countries and provision of
public goods and services,
156–160
history and theory of public goods,
152–154
provision of public goods and
services, 154–156
Global plastic crisis, 5
Global Reporting Initiative (GRI),
110, 197–198
Globalization, 150
Gold, 83
Gold prices (GOLD), 82
Granger causality test, 85–86
Great Depression, 4
Green marketing, 195–196
Greenhouse gas emissions (GHG
emissions), 218
Gross domestic product (GDP), 84,
278–279
Health, 150, 162
care, 68
system sustainability, 68
Health 2020, 70
Healthcare Information Technologies,
77
Index
Honolulu Strategy, 7
Human development, 282
Human Development Index (HDI),
278, 281–282
components, 286
Human factor, 278
Hypotheses testing, 19–21
India’s Coca-Cola beverage factories,
213
Industrial Internet of Things (IIoT),
258, 264
Industrial production index (IPI), 82
Industrialization, 258
industrialization 4. 0, 260
Industry 1.0, 262
Industry 2.0, 263
Industry 3.0, 263
Industry 4.0, 258, 264
advantages, 259
literature review, 260–264
Movement, 259
perspective, 258–259
transition from automated industry
to, 261
Inflation (Inf), 82, 285
Innovation, 235–236
Innovation 25, 258
Innovative behavior, 246–247, 249
Institutional sustainability, 187
Institutional theory, 228
Institutionalised collaboratives, 9
Insurable interest, 42–43, 45–47, 57
application of principle in Malta,
58–59
English Law, 57
interview responses, 60–61
life and other non-indemnity
insurance, 59–60
other jurisdictions, 57–58
Insurance, 40, 278
market indicators, 280–281
Insurance Act, 52–53, 54, 58
Insurance Business Act, 40–41
Insurance contracts, 42
aims and research questions, 41
295
analysis and results, 48–62
EU Harmonization, 41, 47
insurable interest, 42–43, 45–47
Insurance Business Act, 40–41
literature review, 43
methodology, 47–48
questionnaire, 65
significance and originality of
research, 43
utmost good faith, 41–42, 44–45
Insurance Distribution Directive, 53
Insurance Law Reform Act, 58
Insurer, duty on, 53
Interest rates (IR), 82
International Convention for
Prevention of Pollution
from Ships (MARPOL), 7
International Monetary Fund, 30
Internet of Things (IoT), 258, 264
Investors, 82
Involvement, 14
Irish Financial Services and Pensions
Ombudsman award, 56
ISO 14001, 192
Japan Corporate Governance Code
(2015), 159
Kazakhstan Stock Exchange
Index, 85
Lambert v. Co-operative Insurance
Society Ltd, 51
Law 25/2009, 158
Law 37/2008, 158
Law No. 129 (1999), 159
Legal liability, 214
Life and other non-indemnity
insurance, 59–60
Life Assurance Act (1774), 57
Life expectancy index (LE_I), 287
Life insurance in Tunisia, 280
Liquidity injection programs, 31
Logistic regression, 122
Logit analyses, 122
London insurance market, 40
296
Index
London Inter Bank Offering Rate
(LIBOR), 33
Long-term and short-term IRs, 84
Long-term debts to total assets (LTD/
TA), 123
Long-term financing options (LTFO),
123
Lucena v. Craufurd, 57
Machine learning technique, 91
Macroeconomic variables, 82
Macropanels, 129
Macuara v. Northern Assurance, 57, 59
Made in China 2025, 258
Malta
application of principle in, 58–59
British rule in, 40
case, 11–12
wholesale adoption of UK
Principle, 48–50
Maltese Civil Code, 47
Maltese insurance market, 40
Marginal rates of substitution (MRS),
155
Marine convention, 7
Marine Insurance Act, 42, 45, 47, 57
Market
price index, 86
risk, 108
Mass production, 186
Maturity structure of debts (MSD),
123
Mean absolute percentage error
(MAPE), 90
Mean square error (MSE), 88
Member States (MS), 278
Microfinance providers (MFPs), 31
Micropanels, 129
Modern capital structure theory, 121
Modi operandi, 9
Modigliani-Miller theory, 120
Monetary policy measures, 31
Money supply (M1), 84
Multi-dimensional regulatory context,
6–8
Multi-level governance (MLG), 3, 6,
10
Multicollinearity, 88
Multivariate Adaptive Regression
Spline method (MARS
method), 84, 88, 91, 94
basis functions and corresponding
coefficients for, 95
variables graph, 96
Mutual funds, 263
N100 code, 197
Nation state-centric model, 8
National Institutes of Health, 68
National Public Service Act for Japan,
159
National Strategy for Environment,
12
Net income theory, 120
Net operating income theory, 120
Network governance, 8–9
New Public Management, 9
New York Stock Exchange (NYSE),
122
Next-generation sequencing
technologies, 77
Nolan principles, 160
Non-financial information, 113
Non-financial risks, 227
management, 110
Non-genomic biomarker, 69
Non-governmental organizations
(NGOs), 12
Non-indemnity insurance, 59–60
Non-performing loans (NPLs), 33
Normative sustainability, 211–212
Norms, 242–243
NZSE 40 index of New Zealand Stock
Exchange, 84
Obligation, 262
“One-for-all” therapy, 68, 72
Online questionnaire, 259–260
Operational burden and interference,
214
Index
Optimality in public goods, 157
Organisation for Economic
Co-operation and
Development (OECD), 279
Organizational culture, 110
“Our Common Future”, 186
Pan American Sanitary Bureaus
(1902), 161
Pandemic
approach to financial regulation
during, 32–34
bank supervision during, 34–35
of obesity, 5
Panel data models, 117, 129, 131
Panel unit root tests results, 147–148
Paradigm management, 187
Partnership, 14
Pecking order theory, 120
Pension funds, 263
PepsiCo, 213, 222
Person-centered care model (PCC
model), 68, 70–75
Personalized care, 73
Personalized consultations, 68
Personalized health care, 73
Personalized medicine (PM), 68,
70–72
potential of, 69–70
PETI organization, 159
Plastics, 2
Policy histories, 4
Polity-creating process, 10
Pooled model, 130
Positive sustainability, 211–212
Precision medicine, 69–70
Precision Medicine Initiative, 70
Predictive, preventive, personalized,
and participatory medicine
approach (P4 medical
approach), 75–76, 78
Prima facie, 2
Private equity partnerships, 263
Probit analyses, 122
Production, 258
297
Productivity, 213–214
Products and services, 213
Public Disclosure Platform, 129
Public goods
history and theory of, 152–154
provision of, 154–156
and services, 150
Public health measures, 31
Public Service Act, 158–159
Public Service Employment Act, 158
Public Service Regulation on
Procedures and Principles
(PSRPP), 160
Public Services and Procurement
Canada Code of Conduct,
158
Public Social Partnerships, 9
Qualitative method, 68, 241
Questionnaire, 65
online, 259–260
Random effects model, 130
Reference interest rate, 33
Reform Commission, 42
Regulation on the Principles of
Ethical Behavior of the
Public Officials and
Application Procedures and
Essentials (PEBPOAPE),
160
Regulatory forbearance, 35
Reimbursement models, 77
Reputation, 213
Research and development (R&D),
161
Residual sum of squares (RSS), 96
Resource dependence theory, 228
Respect for human rights, 234
Respect for international norms, 234
Respect for rule of law, 234
‘Respect for stakeholders’ interests,
234
Responsible behavior, 246, 248–249
Restrictions, 151
298
Index
Restrictive measures, 31
Results-based pricing, 77
Return on assets (ROA), 225
Return on equity (ROE), 225
Risk, 108, 208
analysis, 215
assessment, 109, 215
of bankruptcy, 108
of corruption, 108
identification, 215
management, 109, 209, 215–216
monitoring, 216
reporting tool, 109
of technological change, 108
treatment, 215–216
Robust regression models (RREG
models), 284–286
Root mean square error (RMSE), 90
S-score models, 124
S. N. Nuclearelectrica S. A., 114
S. N. T. G. N. Transgaz, 114
SA8000 Standard, 199–200
Seemingly Unrelated RegressionPanel Corrected Standard
Errors (SUR-PCSE), 137
Severe Acute Respiratory Syndrome
(SARS), 30
pandemic of 2003, 31
Shapiro Wilk’s test, 19
Shared responsibilities, 14
Signal effect theory, 121
Signaling theory, 121
Silo approach, 215
Single Supervisory Mechanism, 240
Single Use Plastic Strategy (2020–
2030), 7
Single-use packaging, 5
Single-use plastic policy
historical setting, 4–6
hypotheses testing, 19–21
Malta case, 11–12
methodology, 12–15
multi-dimensional regulatory
context, 6–8
research scope, 3
results, 15–19
theoretical underpinnings, 8–11
“Six Growing Trends in Corporate
Sustainability” survey, 197
Smart factories, 258
Smart Manufacturing, 258
Social audit, 199
Social capital, 237
Social distancing, 31
Social Management and Accounting
Standards, 199–200
Social performance, 198
Social responsibility, 111, 234, 236
Social sustainability, 188–189, 211,
220
Spearman’s correlation analysis, 130
Spearman’s rho correlation
coefficient, 267–268
Spillover effects, 30
Stakeholder approach, 227–228
Statistical Package for the Social
Sciences (SPSS), 266
Stimulus packages to general
economy, 34
Stock, 82
market, 82
Stock exchanges, 82
Stock index, 90
basis functions and corresponding
coefficients for MARS
model, 95
data, analysis, and findings, 90
descriptive statistics, 92
exchange rate, 82–84
graphical representation of stock
index and independent
variables, 93
importance levels of variables
according to GCV and
RSS, 97
literature, 84–88
MARS model variables graph, 96
methodology, 88–90
optimum degree and terms, 94
training and testing data goodness
of fit performance, 99
Index
variables, 98
variables and abbreviation, 91
Strong sustainability, 212
Sub-premium funds, 263
Subsidiarity, 14
Summation, 156
Supply chain costs, 214
Sustainability, 108, 186, 210–215, 236,
242
of health systems, 68
indices, 109
reporting, 196–198
reports, 196
Sustainability management (SM), 227
Sustainability risk management
(SRM), 108, 110, 208–209,
216–229 (see also Enterprise
risk management (ERM))
corporate sustainability, 187–190
framework, 216
implementation, 186
integrating sustainability into
business implementations,
190–201
principles, 224
risk management, 215–216
sustainability, 210–215
Sustainable design, 194
Sustainable development, 109, 186,
210
Sustainable development goals
(SDGs), 8, 109
Sustainable product design, 194–195
Sustainable waste management, 12
“Take-make-waste” economy, 7
Taxpayer-funded recycling programs,
4
Technical sustainability, 220
Technological revolution, 263
Technology, 259, 263
Total debt to total assets ratio (TD/
TA), 122
Total debt/equity ratio (TD/E ratio),
121
Trade, 214
299
Trade-off theory, 120
Traditional management approach,
188
Transdisciplinary research, 69
Transnational packaging, 4
Transparency, 234
Triple Bottom Line concept (TBL
concept), 188, 210, 212,
220–221
Trust, 236
Trustworthiness, 234
of banks, 240
impact, 237
Turkish Statistical Institute (TUIK),
100
UN Convention on Law of Sea
(UNCLOS), 7
Unit root tests for homogeneous
series, 134
United Nations (UN), 4, 167, 194
United Nations Global Compact
(UNGC), 197–198
US Department of the Interior (2021),
160
Utmost good faith, 41–42, 44–45, 48
arguments for reform concerning
duty of, 50–51
Consumer Insurance (Disclosure &
Representations) Act, 52
duty on insurer, 53
fair presentation, 54–55
findings from interviews, 55–56
and fraudulent claims, 53
Insurance Act, 52–53
Malta’s wholesale adoption of UK
Principle, 48–50
origins of law as stood till recently
in UK, 50
“Utopian” model, 8
Value-based pricing, 77
Values, 242–243
Variance inflation factor (VIF), 130
Vietnam stock market index, 86
VIX Fear Index (VIX), 83
300
Index
Weak sustainability, 212
Weakest-link, 156
Weigthed summation, 156
Welfare indicators, 280, 282–283
Well-being model, 68
Wellbeing, 278
Western Trading Ltd. v. Great Lakes
Reinsurance (UK) plc, 57, 59
White period coefficient covariance
methods, 137
Wicked problems, 9
World Bank, 30
World Business Council for
Sustainable Development
(WBCSD), 222
World Economic Forum (WEF), 31,
218
World Health Organization (WHO),
68, 162
World War II, 4
Z-score, 124