FILE – Visitors to the Financial District walk in front of the New York Stock Exchange on Friday, September 23, 2022. Following battles in statehouses across the country, the battle against so-called ESG investing is intensifying in Congress. (AP Photo/Mary Altafer, File)
The latest culture war issue that everyone is expected to have an opinion on is ESG. This three-letter acronym stands for Environment, Social, and Governance, and was created to help companies make investment decisions that seek (or are required to be) socially responsible. It’s a set of principles. Companies are rated based on everything from their environmental profile to working conditions to board diversity. Many companies and financial institutions have committed to complying with or only investing in companies that comply with ESG principles.
In some ways, ESG is just the latest incarnation of the old practice of values-based investing. People have long wanted to ensure that their investments generate not only personal profits but also social benefits, and individuals who wish to invest in funds that do not invest in certain industries such as weapons manufacturers or pornography You can invest money in.
What makes ESG different is its scale. The market value of ESG-related assets under management in 2021 was $18.4 trillion. For ESG proponents, this is simply a smart way to reconcile capitalism with environmental and social concerns. To critics, this is just the latest “woke” fad, or even more ominously, an attempt to impose the social credit system on unsuspecting people.
The fact that people have such conflicting and passionate views on ESG is not necessarily a problem. We all have to fill time in our day in some way. An even bigger problem arises when states seek to mandate ESG or prohibit private companies from acting in accordance with ESG.
California has led the Blue State Charge to force ESG on companies. Last year, the state passed two laws requiring companies operating in California to report greenhouse gas emissions, as well as mitigation efforts and other climate-related financial risks. Specifically, the emissions reporting requirements include “indirect upstream and downstream greenhouse gas emissions from sources not owned or directly controlled by the reporting entity.” Understanding how to calculate this is a costly challenge for companies, and failure to properly disclose it can ultimately result in fines and securities fraud charges.
Meanwhile, many red states have enacted laws that attempt to block ESG. In 2021, Texas passed a law that would disqualify private companies from government contracts if they restrict investments in fossil fuel industries. This law created some strange situations.
Texas Lt. Governor Dan Patrick recently hosted an event with BlackRock CEO Larry Fink as part of an effort to encourage companies to invest more in Texas’ power grid. However, BlackRock itself is on a list of sanctioned companies that cannot do business with governments because of their ESG efforts. Texas thus finds itself in the awkward position of encouraging more capital investment into the state while simultaneously making it difficult for the same companies to do so.
To date, 22 states have passed pro-ESG or anti-ESG legislation, leading to a fragmentation of the financial services landscape. All of these conflicting obligations and prohibitions can pull companies in different directions. At this rate, it may soon become impossible for individual companies to comply with all state regulations.
The time has come for countries to take a step back. It would be arrogant to think that state legislatures know better than they do how to invest people’s money, even if they are full of Nobel Prize winners.
Blue states like California should recognize that companies have made efforts to reduce their environmental impact even in the absence of government mandates. Considering environmental risks and their impact on community relations and a company’s brand is something that companies should do, even if they are only concerned about profits. Heavy-handed attempts by states to drive the process could cause headaches for businesses and risk a backlash from more conservative parts of the country.
And red states shouldn’t put off companies’ investment decisions. If investors believe renewable energy is the way of the future and don’t want to invest in fossil fuel companies, they should be free to put their money where they want. If they are proven wrong, an unhindered market will punish them better than any state bureaucracy.
In a world where Taylor Swift is a politicized issue, the underlying ESG debate is unlikely to be resolved anytime soon. But if countries continue to pursue conflicting policies on this issue, they risk turning America into a giant mess of regulatory Swiss cheese.
Josiah Neely is a resident senior researcher on the Energy and Environment team at the R Street Institute.