The facts behind the latest culture war and ‘social justice investing’

If the level of resentment in Congress could be any measure of importance, one might assume that recent efforts to overturn the Labor Department’s rules on environmental, social and governance (ESG) investing through pension plans will have reverberations across generations .

As Senate Majority Leader Chuck Schumer (DN.Y.) recently claimed, these attacks on ESG come from “far-right MAGA Republicans” intent on blocking companies from “taking on themselves” in the name of “ideological obsessions.” adapt to the future”. MP Andy Barr (R-Ky.), on the other hand, says the same ESG rules undermine “the core purpose of financial institutions” and threaten “the economic security of investors.” Barr’s fellow Republicans in Congress, along with a handful of Democrats, have now passed a resolution scrapping the new retirement plan rules, and President Joe Biden, for his part, has promised to veto it.

However, what looks like another smoldering culture war will have far less impact than meets the eye. Properly implemented, ESG standards can be a tool for managers and investors that governments that respect free enterprise should allow, but not require.

Let’s start with the facts: Both the Biden administration’s “pro-ESG” rules and the Trump administration’s “anti-ESG” rules permit the use of ESG metrics. Under both rules, pension plan managers can look at things like workforce diversity and environmental performance when improving risk-adjusted returns, however not only to achieve broad societal goals. Under both rules, a fund manager might invest in an insurer because it is trying to improve returns by modeling the impact of climate change on its business book. However, the same manager could not legally choose one retailer over another simply because he had done more to reduce his own carbon footprint. In short, both sets of rules allow value-based ESG, which aims to enhance returns by looking at a broader universe of factors in the search for returns, but prohibit value-based investing, which makes those factors the sole reason to invest.

So what is the controversy about then? In part, the ESG movement scares people on the right because it tends to use language and ideas borrowed from the progressive left. Conservatives may feel uncomfortable reading major financial firm RBC’s white paper on “Investing in Social Justice” when it speaks of “systemic racism, inequalities in access to health care and justice and education, and extreme wealth inequality.” Likewise, attendees at a Harvard legal forum who talk about their desire to overturn the “shareholder primacy doctrine” and thereby move to a system of “stakeholder capitalism” are unlikely to warm the hearts of die-hards laissez faire capitalists.

However, as long as they obey the law and follow basic standards of decency, even the most doctrinaire free market adherent will agree that executives and investors should have great latitude in making business decisions. And markets are encouraging companies to integrate ESG practices and offer products that address the issues raised by the ESG movement. Many investors are showing their preference for “sustainable” funds: ESG-focused funds now total trillions of dollars.

In addition, broad social and environmental factors can obviously have a huge impact on company performance. For example, a company that works hard to discover talent in previously underrepresented demographics can reap tremendous benefits from its superior workforce, while a company that carefully considers its overall environmental impact can improve its access to capital while avoiding negative publicity from an environmental disaster .

The problems that should concern everyone really arise when governments try to enforce compliance with centrally planned ESG standards. The Biden administration’s own efforts to push through massive new “climate risk disclosures” could cost a staggering sum and require most companies to measure a variety of factors that may have little to do with their bottom line. The state of Maine’s mandate to divest fossil fuels looks likely to hurt its investment returns, while a Texas law designed to ban efforts to divest fossil fuels will end up costing more than $500 million, according to University of Pennsylvania professors could. Laws like these – proposed roughly equally by left and right – are best understood as restrictions on the free choice of investors, corporate executives and markets.

While there may be legitimate concern about the Biden administration’s new pension rules — they may leave too much leeway for pension fund managers with ideological agendas — they’re hardly a drastic change in policy. And they are part of a movement that, when used voluntarily and with shareholder value in mind, can enhance investment returns while helping the private market meet major challenges.

Eli Lehrer is President of the R Street Institute