The economic destruction wrought by the coronavirus pandemic has been severe and global. More than 10 million Americans lost their jobs and applied for unemployment benefits in March. The International Monetary Fund’s Kristalina Georgieva characterized the emerging economic downturn as “way worse than the global financial crisis” of 2008-2009. Firms big and small must do anything they can to stay afloat in this environment.
That may mean curtains for trendy investing strategies and corporate governance theories that flourished when times were good.
There’s an activist subset of the corporate finance world that has little to do with traditional business activities like manufacturing and marketing and is instead focused on tracking greenhouse gas reductions, gender equality, and social justice. The policies they pressure corporations to adopt are referred to as “environmental, social, and governance” standards, or ESG. Similar campaigns were popularized under the banner of “corporate social responsibility” and “socially responsible investing.”
What they have in common is a tangential relationship, at best, to operating a profitable company. In today’s business world, large companies must serve many masters, known as stakeholders, with actual shareholders often considered an afterthought, despite the law saying otherwise. Companies are expected to respond to a laundry list of demands from environmentalists, labor unions, and other activists and modify their operations accordingly, while third-party investment advisory agencies rate them according to advocacy-driven scorecards.
But tolerance for politically motivated investing may now wear thin for companies and investors. ESG-focused investing is a relatively new phenomenon that expanded over the last decade or so, during America’s longest continuous economic expansion. It has never known a time of deep recession. Will a post-pandemic CEO sign up to higher electricity prices so that her company can get a gold star from a “sustainability” advocacy group? Will she send her HR staff to expensive management conferences to learn the latest cultural sensitivity strategies? Will she pay twice as much an ounce for fair-trade certified raw materials like molybdenum?
More importantly, should that CEO be spending her company’s suddenly scare resources on left-wing virtue signaling when people’s jobs and retirements are on the line? The ESG advocates will tell you the best company is one that ticks all of the boxes on their list of socially desirable characteristics. But for employees, ordinary investors, and retirees, the best company is one that stays in business and continues to be profitable. If anything, sustainability initiatives that drain capital and management expertise away from a company’s core business are the real risks that should be publicly disclosed.
The current vogue for ESG investing is based on the idea that, as analysis firm MSCI proclaims, “Institutional investors are increasingly looking for ways to steer capital towards companies that provide solutions to major social and environmental challenges.” Perhaps that’s what big money managers are doing, but it’s also possible they’re just trying to stay one step ahead of activist name-and-shame campaigns. In the case of institutional investors directly subject to political pressures, like public employee pensions funds, the focus on “social challenges” may be dictated to them by lawmakers.
Left-wing activists who want big companies to reduce carbon dioxide emissions, raise wages, and only buy “fair trade” goods insist that they’re just watching out for investors. If a corporation were to invest heavily in coal just as the government was about to implement strict new limits on climate emissions, they and their shareholders might be negatively affected. Therefore, every company needs to report their “climate risks” and be assessed and rated on its exposure by ESG advocates.
But that’s playing both sides of the field. For example, the same environmental groups who demand that public companies disclose their energy holdings as if they were an inherent risk are the same ones lobbying for higher taxes and more regulatory restrictions on traditional energy sources. This activist two-step ratchets up political risk and then insists that companies provide public disclosure to match the increasingly hostile reality. But the true goal was never to protect investors, institutional or individual. Quite the opposite—it’s to punish disfavored companies by frightening off potential investors. As times get leaner, even Davos conference regulars may tire of this game. The public may as well.
While ESG is supposedly a bundle of voluntary policies, the implied threat is that recalcitrant companies may face government mandates if they don’t go along. When big companies were seen as sitting atop mountains of cash, there was a constituency for pressuring them to spend more of it on vaguely defined good deeds. But as many big employers teeter on the edge of insolvency, managers will have an easier time bypassing PR window dressing and declining to placate every interest group that shows up—with expensive demands—to their annual shareholder meeting.
If there are few atheists in foxholes, there might be fewer still ESG activists in a global depression.
Richard Morrison is a research fellow at the Competitive Enterprise Institute.