The week of September 5, 2022: The (continuing) ESG debate, energy, supply chains, taxation, and much, much more.
The week of September 5, 2022: The (continuing) ESG debate, energy, supply chains, taxation, and much, much more.
T he investment “discipline” of ESG, which measures companies against varying environmental, social, and governance guidelines, is bad for investors, and it is bad for democracy. That there are signs of a political pushback against it by elected politicians is to be welcomed. Michael Bloomberg, however, disagrees, and writing in, well, Bloomberg, he explains why.
Republican elected officials seem to think they’ve found three new evil letters to pair with their favorite bugaboo, CRT, or critical race theory. This one is called ESG . . .
Referring to CRT as “a bugaboo,” is, in its own way, telling, if not, perhaps, in the way that Bloomberg might hope.
He notes that ESG’s critics describe it as “woke capitalism,” and many of them do. Although ESG is indeed being used to pursue a progressive agenda with, often, a great deal of wokery about it, that is only part of a wider (and more important) story. As alluded to above, ESG, especially when intertwined with stakeholder capitalism, is using other people’s money to push for societal changes that, in a democracy, are more properly decided upon by an elected legislature.
ESG’s critics are not too unhappy with the term “woke capitalism” either. As I noted the other day:
It is far easier for defenders of ESG and stakeholder capitalism to frame the debate as another chapter in the culture wars than to address the serious threat to both property rights and to democracy that their efforts represent.
That is why Bloomberg brought CRT so quickly into his article.
But, to his credit, he moves the discussion on with a comment which is also a challenge.
Critics call it “woke capitalism.” There’s just one problem: They don’t seem to understand capitalism.
But there are many different types of capitalism. There is the most effective, and for that matter, societally beneficial variant, the form of shareholder capitalism most famously described by Milton Friedman a little over half a century ago. Under this, the purpose of a corporation is to act for the benefit of its shareholders, which is to say, its owners. This is “shareholder primacy,” an idea which candidate Biden described as “a farce.” Judging by its proposed climate-disclosure rules — rules that will damage shareholder value — the Securities and Exchange Commission, an agency purportedly dedicated to investor protection, agrees. Bloomberg clearly approves of the tack that the agency is taking.
Then there is stakeholder capitalism, under which the purpose of a corporation should be to act in the interest of various “stakeholders,” of which shareholders constitute only one class. Stakeholders might include a company’s workers, its customers, the local community, or even “Mother Nature.”
Stakeholder capitalism is, in many respects, the other side of the ESG coin. ESG sets out what investors should look for in a company, while stakeholder capitalism offers an intellectual framework for how a company should be run, and these days that framework is, broadly speaking, progressive. Both ESG and stakeholder capitalism subordinate the economic interests of the investor to other goals, albeit, in the case of ESG, rather more discreetly.
As a practical matter, the border between the two is blurry. ESG has caught on across wide swaths of the institutional investment community, often as a new way of raking in money for itself, if not for its clients. If companies want a better chance of access to the immense pools of capital those institutions can provide, they need to be run in a way that should generate a good ESG score.
Stakeholder capitalism is an expression of corporatism, an ideology that can be relatively benign, as in postwar West Germany, or can be an integral part of fascist or fascist-adjacent economics. At its more extreme end, it mutates into the harnessed capitalism of today’s China. Given Bloomberg’s, uh, understanding views on China, it is, perhaps, understandable that he doesn’t want to confront the argument that ESG and stakeholder capitalism are being used to bypass democracy. And it is not unreasonable to assume that the capitalism in which he believes is not one with much room for shareholder primacy — other than when he is the shareholder, I suspect.
But back to Bloomberg:
Republican critics of ESG have focused primarily on the “E,” arguing that climate change should not factor into investment decisions. Texas has adopted a law restricting the state, localities, and pension boards from doing business with financial firms that seek to limit their exposure to fossil fuel companies. Even firms that have large investments in fossil fuels are being banned, if they dare attempt to price climate risk into their portfolio allocations. Oklahoma has enacted a similar law, and other Republican leaders are moving in the same direction. Last month, Florida’s Republican governor, Ron DeSantis, supported a resolution barring pension fund managers from considering ESG factors.
“If they dare.”
In reality it is more likely that investment managers who dared to price in climate risk at something close to zero (the most plausible number) would get into trouble, and not for their performance, but their heresy. Maintaining that climate change represents no material financial or investment risk is not the same as claiming that climate change is not real, or that it cannot cause economic loss. But it is to argue that on a typical investment or lending horizon, climate change is largely irrelevant. It’s well worth reading what economist John Cochrane or Stuart Kirk (I wrote about both here), the former global head of “responsible investments” at HSBC, have had to say on this topic. Note that “former.” Daring to make this argument effectively cost Kirk his job.
Investment firms which limit their exposure to fossil-fuel companies simply because they are fossil-fuel companies are not doing their job — if their job is generating maximum risk-adjusted return. No entity ultimately responsible for managing other people’s money (and that would include state pension funds) should entrust that money to such firms. There ought to be no objection to firms pricing in climate risk, but they must demonstrate that the basis on which they are calculating risk is reasonable rather than ideological. If it is the former, the number (as mentioned above) ought to be very low.
Bloomberg:
All these anti-ESG crusaders position themselves as defenders of the free market. But they are attempting to use government to block private firms from acting in the best interests of their clients, including retired police officers, teachers and many others who depend upon public pensions. And in doing so, they are turning the most basic investment rules on their head.
On the contrary, it is the investment institutions that rule out investment in fossil-fuel companies or which overweight climate risk who are doing just that.
Republican critics of ESG, Bloomberg asserts, either don’t understand what he contends is “investing 101” (in reality, an Orwellian 2 + 2 = 5) or “they are catering to the interests of fossil fuel companies,” or both. “Either way,” he writes, “they are standing in the way of the most powerful force we can muster in the fight against climate change: the private sector.” As so often when it comes to ESG, the question of who “we” might be is left unclear.
But if, as Bloomberg appears to want, there is to be discussion of the financial interests that participants might have in this debate, he ought to mention the flourishing ecosystem that has grown up around ESG, an ecosystem that is keeping countless rent-seekers well fed at the trough, an ecosystem that includes — who’d have thunk it — Bloomberg Professional Services:
Bloomberg’s Data Management Services (DMS) is a fully-managed, pre-configured platform that can enhance your firm’s ESG data sourcing across multiple providers. DMS links up your investment universe, expands the coverage of your ESG data and enables you to seamlessly integrate it across your organization’s investment and operational processes.
To be fair, there is one area of possibly material climate-related investment risk, and it comes from legislative or regulatory change or, not unconnectedly, lawfare. That should be priced in, although how to do so is not straightforward. Oddly, Bloomberg does not discuss this area of risk in those terms, perhaps because he supports at least some of those legal and regulatory changes. Certain arguments are too circular to be rolled out too far.
Bloomberg notes that “a poll last year found that two-thirds of investors support their retirement funds offering ESG options.” Leaving aside that this poll was commissioned by an investment group with ESG investment products to sell, it’s a good idea that an ESG option should be included for people looking at where to invest for retirement.
But that’s an option that investors should have to choose deliberately, and in the full knowledge that choosing a fund that excludes or underweights certain securities on non-pecuniary grounds (and an ESG fund will do that) could hit their financial return. That risk should be fully disclosed. There should be no room anymore for dubious claims that ESG investing is either intrinsically safer, or that it is a way of doing well by doing good.
Bloomberg also suggests (based on a study he cites of the effects of the Texas anti-ESG law) that if a state refuses to use certain banks to help finance its debt if those banks’ lending policies are governed by ESG-type principles, the result may be to increase that state’s borrowing costs. If that’s truly the case, and if the indirect or direct cost to the state’s taxpayers of those increased borrowing costs is greater than that resulting from the damage imposed by the banks’ lending restrictions, then it would be time for a rethink. It would also be time, however, for those banks’ shareholders to ask those banks’ managements what they think they are doing.
The Capital Record
We released the latest of our series of podcasts, the Capital Record. Follow the link to see how to subscribe (it’s free!). The Capital Record, which appears weekly, is designed to make use of another medium to deliver Capital Matters’ defense of free markets. Financier and NRI trustee David L. Bahnsen hosts discussions on economics and finance in this National Review Capital Matters podcast, sponsored by the National Review Institute. Episodes feature interviews with the nation’s top business leaders, entrepreneurs, investment professionals, and financial commentators.
In the 83rd episode David is joined by Anne Bradley, an Acton Institute scholar and the VP of academic affairs at The Fund for American Studies. Bradley was a James M. Buchanan Scholar in earning her Ph.D. in economics from George Mason University and remains one of the foremost public intellectuals today. She offers scholarly writing and academic research that is clear, cogent, and readily understandable in defense of a free and virtuous society. David and Anne go around the horn discussing first principles, the theological foundation of economics, human nature, economic history, and ultimately, the needed vigilance in defending our ideas in times such as these.
The Capital Matters week that was . . .
China
The late American Enterprise Institute economist Herb Stein famously wrote that if something cannot go on forever, it will stop.
Mr. Stein might very well have had in mind the unsustainable, decade-old, property and credit-market bubble in China, which is now showing every sign of bursting. Compounding matters, it is doing so at the very time when the Chinese economy is experiencing a perfect economic storm as a result of President Xi’s zero-tolerance Covid policy, his attack on big business, and his ramping up of political tensions with the United States over Taiwan now coinciding with a severe drought. A Chinese economic slowdown would have major implications for the world. Not only is China the world’s second-largest economy; until recently, it was also the world’s main engine of economic growth and its largest consumer of internationally traded commodities . . .
Energy
The moment when Russia turned off the flow of (natural) gas was almost certainly coming, but I had reckoned that it wouldn’t be for a month or two yet. Wrongly, it seems . . .
Europe’s power sector is in a bind. Since harmonizing electricity markets in the mid-1990s, EU leaders believed that the comparatively higher price of natural gas in the wholesale market for energy would spur investment in renewables and thus aid the bloc’s transition to a net-zero-emissions economy. Indeed, the bloc’s “marginal pricing system” is designed such that wholesale electricity prices are set by the last power plant called in to meet overall demand on any given day, a role routinely played by the natural-gas power plants meeting approximately 20 percent of the EU’s electricity demand. The hope behind the pricing system was, in other words, that the forces at work in global energy markets would align with the EU’s ambitious environmental agenda.
But this pricing system is now under severe duress . . .
Labor
Unions have been a driving force behind the movement to raise the minimum wage. The SEIU launched a bid to organize fast-food workers in 2013 under the slogan “$15 and a union.” The intention was to plant the idea in franchise restaurant workers that if they organized, the resulting unions could negotiate a $15 wage for them. Why $15? “It was a firm round number that workers felt motivated and inspired by,” David Rolf, head of Seattle-based SEIU Local 775, told the Northwest Labor Press in April 2016.
It never caught on with fast-food workers for the simple reason that few people want to make a career out of working in that industry. But the idea of a $15 minimum wage did catch on with progressive West Coast politicians . . .
Taxation
In a letter to members of the United States Senate, Internal Revenue Service Commissioner Charles Rettig did his part to carry water for the Biden administration’s push for $80 billion in new funding to his agency. Rettig argued that the IRS does not have “the resources that it needs to ensure the tax laws are enforced fairly and that Americans receive the level and quality of service they deserve.” On the heels of this plea, the Senate passed the Inflation Reduction Act, which the president signed on August 16, 2022.
The IRS will get its $80 billion. Nearly $46 billion is going to enforcement . . .
Supply Chains
Bloomberg notes that the bipartisan infrastructure law includes $17 billion in port funding, but it fails to note that none of that money can be used for what American ports most need. Congress wrote into the law that funding can’t be used for automation, which will no doubt make the dockworkers’ union happy. The Department of Transportation is emphasizing that the funding will be used to mitigate climate change and “create jobs.” The law’s Buy American provisions also ensure, for example, that federal funds can’t be used to buy automated cranes from Finland, as the Port of Virginia (America’s most efficient port on the CPPI and the 23rd most efficient in the world) did in 2016. In short, port modernization is essentially illegal in the United States, and the bipartisan infrastructure law did nothing to change that, so don’t expect any major efficiency improvements because of it . . .
With one week to go until freight-rail strikes become legal, seven out of twelve unions have still not reached deals, and one of the largest has rallies planned for tomorrow.
In addition to the three smaller unions that had together struck tentative agreements with employers over a week ago, two more have since joined. The International Brotherhood of Electrical Workers and the American Train Dispatchers Association (ATDA) made deals based on the recommendations from the presidential emergency board (PEB) . . .
West Coast supply-chain infrastructure is so inefficient and unreliable that businesses are deciding they’d be better off shipping their products to the opposite side of the continent instead . . .
ESG
For the last several years, much of the corporate world has, to a greater or lesser degree, adapted to the demands imposed by “environmental, social, and governance” (ESG) theory, and in that time, those three letters have created a minefield of unintended consequences. Despite the enthusiasm that has fueled the ESG machine, leaders in politics, policy, and the business world have begun to question where it is leading us, with high-profile critics from Tesla CEO Elon Musk to former vice president Mike Pence lining up to denounce it. While we’ve been hearing warnings of a backlash against ESG for some time, it’s worth reflecting on how we got here . . .
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