By
Terrence Keeley
Wednesday,
January 25, 2023
The senior
editor of American Affairs, Julius Krein, was unsparing in his
criticism of conservatives in his recent article, “Why the Right
Can’t Beat ESG.”
“Conservatives’ purely negative approach to ESG, coupled with a naïve desire to
return to older forms of shareholder primacy will prove counterproductive,” he
concludes, bemoaning “the absence of any substantive alternative agenda.”
Krein
does a good job highlighting how and why persistent Republican potshots against
ESG have failed to rein in a beast that has done more harm than good. ESG has
become a religion for many. That it has morphed into a hotbed of political
controversy rather than a constructive conversation about the pros and cons of
sustainable investment says more about our tribal psychology than it does about
ESG. Jonathan Haidt can explain the broader phenomenon behind this if you’re
interested.
But
conservatives mustn’t give up the fight. ESG remains a fatally flawed
investment paradigm. It is premised upon unreliable data and the dangerous,
highly misleading idea that tilting away from certain shares or bonds will
fundamentally alter corporate behavior, improve risk-adjusted returns, and
result in better social and environmental outcomes. None of these claims is
true. Getting ESG right requires the identification of how and where mindful
corporate practice and investment generate true, double bottom lines. All the
rest is hokum. Discernment like this transcends politics, however. ESG
strengths and weaknesses don’t change if your state is red, blue, or purple.
Politicians of all colors should unite in deriding investment strategies that
don’t help asset owners achieve their intended goals.
Conservatives
mustn’t overreach, either. In a country where “best interest” regulation is the
law of the land, investors are empowered to make their own investment
decisions, however flimsy those decisions may be. Regulators should intervene if
there is insufficient market competition or faulty disclosures. Beyond that,
it’s caveat emptor. There is no law against foolish capital allocation, even
though dumb financial decisions are common when politics are prioritized over
value creation and risk mitigation.
Consider
Democrat Brad Lander, New York City’s comptroller. He recently
lambasted BlackRock
for not forcing its clients to buy more of the ineffectual products he
endorses, so-called temperature-aligned funds. Temperature-aligned funds
exclude all non–Paris-agreement-compliant firms. They neither affect the
globe’s temperature nor generate better risk-adjusted investment outcomes.
Lander should know the earth would still be on course for a temperature
increase well beyond the 2050 net-zero goal of the Paris accord even if every
portfolio on the planet were temperature-aligned. To decarbonize industry,
transportation, housing, agriculture, and the grid, we must invest in dirty
industries, not divest. Lander has flipped the sustainable-investment challenge
on its head.
But
Democrats are not alone in being led astray by ESG. Republican Texas
comptroller Glenn Hegar has also blundered. In defense of the Lone Star State’s
economy, Hegar pledged to boycott financial firms that boycott energy,
but then did the
exact opposite. He
blacklisted some of the most important investors in energy in Texas, increasing
borrowing costs for Texan oil corporations and taxpayers in the process. Hegar
and Lander don’t share political ideologies, but they have something else in
common: Both let their political beliefs impede sound financial judgment.
Politics and markets should be like church and state: as separate as possible.
Krein is
not just calling for a conservative reckoning on ESG, though. He yearns for
something broader, more comprehensive. Addressing ESG’s flaws “will require
abandoning the silly pretense that ‘the market’ is a magical, perfect,
self-regulating machine of 18th-century deism, operating independently of
politics and society,” he insists. “It will require the intellectual awareness
and discipline to pragmatically incorporate these goals into constructive
policy and corporate governance frameworks.”
As a
conservative, I must note Krein is already on heretical ground with his
criticisms. Conservatives don’t defend markets because they are perfect: We do
so because they are better at allocating capital and identifying growth
opportunities than government agents who claim to know better. What Krein
should have said is that conservatives recognize markets are essential, but
they too often ignore their negative externalities. Conservatives must combine
their valid defense of free markets with pragmatic, effective plans to
countervail their failures. Today, those failures include environmental
degradation and social contracts increasingly strained by widening wealth gaps.
These are, after all, primarily what the “E” (environmental) and “S” (social)
in ESG are all about.
Krein
would be right to highlight market failures and the absence of comprehensive
Republican plans to deal with them. Conservatives should respond thoughtfully
to all valid environmental and social concerns. Modern capitalism taxes our
air, water, and land in detrimental ways. Overwhelming evidence suggests
current consumption and production patterns are contributing to the extinction
of many insects and animals, while potentially rendering unlivable certain
densely inhabited environs, including whole cities and several island
nation-states. None of this is political; the evidence is there for all to see.
On the other hand, anyone who claims to know what the temperature of the earth
will be in 50–100 years and why we must spend $100 trillion to change it is
deceiving himself. The same holds true for sea levels. Global temperatures
could be higher or lower. Nonhuman influences caused the earth’s last
mass-extinction event by making it much colder. Seas aren’t rising very fast
and may not do so anytime soon. The future timing of non-anthropogenic events
remains unknown and unknowable.
But the
temperature of the earth and sea levels decades from now are not our political
problems at hand — or, at least, they shouldn’t be. As the global population
will soon top out around 10 billion, Left and Right alike must think long and
hard about how every human soul will be able to live sustainably and in a
manner consistent with the inherent dignities bestowed by their divine maker.
We must also ask why growing numbers of highly capable people are not reaching
their full potential. In so doing, we must remain crystal-clear about the
precise roles individuals, civil society, policy-makers, business, finance,
regulators, and public policy can and cannot play in optimizing outcomes.
Individual
behaviors are key. Business and finance have no special powers to turn the
carbon clock backwards or reverse decades of racial and gender discrimination;
consumer choices and public policies drive outcomes far more determinately.
Financiers and corporate CEOs are not, nor should they ever be, social- or
environmental-justice warriors, forever prioritizing stakeholders at the
long-run expense of their shareholders. This is not their job, legally or
ethically. If every corporate enterprise substituted a range of E and S goals
for their growth opportunities, the global economy would experience a
catastrophic growth shock, far worse than the Covid-19 shutdown. When per
capita growth falters, human misery quickly mounts, especially for the poor.
Lawlessness, mass migration, and unconstrained environmental desecration
invariably multiply when economies fail. Calls for renewed economic growth
would soon rise in a cacophonic frenzy. If we want to make the world more
environmentally sustainable and socially inclusive, we will need to spend more
money — perhaps as much as $275 trillion over the next 40 years by some
estimates. Exactly
where would these funds come from in a global economy experiencing free fall?
None of
this means business and finance should remain oblivious to the changing
priorities of our times — but neither can they do so and thrive. This may be
what Krein meant when he wrote, “The business of business is never just
business.” Business and finance exist in their primary incarnation to serve the
broad interests of society. Their sine qua non is to generate economic growth.
If business and finance do not generate economic growth, nothing else will. As
it so happens, good business practice and many ESG priorities are increasingly,
though not perfectly, aligning. Companies today fail their shareowners if they
ignore the interests of their employees, suppliers, community, and the
environment. This is not stakeholder capitalism, though; it’s just capitalism.
Conservatives not only celebrate market-driven innovations that result in
material, social, environmental, and spiritual progress; because we understand
markets, we expect them.
Krein
also deserves credit for highlighting the need for a comprehensive,
conservative road map which could credibly solve the real problems of our day.
Republicans need a road map that would enable society to get all the good out
of ESG without the bad — and much else besides.
But
progressives need a workable ESG road map, too. Blind acceptance of ESG
precepts has resulted in trillions of dollars of misallocated capital and zero
progress towards its principal target, climate change. Doubling down on failing
ESG methods is nuts. Its merits and risks aren’t red, blue, or purple; they are
black and white. When it comes to optimizing commercial and financial outcomes,
color-tinted lenses impede clear thinking. If we prioritize principles over
politics, all our road maps will align.
Promoting
the broadest levels of human flourishing ethically, effectively, and for as
long as humanly possible, requires these five, core tenets to serve as our
pillars:
I. Let
Markets Work
Years of
naming and shaming public oil-and-gas companies while billions of consumers
continued to rely upon their products ended predictably: massive energy
shortages and dangerous dependence on Putin, who promptly pounced on Ukraine.
Ignoring the laws of supply and demand encourages such tragedies. After
natural-gas prices in Europe jumped tenfold versus 2018, clean-energy
investments topped $1.4 trillion in 2022, a record. No surprise here, either.
Wind and solar and geothermal and nuclear are now cheaper than fossil fuels, in
Europe at least. As the need for more domestically sourced energy has
simultaneously jumped, all energy sources are finally receiving the investments
they need. Putin’s horrific crime accomplished precisely what the gilets
jaunes in France democratically precluded: an effective carbon tax.
Similarly,
if Citigroup CEO Jane Fraser has found that flexible work hours and locations
provide her with a more committed workforce, while David Solomon at Goldman
Sachs has found the exact opposite, both can be right. Price and non-price
incentives are essential to sound decision-making and free-market solutions.
The abandonment of market discipline delays, and ultimately compounds, human
woes. Disallowing free-market competition stifles creativity, innovation, and
entrepreneurship, each of which are essential for enduring prosperity.
Friedrich
Hayek said it best: “I very seriously regard the preservation of what is known
as the capitalist system, of the system of free markets and the private ownership
of the means of production, as an essential condition for the very survival of
mankind.” We must allow markets to be free to survive.
II.
Recognize That Consumer, Worker, and Societal Attitudes Change
Occidental
Petroleum’s visionary CEO Vicki Hollub has discovered a growth market:
carbon-neutral oil. Once the world’s largest carbon-capture facility is
complete, Oxy Low Carbon Ventures will have virtually unlimited demand for its
cleanest fossil fuel. Carbon-neutral oil can power private planes, generate
electricity while wind and sun are missing, and enable companies who have
committed to net-zero emissions to achieve their goals efficiently. But none of
this is “woke.” It’s simply capitalism.
Similarly,
high-quality synthetic leather will be a $65 billion market by 2030, up more
than 1,000 percent from 2022. High-end, faux-leather goods made from mycelium —
a natural product derived from mushroom roots — verifiably claim to be
carbon-negative, the opposite of methane-rich, bovine-derived traditional leather
products. Gen Z shoppers are leading the way in increased spending on these
types of “sustainable” products. On balance, their wallets are driving up
demand while the consumption of traditional apparel, footwear, and accessories
has fallen 20 percent since 2019.
Of
course, many Boomers, Gen X, and Millennials are conditioned towards less
mindful consumption patterns, and their demands must be met, too. Younger
consumers and workers coupled with a growing number of well-heeled older folk
have evolving expectations, hopes, and dreams. A growing number realize the
earth has never had to support 8–10 billion human inhabitants before. Before
too long, everyone will. Emerging preferences for circular production and
sustainable products are natural, market-driven phenomena. They will intensify
over time.
III.
Double Down on Shareowner Primacy
“In a
free-enterprise, private-property system, a corporate executive is an employee
of the owners of the business.” So wrote Nobel laureate Milton Friedman in his
sensational 1970 essay “The Social Responsibility of Business Is to Increase
Its Profits.” I don’t know many conservatives who would debate Friedman on
this, and none that should. Anyone who believes a business should be run for
the benefit of someone other than its owners must read the 1919 Michigan
Supreme Court opinion by Russell Ostrander, Dodge v. Ford Motor Company.
There, he or she will learn shareowner primacy isn’t just sound practice: It’s
also the law of the land. Protesters campaigning outside corporate offices
should be respectfully told that their concerns are laudable, but their
energies would be better spent buying shares and waging proxy fights. Those
same protesters should be graciously asked how they’d feel if some stranger
came into their home and told them to change their appliances, drapes, and
furniture. After all, that is effectively what they are demanding of the
corporations they are protesting.
Businesses
are run by and for the benefit of their owners, subject to local and
international law. Those owners also bear risks and responsibilities, neither
of which are negligible. There are ways to change corporate behaviors legally
and responsibly. There is just no way to reassign those controls to some newly
empowered, nondemocratic agent and still be a conservative.
IV.
Recognize Shareowners’ Priorities Are Changing Too
Friedman
never claimed that corporations should merely prioritize short-term
profitability. In the same 1970 article, he wrote that companies should “make
as much money as possible while conforming to the basic rules of the society,
both those embodied in law and those embodied in ethical custom.” Over the past
half-century, shareowners have repeatedly rejected the short-term preferences
of management when their long-term welfare has been imperiled. Increasingly,
long-term shareholder welfare is becoming embodied in our laws and ethical
customs.
In the
1980s, shareowners instituted executive-pay guidelines and poison-pill-takeover
protections. In the early 1990s, they voted to remove the CEOs at Westinghouse,
American Express, IBM, Kodak, and General Motors. More recently, shareowners
forced Wendy’s to join the fair-food program and DuPont to account for the
long-term disposal of the 10 trillion plastic pellets they manufacture annually.
All these measures have the same cause and effect: Shareowners are instructing
managers of the companies they own to incur short-term costs in exchange for
what they believe will lead to long-term gains.
This
trend now appears to be accelerating, with more environmental and social
concerns rising. Why? Because the demographics of shareowners are shifting to
pensioners who want the value of their investments to be maximized over 25–30
years, not 25–30 days. Growing numbers of shareowner resolutions seeking lower
carbon emissions or increased workforce diversity make sense in this context.
What retiree wants to live in a world with unbreathable air, undrinkable water,
and whole segments of society underemployed? If most shareowners say they want
every employee of Walmart to have access to GED certification, free college
tuition and books — which they now do — what non-shareowner has the right to
stop them?
Krein
says, “Conservatives should develop their own investment frameworks.”
Conservatives already have an investment framework: whatever a majority of
shareowners of a specific company decides. Study the history of corporate
governance closely. You’ll see shareowners have repeatedly asserted their
rights in important, evolving ways. There is no practical alternative to
shareowner primacy. Neither progressives nor conservatives have the right to
cry foul when they feel that primacy is abused. Today, virtually anyone can buy
a few shares of a company and fight openly for more sensible strategies.
Competition in corporate governance is partly what led Vivek Ramaswamy to start
Strive Asset Management. In time, this debate will sort itself out. Nothing
would be more unconservative than claiming that there should be one, new,
transfixed investment framework. There should be multiple competing ones, so
asset owners can exercise informed choice.
V.
Prioritize Efficient Remediation Policies That Work
And now
we come to the “remediate negative externalities” part, the part where
conservatives have been weakest. Fortunately, our tools and opportunities here
are multitudinous.
Consider
the Lab for Economic Opportunities at the University of Notre
Dame. This group of nonpartisan academics are on a mission: to outsmart
poverty. Rigorous data analysis has led them to many counterintuitive
conclusions. To lower adolescent-recidivism rates, teach Aristotelian ethics to
high-school dropouts. To multiply accreditation rates in community colleges,
provide enrolled, unwed mothers free caseworker counseling. And to match
education with employment opportunities more optimally, stop telling everyone
to go to college. There are tens of thousands of reliable career pathways in
the information-technology industry. Most can be accessed through tuition-free
certification programs.
Similarly,
the Environmental Defense Fund has helped dozens of U.S.
corporations save more than $1.6 billion in energy costs while boosting their
operational efficiency. For example, EDF showed McDonald’s how to reduce its
packaging and waste by 30 percent while saving millions of dollars annually.
EDF is changing industrial-scale farming and fishing in ways that will enable
growing populations to feed themselves forever, even as climate changes.
What do
these two sets of powerful, remediating policies illustrate — the first social,
the second environmental? First, that sensible solutions are neither red nor
blue: They are simply sensible. Second, that many of our best policy solutions
have not been discovered or mandated by Julius Krein’s new government. Rather,
they have come out of private industry and America’s vibrant, globe-leading NGO
ecosystem.
LEO and
EDF are what I call “Exemplars of
Hope.” Exemplars of
Hope are NGOs or other civic service organizations that have scalable programs
and methodologies that verifiably promote more inclusive, sustainable economic
growth. The world we all hope to inhabit would be advanced by their successful
propagation. Evidence-based programs which promote more inclusive, more
sustainable economic growth are highly effective ways of countervailing two of
the most pernicious negative externalities of modern capitalism: environmental
degradation and strained social contracts. They can and should be complemented
with a broad expansion of public–private partnerships and private impact
investments — i.e., capital commitments that generate superior returns and
verifiable social and environmental advances. My research shows the “do well–do
good” private investment market may be as large as $6 trillion per year. Private impact
investments on this scale would be more than enough to achieve all the United
Nations Sustainable Development Goals by 2035, should that be the direction
voters insist we go.
***
Of
course, none of the five principles above are meant to preclude fulsome debates
about broader public-policy changes. Adherence to these five principles would
forge more optimal economic, environmental, and societal outcomes. This said,
more work is needed to discern optimal corporate-tax rates, sensible
worker-apprenticeship programs, and the lasting benefits of charter-school
choice, among other policies. Krein’s challenge was specific to ESG, however.
He said the right can’t “beat” ESG.
If
you’ve gotten this far, you probably also believe ESG is a thing worth beating,
or at least dealing with sternly. I do as well. ESG has done more harm than
good. It has misled millions of investors into thinking that the way to
transform our industries, live more sustainably, and still enjoy abundance is
to tilt and time shareownership. They are wrong. The world would be far better
without these misconceptions. In the interests of ESG’s speedy demise and my
conservative beliefs, however, allow me to suggest another course of action.
Remember
the BRIC phenomenon that began in 2001? We were all repeatedly told to
prioritize Brazil, Russia, India, and China in our portfolios. By the time the
Global Financial Crisis rolled around a few years later, these four countries
had become irreconcilable bedfellows. Who wants to invest in Russia now?
Similarly, FANG became FAANG before markets broke up the band. Today, no one
believes Facebook (Meta), Apple, Amazon, Netflix, and Google are essential
building blocks of a sound portfolio.
Acronym-based
investment fads invariably burn themselves out. The same is already happening
with ESG. Its persistent
underperformance and
fading credibility as an investment paradigm has shown all who can see that ESG
is failing on its own terms. Professional calls for ESG advocates to produce more
compelling evidence about the longer-run resilience of their products have gone
unanswered for a reason: There is no such evidence. At a minimum, ESG as an investment
paradigm needs a divorce. E, S, and G became conjoined because the original
United Nations Principles for Responsible Investing proposed that they should.
No rigorous analysis was ever conducted about their combined salience. The case
for their immediate disaggregation is irrefutable. I believe ESG will soon go
the same way as BRIC and FAANG. We are witnessing an investment fad in terminal
decline.
But
what’s the real lesson in this, most especially for conservatives? It’s not
just that all acronym-based investment strategies are specious. Rather, it’s
that sticking to our principles over the long run works. It also lets a lot of
Sturm und Drang simply blow over. Conservatives and progressives should both
point out ESG’s inconsistencies and failures, but neither should be goaded into
more time-consuming fights, especially when our energies are so badly needed
elsewhere.
Which
brings me to the far more important topic of energy reliability and
independence. Instead of debating whether ESG was good yesterday, today, or
tomorrow, can we please finish building critical oil-and-gas pipelines in
California and West Virginia so that their residents get the power they need to
thrive? The private capital is ready: As you’d expect, they are only waiting
for government permits.
And
remember, solving real human problems efficiently is what true conservatism is
all about.
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