ESG: Another business practice that government should leave alone

Running a business is hard these days. Heavy-handed regulations and higher taxes are expected when leftists are in power. But industry became shell-shocked when traditional conservative allies targeted corporate environmental, social, and governance practices. No wedge has shredded the historic alliance between these long-standing allies more than such disputes.

This spring, waves of anti-ESG legislation shook corporate confidence in red states. Prohibitions became so troublesome that firms, including fossil fuel companies, began reporting the laws as new business risks in their 10-K filings. During Republican-led “ESG Month” this summer, hearings oscillated between healthy ESG skepticism and a witch hunt. The irony is that ESG became mainstream under President Donald Trump, driven largely by voluntary market forces.

Meanwhile, Democrats continue imposing ESG on the private sector through fiat. Business surveys indicate that the main driver of ESG under the Biden administration became regulation. Blue states eye ESG enshrinement in pensions. Of particular concern is divestment from industries such as fossil fuels that the government deems unethical.

In both cases, the lesson is that ESG is dangerous when politically weaponized. Anti-ESG legislation imposes billions in costs, dubbed “anti-free market” by state chambers of commerce, and concentrates control in the hands of government officials. Pro-ESG divestment is environmentally ineffective and damages returns, while the U.S. Chamber of Commerce notes excessive disclosure regulations are counterproductive.

All this is to say, America’s self-inflicted ESG wounds have one common enemy: ignorance.

ESG is ripe for confusion. The umbrella term covers various investment and management practices. Pecuniary ESG targets enhanced returns, such as thematic risk management. This attracted fund managers in droves last decade. By contrast, values-based ESG makes normative investment decisions that may be comfortable sacrificing returns, such as fossil fuel divestment.

This distinction explains conservatives’ surprise when the first anti-ESG law resulted in Texas blacklisting financial firms that remained invested in fossil fuels, contrary to the law’s intent. Anti-ESG laws may be good political messaging against “woke capital,” but they threaten the public pensions and state economies they should protect.

A common conservative misperception is that ESG is an elite-driven conspiracy. Some ostensibly pro-liberty groups claim severe government interventions are necessary to protect economic freedom. In the backdrop of political realignment, ESG has become the litmus test for the liberty movement.

If the rise of ESG was a conspiracy, it was a conspiracy of the masses. Firms began adopting ESG not because of “woke” C-suites but because ESG values became popular with their business milieu, namely younger consumers, investors, lenders, and employees. A firm’s environmental reputation increasingly influences its earnings, credit rating, cost of capital, and human capital. Pecuniary ESG is a predictable business response to enhance shareholder returns.

Claiming that ESGupends Milton Friedman’s doctrine is blasé. Voluntary ESG reinforces Friedman’s thinking that the social responsibility of the firm is to increase profits. Today’s business climate compels many firms to incorporate stakeholders’ environmental and social preferences to maximize profit. Firms did this decades before ESG and will continue even if ESG politics force a new nomenclature.

That is not to suggest the entire ESG movement is the invisible hand’s green thumb at work. Conservatives are rightly skeptical of new regulations and governments crafting rules to favor certain industries. But swinging the government’s cudgel to promote conservatives’ preferred industries is not the answer.

Governments should be humble, not pro- or anti-ESG. That means empowering markets, providing clarity, and avoiding politicization. Targeted policies could clarify messy ESG measurements and ratings while reaffirming fiduciary standards as best for investors and retirees.

ESG also presents a buried liberty treasure. The surge of voluntary greening of businesses warrants rethinking the environmental role of government to enable private markets rather than control economic activity.

Fortunately, conservatives are becoming discerning. A recent Republican hearing framed government ESG mandates, not ESG itself, as the problem. Red states are pivoting from anti-ESG legislation toward clarifying fiduciary responsibilities. Florida, for example, passed a law permitting pecuniary ESG for state funds while safeguarding against “woke” values investing. Such narrow solutions will protect millions of pensioners from political weaponization.

America’s ESG resolution lies in free and informed markets. Just ask anyone running a business.