Oil Field Resized

ESG and the collapse of the free market

Last month, Alabama Attorney General Steve Marshall joined 19 other states in a letter to BlackRock CEO Larry Fink, challenging BlackRock’s use of ESG as investment criteria when managing state pension funds. 

While many people know what ESG stands for—Environmental, Social, and Governance—what is it? Is implementing ESG criteria actually rooted in a desire for a more sustainable future and social justice? Do companies institute these environmental, social and government policies to boost profits and look more desirable to investors? 

ESG is not a new concept; however, certain compacts in the past few years have significantly shaped its modern scope. 

Nationally, in August 2019, close to 200 of the nation’s top corporate executives met at The Business Roundtable, where they “redefine[d] the purpose of a corporation to promote an economy that serves all Americans.” Before the Roundtable, a company’s primary responsibility was to serve shareholders, but this transitioned responsibility primarily away from shareholders to a collective commitment to other “stakeholders,” who in theory are customers, employees, suppliers, communities and shareholders. However, this collective group of “stakeholders” cannot speak as definitively as shareholders, which results in the government stepping in as a proxy on the stakeholder’s behalf. 

Globally, two months later, the World Economic Forum held Davos 2019, the annual World Economic Forum. The forum united powerful global leaders, including Larry Fink, BlackRock CEO and a driving force of the ESG movement. To paint a perspective of the weight placed on the environment at this forum, Greta Thunberg, when addressing climate, declared, “I don’t want your hope. I want you to panic. I want you to feel the fear I do. Every day. And I want you to act. I want you to behave like our house is on fire. Because it is.”

It was at Davos 2019 that the WEF and the global leaders released the Davos Manifesto 2020, redefining the universal purpose for a company. According to the manifesto, a company would “engage all its stakeholders in shared and sustained value creation.” It was decided that “the best way to understand and harmonize the divergent interests of all stakeholders is through a shared commitment to policies and decisions.” 

This directly contrasts with the longstanding belief that a company’s primary goal is to maximize profits for shareholders. In fact, advocating for this stakeholder model, WEF founder and executive chairman Klaus Schwab stated, “companies will need new metrics. For starters, a new measure of “shared value creation” should include “environmental, social, and governance” (ESG) goals as a complement to standard financial metrics.” Furthermore, Schwab declared, “in short, we need a ‘Great Reset’ of capitalism.” 

By definition, ESG criteria are a “set of standards for a company’s behavior used by socially conscious investors to screen potential investments.” There are a plethora of ranking agencies that grade companies on the three pillars of ESG: environmental, social and governance.

  1. Environmental: In theory, environmental criteria considers company policies regarding the protection of the environment, such as how the company is addressing climate change. Therefore, a high score would be rewarded to a wind turbine manufacturer, while a timber company would have a low score.  

  2. Social: The second pillar grades companies on employee relations and the number of equitable policies implemented surrounding areas such as diversity, safety and conflict. For example, a corporation with a gender and racial equity task force would have a high score.

  3. Governance: Lastly, governance analyzes a company’s leadership and corporate structure. Theoretically, a company with a board of directors that includes people who identify as LGBTQ+ would score higher than an all-male board of directors. 

    However, this is where things get complicated – in their quest for objectivity, agencies set their own subjective criteria. There are more than 140 ranking agencies and key metrics and weights are up to each agency’s discretion. Take S&P and MSCI ESG Ratings for example. Last year, S&P Global released ESG scores based on S&P’s own Corporate Sustainability Assessment (CSA) and public sources. However, MSCI ESG Research, one of the largest ESG rating providers, ranks companies based on a list of 35 key issues the agency subjectively created itself. 

Would you make investment decisions based on ESG scores when it’s based on such subjective criteria?  

As part of MIT Sloan’s Sustainability Initiative, researchers Florian Berg, Julian Koelbel and Roberto Rigobon studied the correlation among five global agencies’ ESG ratings and found the average was 0.61, revealing those ESG rating agencies only agreed roughly half of the time. However, the researchers found Moody and S&P’s credit ratings correlation to be 0.99. Unlike ESG ratings, traditional financing credit ratings were highly consistent. Would you invest using ESG criteria when the ratings vary so much? 

What is a key issue for one ESG score provider isn’t always the same as another. While there is no consistent or objective methodology, what remains consistent is a structure where investment decisions based on ESG criteria assumes stockholders’ primary concern when investing isn’t profit, but the amount of social responsibility a company contributes to society. Through ESG, the demand for products, services and other free market priorities are last

What do these ESG rankings show potential investors? Well, in theory, large oil, gas, and coal companies would have a low ESG score based on the environmental portion, while an electric vehicle company would score a high “E” score. A corporation with racial and gender equity initiatives would score higher in the social category than a company that emphasizes equal opportunities over equal outcomes. Thirdly, companies that have a diverse board of directors and salary equalization would be rewarded with a high governance score. 

In a world where ESG is embraced, the government will determine what companies are invested in and which are given loans. Small businesses and those who do not embrace progressive ideologies will be crushed by those that do. Furthermore, the market is skewed when profit isn’t the basis of value. For example, companies that wouldn’t have been as profitable before ESG scores are now valued higher than previously more desirable businesses based on certain policies, instead of what the free market desires.

The government is already influencing corporations to be a part of the ESG movement through subsidies and regulation. As a result of the Inflation Reduction Act, taxpayers will finance $30 billion of subsidies for renewable energy. The government also regulates emission laws, setting limits that gas-powered vehicles cannot meet. This makes it difficult for corporations to participate in the marketplace and incentivizes them to change their products. The free market is manipulated when the government, through regulatory laws, forces corporations to change in order to meet certain demands. At the same time, when the government subsidizes clean energy, traditional coal company’s profits fall, and investor appetite shifts away from those companies to the ones the government subsidizes. Hand in hand, government subsidies and regulation all limit the free market. 

Let me also say that caring for the environment is a noble cause, but coal companies shouldn’t be penalized in the pursuit of clean energy. Nuclear power is now cleaner than ever. However, the ESG movement, through criminalizing nuclear power, prohibits the free market from offering noble solutions for clean energy.

Does ESG help shareholders make investment decisions? Well, it depends on if you want your investment portfolio to be profitable or ideologically progressive. 

However, even if one wanted to use ESG as an investment tool, the rankings don’t reflect its intended purpose. For example, Tesla, the largest electric vehicle manufacturer, wasn’t listed on the May 2022 S&P 500′s ESG index. However, ExxonMobil and Marathon Oil were listed. 

Why would oil and gas corporations have higher ESG ratings than the largest electric vehicle provider? 

Well, rankings highlight that in reality, much of ESG is not rooted in environmentalism but is rather a form of bureaucratic virtue signaling used to promote progressive diversity, equity, and inclusion policies that are undermining corporations today. 

In short, ESG is a tool the progressive left uses to mandate its agenda in the private sector. What does ESG really look like?

The ‘environmental’ part of ESG criteria involves radical climate activism based on the assumption that humans are at risk of extinction due to climate change. Practically implemented, this looks like solar subsidies and banning oil and gas. 

  1. The ‘social’ part of ESG takes the form of implementing diversity and inclusion policies in the workplace.  

  2. The third pillar of ESG, ‘governance’, refers to social credit scores and ‘equity’: companies may adopt HR policies like racial quotas that revolve around ‘equity’, in other words, equal outcomes instead of equal opportunities

Andy Puzder, senior fellow at the Pepperdine University School of Public Policy, described ESG well when he said it is a “world where profit takes second place to a preoccupation with income inequality, race and gender sensitivity, and climate alarmism.” 

One shouldn’t have to look at an ESG score to decide in which bank they should invest their money. Likewise, a family shouldn’t choose an attorney to defend them in a trial based on the firm’s ESG score. With the use of ESG criteria, businesses are no longer judged by the quality of their work but by their radical environmental and progressive policies. 

Alabamians have a decision to make: embrace the collapse of free market capitalism or restore the American ideology that objective, not subjective metrics and profitability matter when making investment decisions.  

Emma Gibney

Emma Gibney

Emma Gibney serves as the Alabama Policy Institute’s Policy Communications Manager.

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