ESG has fast become the defining issue of the moment for corporate leaders and investors alike. This rapid embrace of sustainability and social purpose is an understandable, and mostly welcome, reaction to corporate excesses of the past. However, there are dangers in the uncritical haste with which the pursuit of profit is being tossed aside in favour of more nebulous goals, which even ESG’s most enthusiastic proponents struggle to define.
Chief among them is a reductionist approach to what are by their nature complex issues that touch on a wide variety of ethical, moral as well as scientific assessments of what is good and right. Already we can see this in light of how meeting global net zero carbon emission targets have come to dominate current discourse at the expense of issues around social impact and corporate accountability that are arguably more pressing, but also possibly harder to fix.
This reductionist approach sees massive efforts being deployed into developing comparative frameworks purporting to quantify and measure ESG performance across companies and asset classes, much as traditional investors have long valued companies on the basis of their audited accounts.
Equally problematic is the way too many ESG boosters simply wave aside concerns that a much more diverse and diffuse stakeholder agenda will involve real and often very difficult trade-offs. How do you weigh up the benefits of eliminating palm oil or switching from non-recyclable coffee cups to paper, against the value of a more diverse workforce, or putting money into under-funded pension funds or boosting R&D?
Cynics may also wonder if the enthusiasm for E over S and G is because it is easier for CEOs to agree to a demanding carbon reduction target sometime in the future, as opposed to a C-suite pay-cut today. They may also question how much of the zeal for high-minded social purpose statements is just an attempt to fix battered corporate reputations that have yet to recover from the Global Financial Crisis at a time when public support for higher taxes and intrusive regulation is at an all-time high.
Up to now the rapidly expanding army of ESG consultants has had a relatively easy ride. Thanks to the wall of money flooding into ESG badged funds—from $59bn at the end of 2019 to $174bn at the close of 2020 according to data from TrackInsight, an ETF data provider—stock prices of companies with good ESG stories to tell have outperformed “dirty” stocks by a significant margin.
But it is still early days. Scratch the surface and things don’t look quite so rosy. Much of that stock market outperformance comes down to a few tech giants. They don’t produce much carbon. But then they don’t make things, dig things out of the ground or move things around. They have also benefited hugely from people being stuck at home because of the Covid-19 pandemic. Worse, these tech giants often score badly on other ESG criteria. They are averse to paying taxes or unionising workers, not to mention their willingness to go to war with democratically elected governments over such fundamental values as freedom of information and policing fake news.
As Vincent Deluard, global macro strategist at StoneX, a New York-based brokerage, has told the Financial Times: “ESG funds are unconsciously worsening the social and political crisis associated with automation, inequality and monopolistic concentration…despite its noble goal, ESG investing unintendedly spreads the greatest illnesses of post-industrial economies. “
With commodity prices now rising strongly, “dirty” stocks are in any case coming back. The most valuable company on the London Stock Exchange is an Australian miner that, among other things, feeds an overgrown Chinese steel industry with iron ore and coking coal.
Those who preach corporate responsibility as a solution to society’s ills do so with the best intentions. The modern corporation is an immensely powerful form of organisation, with all that implies for both good and ill. And we have seen from multiple scandals, ranging from Enron to Wirecard, what can happen when corporate leaders check their moral and ethical standards at the boardroom door.
But society and the economy will be poorly served if we allow good and worthwhile intentions to cloud judgement. No one will benefit if the current enthusiasm for ESG ends up disappointing because it has created expectations that are impossible to meet.
We need to temper our rightful desire for more ethical and responsible corporate behaviour with a healthy dose of realism about what business alone can and cannot achieve. Alongside our natural desire for mechanisms to hold corporate power to account, we must be cognizant that, in the words of Albert Einstein, “Everything that can be counted does not necessarily count – and everything that counts cannot necessarily be counted.”
Neither we as citizens, nor our elected leaders, can delegate the task of sorting out society’s ills to money managers or superstar CEOs alone. Yes, it is good that business leaders and investors recognise the influence they wield and the responsibility that comes with it. But it is for governments and our elected representatives to take due responsibility for arbitrating between the competing demands of efficiency and equity.
It is the job of governments to legislate minimum labour standards. They can use the tax system to redistribute wealth and income from the super-rich to those to whom society attributes greater value than the market, or to penalise undesirable activities and reward those that advance broader social goals. They can dictate how much weight to give human rights considerations or domestic policy interests in setting trade and foreign policy objectives. They have massive spending power as well as primary responsibility for areas like health, security and overall living standards that are core to the ESG agenda. Crucially, they are accountable to their electorates and society as a whole in a way investors and corporate leaders can never be.