Economy and Society: SEC proposes additional disclosure rules for ESG Funds

Economy and Society is Ballotpedia’s weekly review of the developments in corporate activism; corporate political engagement; and the Environmental, Social, and Corporate Governance (ESG) trends and events that characterize the growing intersection between business and politics.

ESG Developments This Week

In Washington, D.C.

Former Vice President Pence continues opposition to ESG

Former Vice President Mike Pence (R), who, three weeks ago, gave a speech critiquing ESG, continued his opposition on May 26 with an op-ed for The Wall Street Journal:

“[I]n 2022 the woke left is poised to conquer corporate America and has set in motion a strategy to enforce their radical environmental and social agenda on publicly traded corporations.

A sudden abundance of liberal shareholders isn’t what’s driving this new trend of woke capitalism, and it certainly isn’t a reflection of consumer demand. Rather, the shift is entirely manufactured by a handful of very large and powerful Wall Street financiers promoting left-wing environmental, social and governance goals (ESG), and ignoring the interests of businesses and their employees.

ESG is a pernicious strategy, because it allows the left to accomplish what it could never hope to achieve at the ballot box or through competition in the free market. ESG empowers an unelected cabal of bureaucrats, regulators and activist investors to rate companies based on their adherence to left-wing values. Like the social credit scores issued by the Chinese Communist Party, a low ESG score can be devastating, making it virtually impossible for a company to raise capital—and that is exactly the point….

Without government intervention, the ESG craze will only get worse.

Mastercard recently announced that it will begin “linking employee compensation to ESG goals.” In other words, paychecks will no longer be based on an employee’s performance but on how well they conform to the woke political opinions of their supervisors.

In April, a California court struck down state laws requiring corporations to select board members based on race and sex, delivering a victory for the right to equal treatment guaranteed by the Constitution. States, cities and Congress should follow suit by adopting measures to discourage the use of ESG principles.

States with large employee pension funds invested in the stock market would be well advised to rein in massive investment firms like BlackRock, State Street and Vanguard, which manage a combined $22 trillion in assets and are pushing a radical ESG agenda. State and local governments should entrust their money to managers that don’t work against their residents’ best interests. States should also pass model legislation developed by the American Legislative Exchange Council requiring government pension-fund managers to vote the state’s shares, rather than delegating that authority to huge Wall Street firms.

Most important, the next Republican president and GOP Congress should work to end the use of ESG principles nationwide. For the free market to thrive, it must be truly free.”

Former Senator Graham op-ed opposes stakeholder capitalism 

On May 23, The Wall Street Journal ran an op-ed from former Senator Phil Gramm (R) (currently a non-resident fellow at the American Enterprise Institute) and Mike Solon, a partner at US Policy Metrics, in opposition to the emerging idea of what proponents call stakeholder capitalism:

“The 18th-century Enlightenment liberated mind, soul and property, empowering people to think their own thoughts and ultimately have a voice in their government, worship as they chose, and own the fruits of their own labor and thrift. As Enlightenment economist Adam Smith put it, “the property which every man has in his own labor, as it is the original foundation of all property, so it is the most sacred and inviolable.”

The British Parliament repealed royal charters, permitted businesses to incorporate simply by meeting preset capital requirements, and established the rules of law governing private competition. Most important, laws were made through a process of open deliberation with public votes. This democratic process replaced the intimidation of medieval stakeholders, who under the communal concept of labor and capital took a share of what others produced….

In the post-Enlightenment world, people were empowered to pursue their own private interests. Private interests and free markets accomplished what no benevolent king’s redistribution, no loving bishop’s charity, no mercantilistic protectionism, and no powerful guild ever did—deliver broad, unending prosperity.

Remarkably, amid the recorded successes of capitalism and failures of socialism rooted in Marxism, pre-enlightenment socialism is re-emerging in the name of stakeholder capitalism. These stakeholders claim that “you did not build your business” and that your labor and thrift should serve their definition of the public interest.

The initial target of this extortion is corporate America. Stakeholders argue that rich capitalists who own big businesses already get more than they deserve. But since roughly 70% of corporate revenues go to labor, the biggest losers in stakeholder capitalism are workers, whose wages will be cannibalized. And of course, the idea that rich capitalists own corporate America is largely a progressive myth. Some 72% of the value of publicly traded companies in America is owned by pensions, 401(k)s, individual retirement accounts, charitable organizations, and insurance companies funding life insurance policies and annuities. The overwhelming majority of involuntary sharers in stakeholder capitalism will be workers and retirees.

The mantra that private wealth must serve the public interest has been boosted by one of capitalism’s great innovations, the index fund. What investors gained in the efficiency of the index fund’s low fees, they are now losing as index funds use the extraordinary voting power they possess in voting other people’s shares. Whether their motives are promoting the marketing of their index funds, doing “good” with other people’s money, or, as Warren Buffett’s longtime partner Charlie Munger claimed, playing “emperor,” they have empowered the environmental, social and governance (ESG) agenda. Other stakeholders are sure to pile on, as evidenced by Sens. Bernie Sanders and Elizabeth Warren’s effort to get BlackRock to use its share-voting power to pressure a private company to yield to union demands.

Stakeholder capitalism imperils more than prosperity, it imperils democracy itself. Self-proclaimed stakeholders demand that workers and investors serve their interests even though no law has been enacted imposing the ESG agenda.”

SEC proposes additional disclosure rules for ESG Funds

Last week, the Securities and Exchange Commission (SEC) proposed new rules for funds that profess to be compliant with Environmental, Social, and Corporate Governance principles.  Since the start of the Biden administration, the SEC has argued that many purported ESG investment products are playing fast and loose with the term and are providing investors something less than what they promise. The SEC’s enforcement division has been investigating some such products for more than a year, and now the full Commission has proposed a new disclosure scheme to promote transparency:

“Regulators proposed new disclosure and naming requirements for investment funds that tap into public angst regarding climate change or social justice, in an effort to address concerns about “greenwashing” by asset managers seeking higher fees.

The Securities and Exchange Commission voted Wednesday to issue two proposals that aim to give investors more information about mutual funds, exchange-traded funds and similar vehicles that take into account ESG—or environmental, social and corporate-governance—factors. One of the proposed rules, if adopted, would broaden the SEC’s rules governing fund names, while the other would increase disclosure requirements for funds with an ESG focus.

The financial industry is split—between asset managers and those who buy their products—on the need for more SEC oversight of ESG funds. The Investment Company Institute, which lobbies Washington on behalf of asset managers, said it planned to review the proposals with its members closely but had a number of concerns, including about costs that it said investors will ultimately bear….

“What we’re trying to address is truth in advertising,” SEC Chairman Gary Gensler told reporters in a virtual press conference after the commission’s vote.

Hester Peirce, the lone Republican on the four-person commission, voted against both proposals, saying they would impose undue burdens on asset managers and nudge them toward capital-allocation decisions that only some investors favor….

The American Securities Association, a lobbying group that represents regional brokerages and financial-services firms, applauded the SEC’s proposals, saying it is appropriate to scrutinize ESG funds’ advertising, performance and fees.

“ASA supports efforts by the SEC to stop misleading and deceptive marketing gimmicks surrounding ESG funds,” the group’s chief executive, Chris Iacovella, said in an emailed statement….

Earlier this week, the SEC fined the investment-management arm of Bank of New York Mellon Corp. $1.5 million for misleading claims about the criteria it used to pick ESG stocks. BNY Mellon neither admitted nor denied wrongdoing.

Authorities are also probing Deutsche Bank AG’s asset-management arm after The Wall Street Journal reported last year that DWS Group overstated its sustainable-investing efforts. At the time, a DWS spokesman said the firm doesn’t comment on questions related to litigation or regulatory matters. A spokesman for Deutsche Bank declined to comment.”

In the States

Kentucky’s Attorney General describes ESG as inconsistent with Kentucky law

Kentucky Treasurer Allison Ball (R) recently asked her state’s Attorney General, Daniel Cameron (R), about ESG, specifically, “Whether “stakeholder capitalism” and “environmental, social, and governance” investment practices in connection with the investment of public pensions funds are consistent with Kentucky law governing fiduciary duties.” On May 26, the Attorney General’s office replied:

“There is an increasing trend among some investment management firms to use money in public and state employee pension plans—that is, other people’s money—to push their own political agendas and force social change. State Treasurer Allison Ball asks whether those asset management practices are consistent with Kentucky law. For the reasons below, it is the opinion of this Office that they are not….

[W]hile the public pension plans administered by the Kentucky Public Pension Authority has shown year-over-year improvement in funding, there is a concern that this trajectory may be threatened by extreme approaches to investment management—particularly those that put ancillary interests before investment returns for the benefit of public pensioners and state employees.

One such approach is “stakeholder capitalism.” According to its advocates, “[s]takeholder capitalism is an expansion of corporate management fealty beyond shareholders to include the workforce, supply chain, customers, communities, societies, and the environment.” What this means in reality is that investment management firms who embrace stakeholder capitalism propose prioritizing activist goals over the interests of their public and state employee clients.

To achieve this version of “capitalism,” investment management firms are adopting “environmental, social, and governance”—or “ESG”—investment practices. ESG investing is an “umbrella term that refers to an investment strategy that emphasizes a firm’s governance structure or the environmental or social impacts of the firm’s products or practices.”

American economist Milton Friedman once criticized an earlier version of this trend whereby one set of stockholders sought to convince another set of stockholders that business should have a “social conscience.” As he explained, “what is in effect involved is some stockholders trying to get other stockholders (or customers or employees) to contribute against their will to ‘social’ causes favored by activists. Insofar as they succeed, they are again imposing taxes and spending the proceeds.” Friedman found this problematic because “the great virtue of private competitive enterprise” is that it “forces people to be responsible for their own actions and makes it difficult for them to ‘exploit’ other people for either selfish or unselfish purposes. They can do good—but only at their own expense.”

Today, in perhaps an even more pernicious version of the trend, the debate is no longer left to stockholders. In fact, there is little-to-no debate. Investment management firms in some corporate suites now use the assets they manage—that is, other people’s money—to enforce their preferred partisan sensibilities and to seek their desired societal and political changes. Investment management firms have publicly committed to coordinating joint action for ESG purposes, such as reducing climate change….

Whether these ancillary purposes are societally beneficial is beside the point when speaking of the duty of fiduciaries. Fiduciaries must have a single-minded purpose in the returns on their beneficiaries’ investments….

While asset owners may pursue a social purpose or “sacrifice some performance on their investments to achieve an ESG goal,” investment managers entrusted to make financial investments for Kentucky’s public pension systems must be single-minded in their motivation and actions and their decisions must be “[s]olely in the interest of the members and beneficiaries [and for] the exclusive purpose of providing benefits to members and beneficiaries….””