The week of March 28: the ESG swamp, tax, inflation, social mobility, the pandemic, and much, much more.
It’s probably time for me to write about the SEC’s climate-related disclosure proposals, the latest example of how the Biden administration is pursuing its agenda through regulation rather than legislation.
And I shall, but for now, here’s Richard Morrison writing on the topic for Capital Matters here:
This is a major move for the agency, which had previously tried to avoid taking sides in politically contentious public-policy debates. The SEC’s proposal would be difficult, on any reasonable interpretation, to square with the exercise of its normal authority over financial markets, and is yet another troubling example of regulatory mission creep. It is also a disappointing and alarming development for those who care about property rights and a competitive, growing economy . . .
And Rupert Darwall in The Hill:
“Let us be honest about what this proposal is really trying to do,” [dissenting SEC commissioner’] Hester Peirce writes. “Although styled as a disclosure rule, the goal of this proposal . . . is to direct capital to favored businesses and to advance favored political and social goals.”
Climate disclosure is not, as the SEC claims, about giving investors information about climate risk. Rather, its main purpose is to force companies to provide information on their greenhouse gas emissions and those of their suppliers and customers so that shareholders, interest groups and others can enforce net-zero targets on them through proxy votes and other forms of engagement . . .
A focus on climate change has become one of the defining features of ESG — a form of “socially responsible” investing that measures actual and potential portfolio companies against certain environmental, social, and governance benchmarks.
But while central planners and (to the extent there’s a difference) corporatists — and those who feast off ESG (again, to the extent there’s a difference) — are doing well, the concept has taken a battering of late, whether because of the recent underperformance of ESG-investment strategies or because of ESG’s bruising encounter with the reality represented by Russia’s invasion of Ukraine and its wider consequences.
In more bad news for ESG’s cheerleaders, New York University finance professor Aswath Damodaran (whose work I have referred to before, here) has delivered a few new thoughts on this, uh, investment discipline. His introduction gives just the tiniest hint of what is to come:
I believe that ESG is, at its core, a feel-good scam that is enriching consultants, measurement services and fund managers, while doing close to nothing for the businesses and investors it claims to help, and even less for society.
Say it ain’t so!
Damodaran believes that “a moment of reckoning” is coming for ESG (in time). I’m not convinced, at least so far as the foreseeable future is concerned. There is enormous institutional muscle behind it, including from its backers in the White House and the regulatory apparatus, not to speak of that from those in the financial sector who stand to generate profit, power, and prestige from embedding ESG into modern capitalism.
Damodaran reminds his readers that one of the virtues (supposedly) of ESG is that by encouraging good corporate behavior, it would insulate shareholders in high ESG-scoring companies from disasters of the type that we have seen in recent years. But he takes a look at a rather recent example, and:
There is no evidence that Russia-based companies had lower ESG scores than companies without that exposure. In my last post, I looked at four Russian companies, Severstal, Sberbank, Yandex and Lukoil, all of which saw their values collapse in the last few weeks. When I checked their ESG rankings on Sustainalytics ranked each on February 23, 2022, each of them was ranked in the top quartile of their industry groups, though they all seem to have been downgraded since, with the benefit of hindsight.
And the ESG “rulebook” didn’t look too good either (my emphasis added):
It is true that the emphasis on climate change that skews ESG scores lower for fossil fuel and mining companies would have kept you from investing in Lukoil and Gazprom, among other Russian commodity companies, but it would also have kept you from investing in other companies in these sectors, operating in the rest of the world. As I noted in my last post on Russia, that would have kept you out of the best performing sector since Russia invaded Ukraine. In short, if there is a lesson that this crisis has taught us, it is that treating fossil fuel producers as evil, when they produce much of the energy that we use, is delusional.
Meanwhile:
A Bloomberg Quint study of ESG funds uncovered that they had $8.3 billion invested in Russian equities on February 23, 2022, almost all of which was wiped out during the next few weeks. In fact, the saving grace for ESG funds has been the fact that Russia did not have a large investable market, for both ESG and non-ESG funds . . .
For those who continue to insist that the corporate reaction [companies leaving Russia] to the . . . invasion is a sign of moral awakening at companies, I propose a thought experiment. If China had invaded Taiwan, do you think that companies would have been as quick to abandon their Chinese holdings and business? Do you think that investment funds would have been so quick to write off their Chinese holdings? On a more personal level, would you be willing to give up all things “Chinese”, as quickly as you were willing to give up drinking Russian vodka? They are hypothetical questions, but I think I know the answer.
I think we all do.
After all, ESG investors invested in China (and I am including in the ESG category both dedicated ESG investors and those investment managers who claim that ESG is embedded in their entire active investment approach) have seemed remarkably sanguine about putting money into a country where an authoritarian regime is pursuing genocide and has crushed what’s left of Hong Kong’s freedom. Nor do they seem too fussed that “governance” in a country where every company (directly or indirectly) is subordinated to the state is a joke.
Or take a look at the recent letter to shareholders by Larry Fink, the chairman and CEO of ESG evangelists BlackRock:
BlackRock has been committed to doing our part. Grounded in our fiduciary duty, we moved quickly to suspend the purchase of any Russian securities in our active or index portfolios. Over the past few weeks, I’ve spoken to countless stakeholders, including our clients and employees, who are all looking to understand what could be done to prevent capital from being deployed to Russia.
Etcetera, etcetera.
Now check out how often China features in that letter.
Spoiler: It doesn’t.
On the other hand, go over to BlackRock’s website:
As China grew to become the world’s second largest economy after the U.S., foreign investors often struggled to benefit from the country’s full range of growth opportunities. This story is changing quickly, as policymakers seek to liberalise access to Chinese stock and bond markets while making them more squarely aligned with international standards. This has material implications for all investors, whether individuals or large, sophisticated institutional investors. Much is changing in China, and the cost of ignoring this emerging opportunity might prove too high, especially over the longer term.
Oh yes, “much is changing” in China all right. It is changing into a fascist state with Chinese characteristics, something, it seems, that is (to many) ESG-compatible.
In this context, it’s interesting to read Damodaran on the effort to arrive at some sort of standard definition of ESG (something that is an increasing area of regulatory focus):
Even ESG measurement services are willing to admit that the current ESG ratings for companies are flawed, but they all contend that better measurement is around the corner, premised on two assumptions. The first is that ESG disclosures will improve, as regulators force companies to reveal more about their environmental and social performance, and that this data will improve measurement. The second is that as ESG ages, we will develop consensus on what comprises goodness, and when that occurs, there will be a higher correlation across services. I don’t believe that either assumption is realistic. Drawing on the experience with corporate governance and stock based compensation, both areas where the volume of disclosure has ballooned over the last two decades, I would argue that disclosure has actually created more distraction than clarity, and I don’t see why ESG will be any different. As for converging on what comprises “good”, why in God’s name, in a world where everything is partisan, would you expect consensus to magically form in the investment community?
And then there is this:
Over the last decade, ESG advocates have argued that even if following ESG precepts does not increase shareholder value or generate higher returns, it does good for society, by stopping bad practices. Some of ESG’s biggest “wins” have been in the fossil fuel space, with Engine Number 1’s success in forcing Exxon Mobil to adopt a smaller carbon footprint, being presented as a prime exhibit. Under investment pressure, there is no denying that publicly traded oil companies, primarily in the West, have scaled back their search for oil and gas, and sometimes scaled back and sold reserves. The key word here is “sold”, since those reserves have often been bought by private equity investors, who have collectively invested more than a trillion dollars in fossil fuel reserves and development over the last decade. Is it any surprise then that despite all of the ESG wins, the world remains overwhelmingly dependent on fossil fuels? In fact, all that ESG activists have managed to do is move fossil fuel reserves from the hands of publicly traded oil companies in the US and Europe, who would feel pressured to develop those reserves responsibly, into the hands of people who will be far less scrupulous in their development. If this is what winning looks like in the ESG world, I would hate to see what constitutes losing!
Damodaran speculates as to what the next big thing might be and takes a guess on “sustainability,” which has the merit, to its proponents, of being another term that is tricky to define with much precision. I do think there’s quite a bit to that, even if I interpret the way that “sustainability” is coming to be used more charitably than does Damodaran, who sees it (essentially) as a fancier way of saying “long term.” I think it is more precise, and more akin to ESG, than that. The border between ESG and “sustainability” is ill-defined and poorly patrolled — a blurring that is, of course, also another profit opportunity.
That said, Damodaran’s analysis of how the “next big thing” (after ESG) will be decided upon is as brutally entertaining as it is credible. And for that matter, do read the whole of Damodaran’s piece, a dissection of ESG that is as brilliant as it is necessary.
His conclusion?
When I first wrote about ESG two years ago, I did so because I was skeptical of the unquestioning belief that people had in its success. I initially believed that it was a flawed concept that needed fixing, but after two years of interactions with people who claim to know the concept really well, but don’t seem to be capable of making solid cases for it, and witnessing its takeover by well heeled entities with agendas, I am convinced that there will soon be room for only two types of people in the ESG space. The first will be the useful idiots, well meaning individuals who believe that they are advancing the cause of goodness, as they toil in the trenches of ESG measurement services, ESG arms of consulting firms and ESG investment funds. The second will be the feckless knaves, who know fully well the void behind the concept, but see an opportunity to make money. I know that those are not edifying choices, but I don’t see any good ones, other than leaving the space completely. Good luck!
The main thing I’d add to that is that ESG is also a tremendous device for advancing a political agenda without the bother of going through the electoral process. As such, it is not only a device for the accumulation of profit (and a large number of functionally useless jobs) but, as mentioned above, power. And for some, power is enough.
So, what is to be done?
Well, I’m thinking aloud, but perhaps begin with some changes to the rules:
- No 401k funds or public-pension monies should be invested in ESG funds (or managed in a way compatible with ESG principles) without the express consent of those for whom the money is being invested. It should never be a default option, and where it is an option, it should come with a warning that such an investment may not only come with higher fees but, quite possibly, higher investment risk (something similar should be required in the case of all public mutual funds, ETFs, and so on);
- SEC regulation of ESG products should be confined only to the requirement that they should be honestly sold, and with full risk disclosure. There should be no attempt on the SEC’s part to provide a standard definition of ESG; and
- Shareholders in passive investment funds should be given the ability (or its functional equivalent) to vote the shares (indirectly) held on their behalf (there is some discussion of how this might be achieved here).
And that’s just to start with.
The Capital Record
We released the latest of our series of podcasts, the Capital Record. Follow the link to see how to subscribe (it’s free!). The Capital Record, which appears weekly, is designed to make use of another medium to deliver Capital Matters’ defense of free markets. Financier and NRI trustee David L. Bahnsen hosts discussions on economics and finance in this National Review Capital Matters podcast, sponsored by National Review Institute. Episodes feature interviews with the nation’s top business leaders, entrepreneurs, investment professionals, and financial commentators.
In the 60th episode, David is joined by Kenin Spivak of SMI Group to talk about the mad rush toward corporate policies of diversity, equity, and inclusion, what they are doing to hurt the cause of opposing discrimination, and what they are doing to hurt economic productivity. Kenin is a investment banker and corporate attorney with vast expertise in this field and a keen understanding of what the risks of the woke religion are to the cause of a free society.
The Return of the Regional Seminars
National Review Institute is back on the road with its biennial Regional Seminars. This year’s series, titled “Creating Opportunity,” will feature panel discussions and one-on-one conversations that make the moral and practical case for free enterprise.
Notable speakers include William B. Allen, David L. Bahnsen, Jack Brewer, Dale R. Brott, John Buser, Veronique De Rugy, Kevin Hassett, Pano Kanelos, Rich Lowry, Karol Markowicz, Andrew C. McCarthy, Andrew Puzder, Amity Shlaes, Kevin D. Williamson and, less notable, me.
We hope you will join us. You can learn more and purchase tickets here.
The Capital Matters Week That Was . . .
Taxation
Jonathan Williams and Lee Schalk:
As he delivered his State of the Union address against a backdrop of war, historic levels of inflation, and rising energy prices, President Biden outlined a slate of costly federal “solutions.” By contrast, Iowa governor Kim Reynolds, who delivered the official response to the president’s speech, showcased how state leaders are delivering meaningful solutions to Americans right now — without waiting on those operating within the bureaucratic D.C. bubble.
Just hours before delivering her response to the president, Governor Reynolds signed into law the largest tax cut in Iowa history. It provides an estimated $2 billion in tax relief, which is the largest tax-reform package, and in our opinion, the most impressive policy accomplishment of any state so far in 2022 . . .
On Friday, I wrote about the delusional policies many states are pursuing in response to high gas prices. Among those are one-time tax rebates and short-term tax holidays. I argued that states are missing a huge opportunity to make meaningful, long-lasting reforms to their tax codes and fix other budgetary problems.
Today, Jared Walczak of the Tax Foundation has a blog post about how tax rebates and holidays don’t work. It’s not a theoretical question; these policies have been tried before . . .
Some people think taxes are too high. Some people think taxes are too low. But I wonder whether most of us could agree that we have enough individual taxes — and maybe too many taxes — irrespective of the question of tax rates.
President Joe Biden, who is and always has been a political coward, is talking about a new “billionaires’ tax” that he pretends he wants to see enacted. The tax would be economically destructive, would produce little revenue, and is almost certainly unconstitutional in that it would tax imaginary income, treating investment gains as actual income: Imagine being taxed on the notional increase in the value of your house over the past few years irrespective of whether you have sold your house and made the money, and you’ll get the general idea. President Biden is intellectually lazy and very well may be somewhere in the general vicinity of positively stupid, but he has enough self-preserving animal cleverness to know that this is unlikely to ever be anything more than a talking point. Senator Joe Manchin has already put his name on its death warrant . . .
How much in unearned wages will you pay taxes on next year? Better yet, how many yet-to-be-born children do you plan to include on your tax return? If these questions sound ridiculous to you, then you will understand exactly why proposals to tax unrealized capital gains are equally absurd.
Earlier this week, the president proposed a minimum 20 percent tax rate that would hit both the income and unrealized capital gains of U.S. households worth more than $100 million as part of his budget proposal to be released on Monday. But don’t let those seemingly simple parameters fool you — this tax would hurt everybody . . .
The Pandemic
The defining event in the history of Western Covid lockdowns occurred on March 16, 2020, with the publication of the now infamous Imperial College London Covid report, which predicted that in the “absence of any control measures or spontaneous changes in individual behaviour,” there would be 510,000 Covid deaths in Great Britain and 2.2 million in the United States. This prediction sent shock waves around the world. The next day, the U.K. media announced that the country was going into lockdown.
The impact of the report was amplified by the U.K’s soft-power machine, the BBC. Its reach has no equal: broadcasting in 42 languages, reaching 468 million people worldwide each week, and efficiently disseminating its message. With the BBC in full cry and the public genuinely alarmed, there was no room for dissent . . .
Energy
There is a perfectly respectable argument to be made that the world should be reducing its greenhouse-gas emissions. There’s also a perfectly respectable argument to be made that the West’s current “race to net zero” is not only reckless, but, given the attitude of major GHG emitters such as China, Russia, and India, largely pointless. The idea that the West is going to inspire these countries to change their ways with the force of its moral example is laughable, an embarrassing display of both naivete and self-importance.
It is also the case that by participating in this “race,” the West is putting itself at a substantial geopolitical disadvantage, both by weakening its own economies and by putting itself in a position where it has to rely on unfriendly or unreliable countries for its energy, something, of course, that is particularly true of those EU countries which have become dangerously dependent on Russian oil and, even more so, natural gas. That’s not a problem that is going to be fixed overnight, and it is also a problem that, in the wake of the Russian war on Ukraine, has become very pressing indeed . . .
Among the many casualties of the Ukraine war is a political one in Germany, the country’s Energiewende (energy transformation), which was launched by Angela Merkel more than a decade ago. Many Germans were immensely proud of this transformation, which was designed to put Germany in the forefront of fighting climate change. It involves massive investments in renewables and the end to nuclear power in Germany. However, Putin’s aggression has highlighted something that was already obvious: just how fatally vulnerable this transformation has left Europe’s largest economy . . .
President today announced a plan to reduce gas prices. It’s a perfect reflection of his party’s completely incoherent energy policy.
The White House fact sheet describing the plan says it is in response to “Putin’s Price Hike,” which has apparently assumed proper-noun status. (Unorthodox capitalization must be contagious among presidents.) As I’ve noted before, Russia’s invasion of Ukraine did cause a spike in oil prices, which sent gas prices up as well, but U.S. gasoline prices were rising for more than a year before Putin sent in his troops . . .
Education
To hear the education establishment talking, you would think that the higher your level of “attainment,” the better off you’ll be. College beats high school and advanced degrees beat college. The more you “invest” in education, the more your return.
But it’s just not true. “Higher attainment” often has most cost than benefit. In today’s Martin Center article, writer Matthew Wilson looks at a recent study by Preston Cooper where he studied the return on investment of a large number of graduate programs. Naturally, some programs prove to be highly profitable, but many others have a negative yield . . .
Despite a banner year for the school-choice movement in 2021, state spending on school-choice programs such as vouchers, education savings accounts, and tax-credit scholarships consists of less than 0.5 percent of total K–12 public-education expenditures in the U.S. This is because most programs are narrowly targeted to subgroups such as students from low-income families and those with disabilities.
For state legislators, the obvious solution to this supply-and-demand problem is to establish programs that are available to all student groups while expanding eligibility under existing policies. The good news: More than 30 states are considering school-choice legislation this session, unlocking millions more dollars for families to spend on private educational services . . .
Supply Chains
Shanghai is locking down as Covid cases rise. The measures are expected to be the most extensive lockdown in China since the Wuhan lockdowns over two years ago. Chinese authorities have ordered nonessential businesses and transportation to shut down at least until next week.
As one of the world’s largest urban areas in the world’s most populous country, what happens in Shanghai matters to the rest of the world. Shanghai is home to the busiest ocean port in the world for containerized cargo and one of the busiest airports for cargo planes . . .
China
Vladimir Putin’s Russia is currently learning the hard way about the devastating economic costs of the Ukrainian invasion spearheaded by its leader. Before offering Russia support in its war effort, Chinese president Xi Jinping would do well to heed these economic lessons. With all of China’s present economic weaknesses, the last thing that the Chinese economy needs now is U.S. sanctions on its exports — which support for Russia’s war would almost certainly invite.
In waging his war with Ukraine, Mr. Putin likely did not expect a unified Western economic counter-response. Perhaps he thought that the $630 billion war chest of international reserves he had built up would be sufficient to insulate the Russian economy from any Western sanctions.
In the event, that assumption proved to have been mistaken . . .
Social Mobility
Twenty-first century America may be dominated by oligarchic elites, but arguably the biggest threat to our economic and political system might be located further down the food chain. This most dangerous class comes from the growing number of underemployed, overeducated people. They’re what has been described in Britain as the lumpenintelligentsia: alienated, angry, and potentially agents of our social and political deconstruction.
This is far more than an angry mob shouting in keystrokes, but the proto-proletariat of a feudalizing post-industrial society . . .
Regulation
Remember all the blather from Hillary Clinton and other statist politicians on how they will create “an economy that works for everyone” if put in power? Actually, that is a worthy goal, but the way to go about it is not through ever-increasing government control, but by doing the exact opposite.
So argues Iain Murray of the Competitive Enterprise Institute in this Law & Liberty essay . . .
Inflation
There are quite a few reasons why the president’s approval rating might have fallen, but if MSNBC is relying on the strength of the economy to bail him out, inflation is standing in the way. Inflation is, for the most part, a strongly regressive tax. It hits less affluent Americans hardest, and it is something that they (which is, in reality, most people) notice every day, particularly (obviously) when shopping. Sticker shock at the supermarket is a continuous reminder that your dollar is not going as far as it used to . . .
ESG
BlackRock, as anyone who has been following the way that it has been throwing its considerable weight around over climate change knows, is managed by a team that believes that it knows what’s best for us all.
But it’s always useful to be handed a hint of what at least some of its senior management probably thinks of (most of) us, too — although it has never been hard to guess. Part of the charm of the “socially responsible” investment approach so heavily promoted by BlackRock is that it is a way of advancing a political agenda while bypassing the democratic process . . .
Fiscal Policy
When discussing the long-term fiscal outlook, what makes the most sense is to talk about overall federal debt as a share of the economy. The debt-to-GDP ratio has been on an upward trajectory for decades because of a combination of fiscal mismanagement by both political parties combining with the retirement of the Baby Boomers and health-care inflation. In 2019, just before the pandemic, debt had risen to 79 percent of GDP. Due to the surge in pandemic-related spending and the drop in revenue from a lockdown-battered economy, debt surged past 100 percent for the first time since World War II. While it is common for debt to rise during national emergencies, in the case of World War II, debt levels receded at the conclusion of the war. But the Biden budget does not anticipate that at all.
In fact, the Biden budget expects debt to grow from 102 percent of domestic product in 2022 to nearly 107 percent by the end of the budget window in 2032. That would exceed the World War II record.
Though Biden does claim $1 trillion in deficit reduction as a result of trillions in proposed tax increases, his budget relies on what the Manhattan Institute’s Brian Riedl has flagged as a “magic asterisk.” . . .
Russia
A significant part of the legacy left behind by Angela Merkel (“leader of the free world,” the “indispensable European,” etc.) has been Germany’s dependence on Russia for natural gas. That it could leave Germany subject to Russian blackmail was, of course, always obvious, and Putin may be about to apply some very direct pressure . . .
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