Enivronmental, social, and governance (ESG) investing, although rooted in an older concept known as “socially responsible investing,” has been more and more on the rise in recent years. Predictably, the Biden administration has paved the way for the Department of Labor (DOL) to pivot from Trump-era rulemaking and alter its approach to ESG-based regulation.

The two Trump-era regulations now being targeted are two provisions to the Employee Retirement Income Security Act of 1974 (ERISA) which were put in as safeguards against the recent ESG zeitgeist: 1) regulation regarding proxy voting and 2) rules emphasizing optimization of pecuniary returns over adding ESG-based funds.

In a March 10, 2021, announcement, the DOL declared that it will simply cease to enforce the regulation changes put into place during the Trump administration. From a free market perspective, a decision to cease enforcement is a step in the right direction. However, the current administration is not exactly embracing the rule change out of a concern for laissez-faire.

Rather, the Biden administration wants to shift the emphasis back in favor of investing in ESG funds. The main objection being employed by current policymakers is that the Trump rule allegedly makes employers fear adding or retaining ESG fund options at all due to rules pushing employers to focus on strictly pecuniary returns. Critics claim the old rule could ultimately endanger potential returns which could be obtained from well-performing ESG managers (although there does not seem to exist an objective measure of exactly what constitutes a “well-performing” ESG fund). In other words, it is claimed the Trump rule slants the playing field against ESG funds.

ESGs vs. Returns for Retirees

These objections to ESG investment restraint superficially favor private companies’ ability to choose their investment options freely without fear of state penalty. However, these new pro-ESG regulators never seem to explicitly acknowledge the concept that pecuniary returns should be the ultimate investment priority—if the real concern is maximizing retirement income. For example, according to Principal Deputy Assistant Secretary for the Employee Benefits Security Administration (EBSA) Ali Khawar:

These rules have created a perception that fiduciaries are at risk if they include any environmental, social and governance factors in the financial evaluation of plan investments, and that they may need to have special justifications for even ordinary exercises of shareholder rights … we intend to conduct significantly more stakeholder outreach to determine how to craft rules that better recognize the important role that environmental, social and governance integration can play in the evaluation and management of plan investments, while continuing to uphold fundamental fiduciary obligations.

Like Khawar, others in favor of pro-ESG regulation repeatedly argue in the name of pecuniary returns, insisting that ignoring ESG for fear of penalty could mean employers will miss out on potential returns from ESG investing. This could be a fair enough objection; however, if optimization of returns is in fact the goal of those who “coincidentally” are ESG proponents, why would they not instead propose ignoring whether an investment has anything to do with ESG altogether, in order to focus only on maximizing returns? Why focus on “craft[ing] rules” when removing any regulation for or against ESG would be the surest way to ensure companies feel “safe” in their own decisions to invest strictly through the financially optimal lens? After all, if the perception is that anti-ESG regulation is a threat to employers who would otherwise want to include ESG options, would pro-ESG regulation not create the same threat in the other direction, especially with the ever-increasing popularity of “social justice” issues?

The BlackRock Investment Management Company is a recent example of a company which has changed its proxy voting guidelines in order to accommodate an ESG-oriented investment lineup. These changes entail demanding more transparency from other shareholder companies when it comes to topics including—but not limited to—the following in-vogue platitudes:

• Climate risk
• Workforce demographics (such as gender, race, ethnicity, etc.)
• Encouraging “diverse” company board composition and even going so far as to oppose companies with an “insufficient mix” of directors

Problems with Measuring Returns

The problem with the pro-ESG argument is its own insistence that optimal returns are not subordinated to such items as the above on the social justice agenda; yet, considering that optimal returns can be objectively measured and “social justice benefits” cannot, it simply does not make sense to include the latter in a discussion of the former. Despite their insistence on the alleged benefits of ESG investing, the voices that are pro-ESG regulation are just pretending to be having the same discussion as those opposed to ESG-centric regulation, but this is not what is really happening. What is never discussed is the possibility of appeasing both sides by ending state interference completely and allowing companies to privately decide on their investment portfolios themselves.

“Anti-ESG” regulatory moves have attempted to oppose the possibility of idealogues choking maximum investment potential and sacrificing optimal benefits to retirement plan participants—yet this course of action in itself makes the best case for the fact that the ideal should be for no regulation to exist at all.