Mitigating climate change and creating a sustainable future is going to require a massive reorientation of investment toward low-carbon energy alternatives at a scale, intensity and speed never seen before. Despite this, governments and private actors continue to rely on market-based “solutions” to achieve this reorientation. The most common of this has been the popular financial framework known as ESG.
ESG, short for Environmental, Social, and Governance factors, is the latest craze in sustainable or “responsible” investing. It is a framework that sees specialized financial institutions rate organizations —mainly corporations — and assign them a score based on criteria such as carbon emissions, labour practices and corporate governance practices. By assigning scores to organizations that are rated based on environmental, social and governance factors, investors can access information on the potential impacts of a company’s operations. In theory, this allows for market participants to get information about ‘bad’ companies and make decisions about where to allocate investment accordingly. Thus, the central premise of ESG is that you can do well financially by doing good ethically with your investments.
ESG is presented as an easy solution, one that allows for the market to get us out of the impending crisis without the need for massive reorganization of how we produce. In reality, it is nothing more than a dangerous snake oil. Rather than restructuring our production to move away from the dominance of capitalism, it continues us on a path of climate crises. ESG puts our literal survival in the hands of unaccountable private institutions. Therefore, understanding ESG is important to properly critique mainstream “solutions” to the climate crises.
The origins and explosion of ESG practices
Over the past decade, ESG has become the dominant socially responsible investment strategy in the world of finance. It first appeared in a 2004 U.N report titled Who Cares Wins: Connecting Financial Markets to a Changing World. In it the UN Secretary General called for a joint initiative of financial institutions to “develop guidelines and recommendations on how to better integrate [ESG] issues in asset management…” Thus, the central premise of ESG was that you can do well financially by doing good ethically with your investments.
It is not an exaggeration to say that ESG has exploded in recent years. A 2022 study showed that 89 percent of global investors have adopted ESG models, up from 84 percent in 2021. Globally an estimated $53 trillion in assets (over 1/3rd of global assets) are expected to be held in ESG funds by 2025. In the U.S ESG-related assets held by managers account for around $18.4 trillion and are projected to grow to $33.9 trillion by 2026. In Canada, a 2023 survey estimated that 94 percent of asset managers are using ESG as a responsible investment strategy, now accounting for $3 trillion in assets. For example, almost all major Canadian pension plans have shown seemingly uncritical support for ESG, including the Ontario Municipal Employees Retirement System, Ontario Teachers’ Pension Plan, Caisse de dépôt et placement du Québec, Alberta Teachers’ Retirement Fund, and the Canada Pension Plan, to name few.
The appeal ESG
ESG became attractive to financial actors for two main reasons. First, it gave people the sense that they were tackling social issues with their capital. Even if intentions are not genuine, it gives investors something to point to when questioned on the social impacts of their investments. Second, according to ESG proponents, poor performance in one of the areas of ESG is an indicator of investment risk. For investors, this means investing in companies or buying certain assets will yield uncertain returns. The synthesis of risk assessment and social impact forms the essential pillars of ESG. This means assets can be grouped into ‘classes’ based on the correlation between social impact and risk profile. Thus, individual and institutional investors can do well by doing good through investing in green assets that have a low risk profile. The production of green asset classes is central to global finance’s attempts at mitigating climate change without state or other forms of political intervention.
Despite the cries of its supporters, ESG is ultimately more dangerous than helpful. There are several reasons for this. The first is that it is fundamentally about mitigating the potential impact of climate crises on financial profits rather than the impact of financial investment on the climate. In short, the purpose of the model is not to resolve climate change. A 2022 survey of Canadian institutional investors stated that the top reasons to consider ESG were improved returns (65 percent) and risk mitigation (43 percent) with social or environmental impact near the bottom (20 percent). Canadian investors are not unique, as it would shock many to find out that only 9.3 percent of global passive ESG funds are even aligned with the Paris climate accord!
The second issue is that ESG is not a well defined framework of social variables to begin with. Since the data and indexes are provided by a plethora of different firms and there is no widely agreed system that organizes or defines what the E, S and G entail There is no standard for ratings at all. It is estimated over 100 organizations are collecting ESG data, over 500 producing ESG rankings, 170 ESG indexes, 100+ ESG awards, and 120 voluntary ESG standards. This creates a basic definitional problem in which the core elements of ESG remain ill-defined. In fact, studies have shown quite clearly that there is no correlation between the ratings of different agencies.
Third, in practice, ESG portfolios are not very “socially responsible”. The “greenest” ESG funds tend to be weighted mostly in tech companies, not ones pushing green technology (Not to mention this requires ignoring the horrible record of labor rights of companies that are heavily present in these funds such as Tesla and Apple). However, this isn’t even the worst part. For example, when analyzing 33 explicitly climate-themed funds in the U.K., Buller and Hayes noticed that one in three funds were invested in oil and gas producing companies that had stakes in Exxon. This is not uncommon. For example, BlackRock (the world’s largest asset manager) still has 174.82 billion or 9.08 percent of its assets in fossil fuels. Furthermore, a recent study found that even when publicly listed companies divest from fossil fuel-based companies, private equity firms are filling the gap. The 10 largest private equity firms have 80 percent of their investment portfolios in fossil fuels, accounting for “$216 billion worth of fossil-fuel assets–on par with the amount of money that big banks put into fossil fuels last year”.
The danger of ESG
I am certainly not the first critic of ESG. Infamous to the financial community and ESG proponents, Tariq Fancy, the former head of Sustainability at BlackRock (the world’s largest asset manager) became a staunch critic of the model after leaving his position in 2021. He argued that protecting portfolios against the risk of climate change is not the same as stopping climate change from occurring. Fancy specifically came out against ESG after conducting a study at Toronto Metropolitan University which showed that the model misleads people into thinking that serious actions were being done to mitigate climate change and that this could actually delay governments from taking necessary regulatory action. This reality led Tariq Fancy to argue that ESG policies are not only quite useless, but that institutional investors like BlackRock are “leading the world into a dangerous mirage”.
ESG is not only worse than doing nothing, but politically it’s caused a massive right-wing backlash in the U.S. The narrative by the right has been that ESG is a form of “woke capitalism”, as argued by Governor DeSantis. Several Republican states over the past few years have passed anti-ESG legislation which often bans public investment (primarily from pension funds) from considering ESG factors. Despite ESG not achieving anything, it is galvanizing a whole new coalition of right-wingers which articulate anti-Semitic conspiracies, transphobic, racist and climate denial rhetoric, all under the banner of “anti-woke” politics. The failure to achieve results and extensive backlash led to an important shift in the conversation from state regulators and financiers between the COP26 and COP27 climate conferences. Despite this, financial actors continue to argue that investment flows should fundamentally be decided by financiers.Ultimately, those who are serious about stopping climate change need to call out ESG for what it is, a fraud. ESG is another example of the capitalist class trying to mitigate real social crises but without giving up any control over social, political and economic relations. Instead of getting at the root of the climate crises which is capitalist exploitation of humans and the environment, ESG can only justify pretending to resolve social issues by framing them as risks to capitalist accumulation. If we want to build a future for ourselves in which the planet is inhabitable the first step is taking control of the economy and negating the isolated pursuit of profit. Only through radical political transformations for the organization of global production towards human development can we achieve this, not through a couple of meaningless ratings at the back of institutional investor reports.
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