ESG investing in already green firms and divesting from brown firms may not be effective in creating environmental impact.
Investing in brown firms and engaging with their management can be more effective in achieving environmental goals.
Government funding and incentives play a critical role in promoting environmental initiatives.
Deep dives
ESG investing and its impact on the environment
ESG investing, which focuses on allocating resources to make money while improving the world, is a growing movement. However, research by Kelly Shoe reveals that the dominant ESG strategy of investing in already green firms and divesting from brown firms may not be effective in creating environmental impact. Brown firms, which have higher carbon emissions, are crucial to various sectors of the economy. Punishing them through divestment could lead to short-term focus and increased emissions. Shoe suggests engaging with brown firms to incentivize them to become greener and rewarding them for modest reductions in emissions, which could have a bigger impact than greener firms achieving complete emissions reductions.
Norwegian Sovereign Wealth Fund's investment approach
The Norwegian Sovereign Wealth Fund, one of the world's largest sovereign wealth funds, obtained its wealth from the oil and gas resources on the Norwegian continental shelves. It owns stock in around 9,000 companies, including oil and gas firms. While the fund partially divested from upstream oil and gas producers, it still holds shares in larger integrated energy firms. The fund also avoids investments in coal, tobacco, cannabis for recreational use, certain weapons, and companies involved in deforestation and child labor. It periodically reviews its portfolio and engages in meaningful investments that prioritize sustainability.
Research on brown firms' environmental impact
Kelly Shoe's research explores the environmental impact of green and brown firms. Brown firms, with higher greenhouse gas emissions per unit of sales, can make significant changes to their environmental impact. Shoe's study finds that investing in brown firms and engaging with their management can be more effective in achieving environmental goals than simply divesting from them. Brown firms have the potential to develop new green technologies and make substantial reductions in emissions. By rewarding and supporting these firms, even with modest reductions, the environmental impact can be more significant compared to focusing solely on already green firms.
The role of government subsidies and incentives
Tony Will, CEO of CF Industries, highlights the importance of government funding and incentives in promoting environmental initiatives. The company, one of the largest ammonia producers, is transitioning to carbon sequestration to reduce its emissions. Will emphasizes that the recently proposed Inflation Reduction Act, which includes subsidies and tax credits, has played a critical role in making the regulatory environment more conducive to investing in environmentally friendly practices. Without the subsidies, the cost of implementing carbon sequestration would have posed economic challenges, potentially leading to carbon leakage and higher greenhouse gas emissions globally.
Examining the limitations of ESG investing
Kelly Shoe's research challenges the approaches and implications of ESG investing. While investors may seek to align their investments with their values and make positive contributions to the environment, Shoe argues that the current dominant ESG strategy, which focuses on divesting from brown firms and investing in already green firms, may not be the most effective approach. Punishing brown firms through divestment could lead to unintended consequences, such as short-term orientation and increased emissions. Shoe suggests a more nuanced approach that involves engaging with brown firms to incentivize sustainable practices and rewarding them for meaningful reductions in environmental impact.
Probably not. The economist Kelly Shue argues that E.S.G. investing just gives more money to firms that are already green while depriving polluting firms of the financing they need to get greener. But she has a solution.
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