Last month, President Joe Biden cast his first veto of a Republican-inspired bill that would have effectively eliminated the option for fiduciary investment managers to make decisions taking into account environment, social, and governance (ESG) factors affecting their client’s investments in tax-advantaged retirement accounts, even with specific approval and authorization from their clients to do so.
The GOP bill would have reversed a Labor Department rule enacted last fall that would have permitted investment managers to take into account ESG when making decisions affecting retirement accounts. Despite many investment managers being supportive of the Labor Department rule, Republicans were determined to make it as difficult as possible for those managers and their clients to make investment decisions based on ESG criteria.
Republicans giving lip service to laissez-faire market capitalism have a different view when it comes to retirement investors and their advisors using ESG criteria for making fully-informed choices. Since 1974, the Employee Retirement Income Security Act established a uniform process to ensure that tax-deferred retirement investment accounts would protect retirees from experiencing significant losses from market fluctuations and careless investment decisions.
A reasonable amount of flexibility was provided in the ERISA law to enable retirees, employers, and investment advisors to adjust portfolios as necessary to accommodate reasonable goals and desires for investment decisions. The same standard of care remained largely the same until the Trump administration imposed new limitations affecting how investment decisions were made with regard to factors involving the environment, social, and governance issues.
The Trump amendment to ERISA essentially banned employers and financial advisors from considering any extraneous factors affecting investment decisions other than strict adherence to financial performance. Although the Trump administration did not specify ESG, the application of the new rule effectively prohibited ESG considerations when making investment decisions. Portfolio managers would be subject to intense scrutiny and possible prosecution for violating their fiduciary duty, the obligation of honest representation on behalf of their clients.
The result of changing rules affecting the application of ERISA in effect for more than 40 years was to create much confusion and uncertainty for investment managers and their clients when making decisions. Before the rule went into effect, financial advisors and their clients were able to consider ESG factors before investing, and ESG was one of many important factors when making investment decisions.
ESG was commonly used and widely accepted by financial advisors and portfolio managers. Most investors, corporate, private, or individuals, began to believe that for long-term financial stability, ESG had to be considered when making decisions. Not only in America but in Europe, Asia, and all over the world financial managers were using ESG as part of their investment strategy. ESG had not only become accepted but even desirable and necessary when making investments. Like many other rules imposed by the Trump administration, the new ERISA rule effectively alienated and isolated American investors and managers from common investment practices in almost every other country.
Last fall, the Biden administration Department of Labor eliminated the Trump rule regarding ESG investments and restored the flexibility of financial advisors and managers in making decisions taking into account ESG. There was widespread relief that portfolio managers would no longer be hounded by federal authorities for taking into account ESG factors that they believed could negatively impact the financial performance of their investments, especially for the long term.
Businesses that used ESG in promoting their companies would now be able to benefit from investor confidence that not only businesses but the economy and society as a whole would greatly benefit from company policies that were favorable to responsible ESG investing.
Of course, pro-Trump MAGA Republicans in Congress who are philosophically opposed to any kind of government interference with investment decisions jettisoned their core beliefs in favor of passing a law that would overturn the Department of Labor ruling and reimpose sanctions on ESG investing, putting financial advisors and portfolio managers at risk for prosecution if they use ESG when determining investment decisions.
The GOP bill passed the Republican-controlled House of Representatives and also passed the Senate when two conservative Democrats, Joe Manchin from West Virginia and Jon Tester from Montana, joined Republicans to vote for the bill. Joe Manchin and Jon Tester, though Democrats, are up for re-election next year in very conservative, pro-Trump red states, and are very supportive of the fossil-fuel industry in the states they represent, which might be less attractive to investors who want to consider ESG before investing in fossil-fuel businesses.
After the Senate passed the bill, Biden cast his first veto. Since the bill passed Congress by a very small margin, Congressional Republicans did not have enough votes to override the veto. As a result, the status quo protecting ESG investment considerations was maintained and protected by the Labor Department rule.
Companies that ignore obligations to protect the environment, take care of their workers, and respect legal and moral guidelines for business management, will sooner or later have to pay the penalty as their stock ownership becomes less attractive to investors. On the other hand, companies that adhere to policies which protect the environment, fulfill their moral and legal obligations to workers, establish policies that respect their role in benefiting society as a whole, not just their investors and shareholders, and manage their businesses in a manner that respects responsible business practices, will in the long-term benefit from increased investment in their companies by individuals and groups who support adherence to policies that reflect ESG governance and decision making. As investors become increasingly mindful of ESG policies and practices, more companies will adjust their policies to factor those concerns in their management and policy decisions.
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