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ESG and DEI Policies Were Always Luxury Goods

The end of the low interest-rate era has coincided with both the public and corporate sectors pulling back on efforts to be virtuous.

(Bloomberg Opinion) -- Rising interest rates don’t do their job immediately. Far from it. Central bankers generally agree that it takes some 12 to 18 months to really see the effects. So here we are: It has been around two years since most rates began to rise, and the results are coming in.

In the UK, data from Begbies Traynor showed the number of businesses in critical financial distress up 26% over the last three months of 2023, with insolvency rates expected to soar this year. This makes perfect sense. When rates rise, costs rise and fragile companies fail fast. Less fragile companies aren’t immune either. When the space that comes with the financial slack of low rates gets taken up, everyone has to make everything a little tighter.

With that in mind, consider the pullback from environmental, social and governance (ESG) and diversity, equity and inclusion (DEI) policies across the public and corporate sectors. In the UK, the Financial Reporting Council has just opted against including ESG requirements in the UK Corporate Governance Code — these were to have increased the role of audit committees in overseeing ESG and expanding diversity and inclusion. BlackRock Inc. Chief Executive Officer Larry Fink rarely mentions ESG any more. Elon Musk reckons that “DEI must DIE.” Bill Ackman (whose money matters) has called DEI the “root cause” of the sharp rise in anti-semitism at US universities. Donald Trump has promised to cancel all DEI initiatives across the federal government. The courts have already called a halt to race-based affirmative action at US universities, and last year the Attorney Generals of 13 US states wrote to Fortune 100 CEOs to let them know they would face serious legal consequences if they were to treat people “differently because of the color of their skin.”

Companies are changing their tone, too. Having upped their spending on DEI during the early part of the pandemic, some are now stepping back. The number of DEI job openings globally fell 19% last year.

Across the board, mentions of DEI and ESG in earnings calls with companies have fallen fairly dramatically as has their prominence in presentations. This might be partly a matter of legality, but it might also be that these two things are luxury goods in a corporate world that is no longer completely convinced they offer value.

Author Rob Henderson coined the phrase “luxury beliefs” in 2019 to describe a set of views that allow people to signal their high status — but which confer no cost upon them personally. Think virtue signaling. During the long period of cheap and easy money and consistently rising share prices, DEI and ESG might have performed a similar purpose for companies. They came with little cost and conferred elite status on those who took them on in bulk. You might say that luxury interest rates fostered luxury corporate beliefs.

Today, those same beliefs look like they might have a cost, something that rather changes the equation. There is as yet no convincing long-term evidence that firms with higher ESG ratings outperform those without. And while case studies can always be found, there is also no robust evidence that spending on DEI policies improves long-term share price performance either. The diversity dividend has so far been pretty elusive. Here’s Harvard professor Jesse Fried on the matter: “the empirical evidence provides little support for the claim that gender or ethnic diversity in the boardroom increases shareholder value.”

Many will disagree with that — academic research on this matter contains a mountain of confirmation bias — but it remains the case that the jury on all these things is very much out. That being the case, why have too big an expensive department full of DEI and ESG experts? Might there instead be a value to focusing on making the stuff you make well and hiring the best possible person for each job on any given day? 

Look to the latest Conference Board survey of CEOs and you will see that their internal priorities for 2024 have “attract and retain talent” right at the top, while the external things that keep them up at night are the odds of recession, political instability, inflation and high borrowing costs. There is little room for luxury thinking in there. Globally, only Japanese CEOs say that addressing DEI outcomes in the workplace is in their top 10 internal priorities for the year (and it only sneaks in at the bottom of the list).

The idea that non-financial factors are a luxury good carries through to individual investors too: A study by academics from the University of Copenhagen last year suggested that ESG investing in itself is a luxury good — in that demand for it increases disproportionally with the scale of inherited wealth. Those who put money in do so partly for the “warm glow” effect: They can afford to pay for a high-status feel-good factor when they invest. This might make sense for individuals not affected by the end of the luxury interest rate era. It might not make so much sense for company management.

ESG and DEI clearly aren’t going away. They are both deeply embedded in companies now. Their founding ideas remain important. And it may even turn out that, properly managed and measured, both do offer long-term performance benefits. But it’s increasingly clear that luxury interest rates didn’t just have a financial effect on the corporate world, they had social one too — one there might not be quite as much space for in our normalizing world.

Expect to keep hearing an awful lot less about both — and an awful lot more about cost-cutting, sales growth and profit margins. 

More From Bloomberg Opinion:

  • The Virtue Economy Is Over: Allison Schrager
  • Has McKinsey Become Unleadable?: Chris Hughes
  • The Tyranny of ESG Has Run Its Course: Merryn Somerset Webb

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To contact the author of this story:
Merryn Somerset Webb at [email protected]

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