Written by Julian Freyre
The United States Securities and Exchange Commission (SEC) recently took a step in the right direction. Under their newly approved set of rules, beginning in 2026 publicly owned companies will be required to disclose their greenhouse gas emissions (Patterson, 2024).
This policy change is the result of a complex process that deserves a brief history. The SEC was lagging behind its European counterpart in terms of environmental initiatives for increased corporate climate transparency. This gap was set to broaden further as the European Union began phasing in even stricter regulations on January 1st, 2024, expecting to reach the plan’s completion by January 1st, 2028 (Triggs et al., 2023). On October 7th, 2023, California passed two bills that will require certain companies to report their greenhouse gas emissions starting in 2026 (Rothman et al., 2024). All things considered, the SEC’s process was relatively timely. They faced a two-year lobbying battle from climate groups and huge companies, which slowed the process dramatically. Ultimately, the final regulation was weaker than the one initially proposed. Regulators decided to allow Scope 3 emissions, which result from assets that aren’t directly owned by the organization that reports them, to remain undisclosed. However, it is estimated that Scope 3 emissions make up 70% of the companies’ greenhouse gas emissions (Patterson, 2024). While this allowance reduced the effectiveness of the regulation, it did not render it useless.
Although the enacted regulation is not as strong as the one initially proposed, it still generates a multitude of positive externalities. Among these externalities are an increase in transparency, corporate accountability, and the potential to increase funding for greener companies. Each of these externalities can be analyzed through the economics lens to reach a deeper understanding of the positive effects of this regulation.
The increase in transparency to the public is the most apparent and immediate effect of this regulation. When an investor knows more about a company, they can make better informed decisions about whether to invest in that company because they have a better understanding of the entire firm. With this improved decision-making, investors can more efficiently allocate their money. An investor who values green companies and a healthy planet may realize that their money is allocated to less climate-friendly companies and relocate it.
Of course, not every investor behaves this way, but approximately 89% of investors consider some part of ESG in their approach. ESG is an investing strategy that considers environmental, social, and governmental impacts as a result of investing (Baker, 2023). Overall, a more efficient allocation of funds will result in the most monetary and social value being delivered to investors and the greater society.
Focusing on the environmental aspect of this regulation, there are some clear positive externalities. Assuming that around 89% of investors consider ESG, then this regulation would cause a significant shift in funds to greener companies and away from “dirtier” ones. As a result, fewer greenhouse gasses would be emitted, which leads to a cleaner environment. A cleaner environment has a wealth of benefits. The costs of food would likely decrease because animals would be easier to raise and crops would be easier to grow. Additionally, there would be less severe weather events induced by climate change. Fewer of these severe weather events would mitigate the loss of crops, which would also lead to lower and more stable
prices. While the positive effects of this regulation on the climate are too numerous and complex to list, it is clear that there is a plethora of benefits to be had from this regulation.
With the transfer of funds to greener companies, other companies and potential start-ups may be incentivized to take a greener approach to their business model. Consider a dirty company that sees its stock price drop after the enforcement of this regulation.They will likely look for strategies to increase the value of their company, and seeing greener companies receiving funds may convince them to go greener. If they fail to go green, the company could collapse or fall into obscurity.
In a similar vein, there could be increased competition to find and implement the best green technologies because companies will have financial incentives as a result of ESG investing. Being required to disclose their emissions to the public, corporations will be held accountable. They can no longer keep their investors in the dark, and their investors will respond to their emissions reports accordingly. Without this regulation, investors would remain in the dark and corporations would continue to withhold information.
Despite all of these positive benefits, there are many objections to this regulation. Many corporations opposed this because they will be legally required to incur an extra cost in filing these reports. However, these reports would only cost $200,000 on average per reporting entity (Gidwani, 2023). This may seem like a potentially catastrophic cost, but only public companies must file these reports. Considering that the median revenue for an initial public offering was 67.4 million dollars in 2021, these public companies can reasonably accommodate the cost (Westenberg, 2023).
Another possible objection could be that the SEC doesn’t have the power to pass such a regulation. While there is much debate about this topic, legal experts and former SEC officials said that the SEC “has clear statutory authority to mandate additional climate-related disclosures” (Patterson, 2024).
This regulation was a long time coming from the SEC and has the potential to positively impact American society as a whole. The increase in corporate transparency will help investors make informed decisions. With these more informed decisions and the prevalence of ESG investing, equity funding will shift to greener companies and incentivize dirtier companies to invest in greener technology. On top of all that, corporations will report a necessary part of their business model: the environmental impacts. Corporations should not be allowed to keep investors in the dark, and this regulation will increase corporate accountability. All things considered, the SEC made the right move in passing this regulation.
Works Cited
Brian Baker, C. (2023, February 1). ESG investing Statistics 2023: Bankrate. Bankrate Press. https://www.bankrate.com/investing/esg-investing-statistics/#:~:text=89%20percent%20of% 20investors%20consider,asset%20management%20firm%20Capital%20Group
Gidwani, B. (2023, March 21). ESG reporting: Focus on creating value. CSRHub. https://blog.csrhub.com/esg-reporting-focus-on-creating-value#:~:text=Assurance%20for%2 0a%20sustainability%20report,to%20an%20annual%20report%20process.&text=Let%27s% 20put%20the%20average%20annual,cost%20may%20be%20%2410%20billion
Patterson, S. (2024, March 6). Sec approves weakened Climate Disclosure Rule – WSJ. Wall Street Journal.
Rothman, R. (2023, October 10). California requires companies to disclose climate change risks, GHG emissions. Morgan Lewis.
https://www.morganlewis.com/pubs/2023/10/california-requires-companies-to-disclose-clim ate-change-risks-ghg-emissions
Triggs, M., Mishkin, S., & Meynier, T. (2023, January 30). EU finalizes ESG reporting rules with international impacts. The Harvard Law School Forum on Corporate Governance. https://corpgov.law.harvard.edu/2023/01/30/eu-finalizes-esg-reporting-rules-with-internation al-impacts/ Westenberg, D. A., Bahn, C. A., Barnstable-Brown, C. D., Brewer, R. S., Leopold, S., Nylen, M., Wiessner, G., & Wolfman, J. (2023, March 31). 2023 IPO report. WilmerHale. https://www.wilmerhale.com/insights/publications/2023-ipo-report