The corporate social responsibility debate asks a fundamental question: what is the role of corporations in society? Since at least 1932, when Adolf Berle and Merrick Dodd publicly clashed over whether corporations are accountable only to shareholders or also to society, the argument has never been settled. It has, however, acquired a new instrument: mandatory environmental, social, and governance disclosure.

Proponents of mandatory ESG disclosure believe it will make corporations more accountable and thus increase CSR activity. In The Unintended Consequences of Mandatory ESG Disclosures, published in the Business Lawyer, I argue the opposite: mandating ESG disclosures could lead to less CSR, not more.

The information paradox

The argument rests on what I call the information paradox. Companies that are genuinely committed to CSR – the “true believers” – already disclose voluntarily. They do so because their ESG performance is good and they want investors, consumers, and regulators to know it. Voluntary disclosure is a signal of quality.

Mandatory disclosure eliminates this signal. When every company must disclose, the market can no longer distinguish between companies that disclose because they are proud of their record and companies that disclose because they are forced to. The true believers lose their competitive advantage.

The assumption that mandatory ESG disclosures will lead to more CSR activity is theoretically and empirically unsound. Instead of leading to more CSR, mandating ESG disclosures could lead to less CSR.

The greenwashing problem

Mandatory disclosure also creates a new incentive: greenwashing. Companies that have little genuine commitment to CSR but face disclosure requirements will invest in making their reports look good rather than in making their practices better. The compliance cost of producing ESG reports is substantial, and every dollar spent on compliance paperwork is a dollar not spent on actual environmental or social improvement.

I review empirical studies showing that ESG-related mandatory disclosures are not associated with beneficial real-world outcomes. The disclosures produce paper, not progress.

The cost question

The article concludes by examining the direct costs of mandatory ESG disclosure – legal fees, auditing, reporting infrastructure – and argues that the SEC should be required to quantitatively weigh these costs against the expected benefits before imposing new mandates. If mandatory disclosure reduces genuine CSR activity while imposing significant compliance costs, the net social value could be negative.

This is not an argument against corporate social responsibility. It is an argument that the mechanism chosen to promote it – mandatory disclosure – may be counterproductive. I do not enter the Berle-Dodd debate about whether corporations should serve society. I ask the narrower and more technical question: will this particular regulation achieve what its proponents claim? The answer is likely no.

Read the full article: The Unintended Consequences of Mandatory ESG Disclosures, 77 Business Lawyer 697 (2022).