Bloomberg is reporting that:
The SEC’s upcoming corporate climate disclosure rules face a new legal threat from environmentalists even as Republicans and businesses have long signaled they would sue to stop the regulations.
Long Overdue: The Sierra Club and Earthjustice are strongly considering suing the agency if it softens or drops plans for big companies to disclose the Scope 3 emissions from their supply chains and other indirect sources under the new reporting regime, three environmental advocates told Bloomberg Law. “It’s long overdue,” one of the advocates said of Scope 3 disclosures. “It’s the kind of information that smart investors are demanding.”
I simply don't believe that to be the case. Start with the perfectly plausible assumptions that investors value disclosure and that corporations desire to minimize their cost of capital. Or, more precisely, assume that the marginal social benefit of an additional unit of disclosure (however measured) declines as more is produced, while the marginal social cost of producing additional units rises as more are produced. Further assume that at t=0 the capital markets are in a disequilibrium state in which the marginal benefit of additional disclosure to investors exceeds the marginal cost to a firm of providing such disclosure.
If investors value disclosure, voluntary disclosure will lower cost of capital. Investors will be willing to pay more (a/k/a demand less of a return) for securities of companies that make voluntary disclosure. In turn, the corporate managers who actually make disclosure decisions frequently have large and nondiversified investments in firm-specific human capital. Management therefore suffers more than anyone if the firm fails. Suboptimal disclosure practices thus put management at risk. The information asymmetry between firms and investors increases the latter’s risk and therefore manifests itself in reduced liquidity. To overcome investor reluctance to hold risky, illiquid shares, firms must issue capital at a discount, which leads to a higher cost of capital. In theory, a credible commitment to provide increased levels of disclosure reduces the possibility of information asymmetries, which in turn, should reduce the discount at which firm shares are sold, and thus result in a lower cost of capital. Information asymmetries between issuers and investors are only one component of the firm’s overall cost of capital, of course, and the only component directly reducible by disclosure. Because a lower cost of capital makes it less likely that the firm will fail, however, management has a strong interest in ensuring adequate levels of disclosure.
Under those conditions, potential gains from trade exist. Both investors and the firm will be better off if the latter provides additional disclosure. Absent some market failure, neoclassical economics predicts that the firm will voluntarily provide additional disclosures until an equilibrium is reached in which the marginal social benefit of providing an additional unit of disclosure equals the marginal social cost of producing that additional unit.
In short, if rational investors wanted disclosures about scope 3 emissions, they'd be willing to pay for them, and management would offer them.
Even if there were a market failure, mandated disclosure would still be objectionable. A particularly trenchant objection to mandatory disclosure, for example, is that it functions in ways not unlike price controls. A regulatory regime is unlikely to peg prices at the equilibrium point at which marginal cost and marginal benefit are equal. As with any legal rule, the mandatory disclosure regime thus is likely to be under- and/or over-inclusive. Under-inclusive disclosure rules harm investors by denying them information they need. Over-inclusive rules harm investors by requiring the firm to spend money on unnecessary disclosures, which essentially comes out of the investors’ pockets. Investors presumably do not want management to engage in disclosure that produces diminishing returns; i.e., investors will not want management to spend a dollar on disclosure unless that expenditure produces at least a dollar’s worth of benefit to the shareholders. Under a regime of voluntary disclosure, management has an incentive to provide disclosure until it achieves that equilibrium. Because management’s wealth is closely tied to the firm’s financial well-being, it has an incentive to achieve an efficient trade-off between lowering the cost of capital and spending money on disclosure.
The government has no comparable incentive. Moreover, different firms are likely to achieve equilibrium at different levels of disclosure. Hence, government regulation by definition will both over- and under-inclusive. To be sure, government could address the problem of under-inclusiveness by requiring issuers to disclose any additional information necessary to make the mandated disclosures intelligible and understandable. In determining the cost of disclosure, however, management would have to factor in the possibility of liability for fraud if they failed to disclose information a court, acting with the benefit of hindsight, thought should have been disclosed. Hence management might tend to over-invest in disclosure. In any case, there is no way for the government to avoid the problem of over-inclusiveness.
