Socially Optimal Eligibility Criteria for ESG Funds

Department: Finance

Speaker: Marcus Opp (Stockolm SE)

Room: T022

Abstract

Our paper analyzes whether and how a planner should design a taxonomy for
sustainable investment products in the presence of traditional tools for environmen-
tal regulation. Barring policy failures for environmental regulation, such a taxonomy
can only achieve positive real effects if financial constraints prevent firms from sup-
plying the socially optimal quantity of output. Then, the planner effectively exploits
warm-glow sustainability preferences by retail investors to subsidize firms’ sustain-
ability investments, thereby relaxing financial constraints. We characterize how the
optimal cut-off determining eligibility for a ESG fund interacts with environmental
regulation, social costs of externalities, shifts in social preferences, and social norms.