Zombies v. Subsidiarity—Opening on 8 December 2021

In time for Christmas, there will be yet another of those horror stories about the once dead walking again and causing havoc among the living. Not, though, another Hollywood extravaganza, but courtesy of the European Commission (‘EC’), who, as reported recently by the news site Politico, is planning to resurrect its initiative on so-called ‘sustainable corporate governance’ on December 8th.

You may remember how the EC’s initiative on sustainable corporate governance was presented in June 2020 accompanied by a study by Ernst and Young, and how that initiative was met with an unprecedented critique, not only from the industry, as you might expect, but also from leading academics both within the EU, as evidenced by the three-day webinar hosted by the ECGI (available on YouTube here, here and here), and, even more unusually, by academics from Stanford, Harvard and similar US Ivy League institutions, as well as from national corporate governance Committees, retail investor associations and many EU Member States.

The reason for this onslaught was the naïve and politically extreme political views expressed in the initiative that, although the laws of the Member States all appeared to oblige directors to safeguard the interests of the company, directors would be forced to neglect their duties due to pressure from short-sighted and greedy shareholders. This negative view of investors is well-known among certain casual observers and has been around for ages. But the problem is proving this point, as required according to the so-called principle of subsidiarity, which is a precondition for any EU legislative effort. So, while the negative view has often been expressed in various reports, opinion papers and airport literature, this was the first chance to present empirical evidence. And that went spectacularly wrong. The facts and studies presented were wrong, cherry-picked and biased. Had the Study been a work by academics and not just by consultants, it would probably have violated the codes on scientific standards applied by universities.

Just to offer one example: since the underlying idea is that nasty shareholders suck companies dry of funds so there’s no money for the green transition or for decent wages and working conditions, an examination was made in the Study of 17 Member States ranking them as more or less ‘sustainable’ according to how much money they returned to investors (figure 10, p 19). When measured this way, top of the sustainability tops were no other than Victor Orban’s Hungary and coal-producing Poland, well ahead of countries like Finland and the Netherlands. With an outcome like this, common sense should have suggested to the authors that they had confused economic efficiency, which enables higher returns on investment, with unsustainable behaviour, but the Study blindly followed its own politically motivated narrative.

So, the problem was that the worldview contended did not fit reality and consequently you could not get the empirics to fit the narrative. That’s the beauty of empirics and why they are so important as a basis for policy and legislation. Reality is quite different. The perception that sustainability requires us to ‘change everything and start over’ is simply wrong. We are already on the right track and the green transition is accelerating, spurred on by investors who require to know how the companies they invest in will handle climate risk. This is why pollution and greenhouse gas emissions are falling in the EU. More can be done, but it is plainly wrong to suggest that the distribution of powers under Member States’ company laws constitute a problem in need of radical reform and, even more so, to suggest that the ‘capitalist system’ is doomed, no matter what is actually meant by that antiquated phrase or how keenly some extremists may want it to be.

Faced with the overwhelming critique of the initiative’s empirical basis, the EC’s own quality control body, the Regulatory Scrutiny Board, rejected the initiative on 5 May 2021 and the EC abandoned its initiative. You may be forgiven if you thought that this was it or at least that no new initiative would be put forward until it could present the necessary empirical evidence to match the principle of subsidiarity.

But that would fail to take into account how keenly the EC wants to harmonise corporate governance in the Member States. Its original and more ambitious attempt to harmonise by a 5th Company Law Directive was kept alive for three decades until it was finally abandoned in 2001 and subsequently all the EC could muster was the soft law instrument of recommendations. But the Financial Crisis showed that a good crisis can bring you harmonisation of corporate governance, as evidenced by the provisions in Capital Requirement Directives 4 and 5 in respect of credit institutions. Probably the EC thinks that a Climate Crisis can do the rest. They appear to be enthusiastically cheered on by the many MEPs that have yet to meet a problem they don’t think of as justifying EU legislation no matter what the principle of subsidiarity says, and who appear to uncritically support anything labelled ‘sustainable’.

To conclude, although the empirical basis is still missing and the initiative is still dead in that respect, it is in no way clear who will win in the next showdown between the zombie initiative on sustainable corporate governance and the principle of subsidiarity.  The outcome could not only effect the distribution of control rights in private enterprises but also the way the European Union is going to function after Brexit.

Jesper Lau Hansen is a professor of law at the University of Copenhagen.