ESG-Linked Swaps and the Next Chapter of Regulatory Innovation

Abstract

Complex interactions between private and public bodies shape the alignment of business activity and social interests. This is the central insight of New Governance scholarship, and is explored in this Article within the setting of swap regulation. This Article relaxes the common assumption that workable, targeted public law is trivial to produce and instead identifies how private efforts create infrastructure, intellectual capital, and other predicates for subsequent public regulation. Taking various case studies from regulation following the 2008 financial crisis, this Article focuses primarily on the advent of provisions in swap agreements that condition cash flows on environmental and other socially-relevant, quantitative performance targets. The Article’s argument is that provisions like these advance the development of social—as opposed to narrowly financial—accounting. Just as prior private regulatory innovations identified in this Article have enabled lawmaking by Congress and financial regulators, in future years, the metrics of social performance developed through private contracting embedding so called "ESG factors" can serve as substrate for targeted regulation addressing climate change and other environmental concerns, diversity goals, and myriad other causes. This Article also identifies how regulatory regimes affect the private development of social accounting as well as other private efforts at self-regulation. In doing so, the Article identifies policy levers for accelerating private contributions to business regulation, explaining how the Commodity Futures Trading Commission, Securities and Exchange Commission and banking regulators can manage and accommodate innovation in social accounting.

Keywords: finance, corporate social responsibility, ESG, environment, climate change, business, regulation, New Governance, Dodd Frank, swap, derivative, bank, risk, capital, margin, compression, recordkeeping, greenwashing, supervision, enforcement, lawmaking, public choice, accounting