A Theory of Socially Responsible Investment

Abstract We characterize the conditions under which a socially responsible (SR) fund induces firms to reduce externalities, even when profit-seeking capital is in perfectly elastic supply. Such impact requires that the SR fund’s mandate permits the fund to trade off financial performance against reductions in social costs—relative to the counterfactual in which the fund does not invest in a given firm. Based on such an impact mandate, we derive the social profitability index, an investment criterion that characterizes the optimal ranking of impact investments when SR capital is scarce. If firms face binding financial constraints, the optimal way to achieve impact is by enabling a scale increase for clean…

• CB
  Copenhagen Business School
• UO
  University of Warwick
• EC
  European Commission

  Award: 715467
• DB
  Deutsche Bundesbank
• MO
  Marcus och Amalia Wallenbergs minnesfond

  Award: 2021.0122
• UO
  University of Colorado Boulder
• ER
  European Research Council

  Award: 715467