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Legal debate over SEC’s authority clouds climate rule proposal

Laying the groundwork for expected legal challenge

Rep. Ted Budd, R-N.C., and other Republicans said in a letter to the SEC that Congress should set climate policy.
Rep. Ted Budd, R-N.C., and other Republicans said in a letter to the SEC that Congress should set climate policy. (Bill Clark/CQ Roll Call file photo)

Republican lawmakers and scholars are ratcheting up their arguments that the Securities and Exchange Commission lacks the statutory authority to require public companies to disclose climate-related financial risks.

There’s a long road ahead for the agency as it wrangles with an outpouring of public comments on both sides of the issue, according to former SEC commissioners.

Opponents are laying the groundwork for a likely legal challenge contending that disclosure requirements would overstep the SEC’s authority on securities regulation — an argument that the agency, Democrats and major investors reject.

A group of 22 law and finance professors from 17 universities said the SEC’s proposal to require standardized information from companies on emission reduction targets and other efforts to mitigate climate risk caters to a select group of powerful institutional investors and environmental activists rather than the broader interests of various investors and their beneficiaries. 

“We are concerned that the passions of this topic have led the SEC to overzealous rulemaking that exceeds its authority,” the professors, led by Lawrence A. Cunningham of George Washington University, said in a letter to the SEC. 

The scholars contend that the federal Clean Air Act delegates climate-disclosure regulation to the EPA and that agency’s empowerment likely preempts any statutory authority the SEC might claim. Further, precedent has shown that Congress can be expected to act on major issues including climate change, which narrows the scope for inferences of authority that the SEC relies on. 

“Governments, above all, must adhere to the rule of law, especially when officials believe honestly and fervently in a specific agenda,” they said in an April 26 letter. “The federal securities laws focus on investor protection generally, while the proposal prioritizes the demands of a subset of the global investment industry. We encourage the SEC to focus on all American investors, not just the most vocal and activist voices.”

SEC Chairman Gary Gensler pushed back against similar criticism based on the agency’s authority at an agency meeting on the proposal on March 21. He noted a 1988 Supreme Court ruling that information is material if there is “a substantial likelihood that a reasonable shareholder would consider it important” in investment decisions. Gensler said that gives the SEC the green light to move forward with the rule.

“I believe the SEC has a role to play when there is this level of demand for consistent, comparable information that may affect financial performance,” he said. The “proposal thus is driven by the needs of both investors on one side and issuers on the other.”

New requirements

If finalized, public companies would have to report on their Scope 1 and Scope 2 greenhouse gas emissions, which address direct emissions and indirect emissions from purchased electricity and other forms of energy. Registrants would only have to report Scope 3 emissions — indirect emissions from supply chains — if they are material or if companies have set reduction goals that include Scope 3. 

The proposal comes as investors of all sizes — from big asset managers such as BlackRock Inc. and The Vanguard Group Inc. to smaller firms focused on environmental, social and governance investing — are increasingly seeking more information on how companies across industries are addressing vulnerabilities to climate change. Democrats also argue that companies’ plans to combat climate risk, such as with emission reductions, are material to their bottom line and standardized metrics are long overdue. 

The comment period on the SEC’s proposal is set to end May 20 and observers say the final rule could come out by the end of the year.

In recent weeks, Republican lawmakers’ criticisms of the climate rule have largely revolved around the argument that the disclosures go beyond the SEC’s purview. A group of 40 Republican House members, led by Rep. Ted Budd of North Carolina, and 19 senators including Banking Committee ranking Republican Patrick J. Toomey of Pennsylvania argued in separate letters to the SEC that Congress should be in charge. 

“It is, however, the role of Congress — and, importantly, not the role of financial regulators — to set climate-related policy, balancing interests and engaging with stakeholders to appropriately move us to a more energy-efficient nation,” GOP House members said.

Jay Clayton, a political independent who headed the SEC during the Trump administration, has said climate risk is “a key consideration” for executives and investors, especially in industries that are heavy polluters or that have customers and suppliers with high emissions. But the extent of those risks is “very different from sector to sector and company to company.”

“That’s something that would need to be accommodated, I believe, in any responsible regulatory policy,” Clayton said during a March 29 webinar hosted by Sullivan & Cromwell LLP, where he’s now a senior policy adviser. 

“My personal view is that their effectiveness is enhanced when they stay within their legal lane and areas of expertise,” Clayton said. “I think it can also be eroded when they step too far outside their legal lane or areas of expertise. Those issues may, in fact, end up front and center here, given the scope and breadth of the SEC’s proposal.”

Former commissioner Troy Paredes, a George W. Bush administration appointee who was at the agency from 2008 to 2013, said there are lingering questions about how far the agency’s authority goes in terms of creating rules in the public’s interest, and whether the climate disclosure rule fits that. 

“The objective of addressing climate risk as such is a different objective than putting material information in the hands of investors so they can make informed decisions when it comes to how they allocate their capital and how they vote,” he said during an April 7 event with the Bipartisan Policy Center.

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