When political institutions fail to control firm externalities, responsible investors can act as substitutes for government intervention. Individual investors, however, are unlikely to consider the aggregate effects of their choices, which raises the question of whether responsible capital is efficiently allocated across firms in the economy. In a general equilibrium model with heterogeneous social attitudes, we show that responsible investors tend to concentrate on a subset of firms while excluding others. This concentration of green capital can create product market power and crowd out the green investments of excluded firms. If this crowding-out dominates, aggregate CSR investments and welfare are higher without responsible investments.

This paper models strategic voting on ESG proposals by blockholders with heterogeneous reputational concerns and varying levels of commitment to ESG values. ESG activists, whose public-good gains from intervention are not attenuated by selling shareholders’ free-riding, rationally sponsor even long-shot proposals. Proposals that lower firm value but produce environmental benefits pass with positive, but perhaps small, probability. Our analysis leads to some non-obvious insights: neither increases in blockholders’ personal commitments to ESG values nor increases in blockholder dispersion reliably increase the probability of proposal success. However, the probability of success is uniformly increased both by increasing overall reputational pressure on blockholders and by increasing the gap between the pressure faced by the most and least pressured blockholders.

Blanket exclusion of “brown” stocks is seen as the best way to reduce their negative externalities by starving them of capital. We show that a more effective strategy may be tilting – holding a brown stock if the firm has taken a corrective action. While such holdings allow the firm to expand, they also encourage the action. We derive conditions under which tilting dominates exclusion for externality reduction. If the action is not publicly observable, the investor might not tilt even if she can gather private information on the action – tilting would lead to accusations of greenwashing. The presence of an arbitrageur who buys underpriced stocks increases the relative effectiveness of tilting. A responsible investor who is partially profit-motivated may be more likely to tilt than one whose sole objective is minimizing externalities.