23 August 2019

In defence of shareholder capitalism


Were you to ask its critics to identify a document that encapsulated everything that contemporary capitalism gets wrong, Milton Friedman’s 1970 New York Times Magazine article “The Social Responsibility Of Business Is To Increase Its Profits” would be a popular answer. In this landmark explanation of his shareholder theory, Friedman argued that as employees of a firm’s shareholders, executives should ‘conduct the business in accordance with shareholders’ desires, which generally will be to make as much money as possible while conforming to the basic rules of the society, both those embodied in law and those embodied in ethical custom’.

The idea quickly became the orthodoxy — and has dominated the legal, economic and management thinking on what should inform decision-making in the boardroom ever since. That appeared to change this week. On Monday, Business Roundtable, a group of 200 chief executives that includes the heads of some of the largest companies in the world, released a “Statement on the Purpose of a Corporation”. The heads of Apple, Amazon, Walmart, JP Morgan Chase and other behemoths of 21st century capitalism put their signatures to the idea that ‘while each of our individual companies serves its own corporate purpose, we share a fundamental commitment to all of our stakeholders’. The CEO group committed to ‘delivering value to our customers…investing in our employees…dealing fairly and ethically with our suppliers…supporting the communities in which we work’ while ‘generating long-term value for shareholders, who provide the capital that allows companies to invest, grow and innovate’.

The statement, issued not by the barbarians at the gate but from the inner sanctum of the capitalist system, was widely seen as a sharp departure from conventional wisdom and, to its critics, a significant moment in capitalism’s reckoning with its own contradictions. Shareholder capitalism is out. Stakeholder capitalism is in.

But is the statement as noteworthy as so many seem think? I’m not so sure. For some time, shareholder capitalism has been a byword for reckless corporate short-termism and excess — a caricature with only the faintest resemblance to the original argument. In reality, nothing in the Business Roundtable letter contradicts Friedman’s original argument. As successful CEOs will know, delivering long-term value for shareholders will very often mean serving the interests of other stakeholders. Can a firm get very far without thinking about the interests of its customers? Can it deliver anything other than short-term profits without hiring the employees it needs to innovate and grow?

Far from being a license for the worst excesses of contemporary capitalism, Friedman’s mantra is a warning against it. The management of Lehmann Brothers might have thought they were delivering value to their shareholders in the 2000s, but events would soon prove otherwise. If Facebook has shared data illegally in pursuit of profit, then it has also broken the rules of shareholder capitalism. The best argument against stratospheric CEO pay comes from an assessment of whether or not high salaries are really in the interests of the owners of a company, its shareholders.

The same is true of what appears to be a softening of capitalism’s edges. With consumers increasingly factoring ethical considerations into their purchasing decisions and money flooding into so-called ESG funds (according to the Wall Street Journal, US managers who consider environmental social and governance factors attracted a net $8.4 billion in the first half of 2019) it is woefully outdated to think of ethical business decisions as a refutation of shareholder capitalism. As has been obvious in recent years, there is nothing in the idea of shareholder capitalism that precludes firms taking political stands. Critics might claim that “woke” interventions such as Nike’s support for Colin Kaepernick aren’t in the interests of shareholders, but are they necessarily in the interests of other stakeholders? What about customers of a different political persuasion, or employees who will suffer if the move is bad for business? Here, “shareholder versus stakeholder” misses the point.

For the Business Roundtable letter to mean anything at all, its author would have to be arguing that in a conflict between the interests of shareholders and the interests of other stakeholders, a firm’s employees should, on occasion, plump for the latter. Tellingly, nowhere do they make that point. At no point in their letter do the CEOs suggest weakening the existing fiduciary duty they owe to their shareholders.

Friedman’s provocative-sounding claim about a firm’s social responsibility was really a moral truism, and a broader and more durable one than many realise. In the decisions they make, CEOs are playing with the property of their employers — the shareholders — and so they have a duty to act in their interests.

A meaningfully different approach wouldn’t just be bad news for shareholders; but bad news for the rest of us too. It would likely chip away at the dynamism so essential to a successful capitalist society, thereby deepening the frustrations about the market’s perceived shortcomings. More generally, shareholder capitalism is clear-cut where genuine stakeholder capitalism muddies the waters. CEOs answer to their shareholders and government is accountable to the voters. We can vote with our feet in the marketplace, we can buy shares in firms according to whatever criteria we choose and, rather than relying on the benevolence of big business, we can elect governments that we think are best placed to solve society’s problems.

The alternative is a system in which who owes what obligations to whom is far less clear. That would give the heads of big businesses, including the authors of the Business Roundtable letter, more power with less accountability. Contrary to claim’s of the Friedman doctrine’s critics, it is this recipe for cozy corporatism that would offer CEOs real cover for wrong-doing.

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Oliver Wiseman is the former editor of CapX. He is based in Washington, DC.