The process of “financial natural selection” allows the economic cycle to function efficiently. The market must allow the weakest companies or those with the least adaptive management to be taken over and absorbed by a rival company, broken up or simply go into liquidation. It is important that non-performing companies go out of business and it is equally important that new companies are able to replace them.
This is not just a theory: during my lifetime telexes were replaced by faxes which were replaced by emails, Bankers Orders by electronic transfers, cheques by contactless cards, corner shops by supermarkets then by internet shopping, house landlines by mobile phones, vinyl records by CDs then by music downloads — the list is endless.
In a free market people adapt to new things quickly because it is in their interest to do so. People save time or money which they can reinvest and create opportunities in other parts of the economy. Companies that respond to these changes and adapt their business models: thrive, while those that resist change do not. These opportunities would be lost if the government were to intervene to protect the status quo.
And yet the calls for the UK to do more to protect their corporate “National Champions” are as loud as ever. Too often this amounts to established incumbent companies lobbying governments for protective regulations that would make it more difficult for hostile takeovers to succeed, or for company management to be changed, or for new competitors to enter their market. They generally get away with this by threatening to move their production offshore, leaving a trail of unemployment in their wake.
However there would be little incentive for a company’s management to maximise shareholder value if UK regulations entrenched their position. Regulation should not undermine the rights of shareholders in favour of the beneficiaries of their capital. It is a fundamental right of shareholders to be able to question management, change non-performing management as well as sell their shares to the highest bidder. If a company wants to avoid being taken over, they need to maximise their shareholder value and keep their shareholders informed of their strategy.
Government protection for “national champions” is not just picking winners, it is also creating losers by obstructing the “champion’s” competitors as well as innovators whose ideas can’t be realised because regulation is preserving the obsolete. Even when a government protects companies for fear of short term job losses, the impact hurts taxpayers and consumers who end up with a higher cost of living or an additional tax burden. Although it is impossible to measure the “jobs not created or livelihoods not provided” when governments interfere with market forces, these are real costs to the health of the economy.
Increasing government subsidies or regulatory protection cannot stop the inevitable demise of a badly run company nor can it stop innovation that would make established companies obsolete. Just as the government cannot preserve the high street if the population finds it more convenient to shop online. Nor should it. That is not the government’s job.
A government can ensure that its population is well educated enough to produce efficient employees, innovators and entrepreneurs. A government can create tax incentives that help companies start and grow. A government can provide infrastructure to open up regions for new businesses. But a government must not introduce protections that create entrenched oligopolies.
The UK financial markets have been successful over the long term because they enable financial natural selection to take place. Well run companies should welcome the benefits of operating in such an environment rather than fear them. Market forces such as activist shareholders and takeovers are key disciplines for ensuring the efficient use of capital and resources. They should be encouraged not restricted unless there are very clear national security or competition grounds for doing so.
CapX depends on the generosity of its readers. If you value what we do, please consider making a donation.
