It's time for better capitalism

Henry Blodget
Jan. 23, 2018,

Over the past few decades, the US economy has undergone a profound change.

This change has helped rich Americans get richer. But it has also contributed to growing income inequality and the decline of the middle class. In so doing, it has fueled populist anger across the political spectrum and slowed the growth of the economy as a whole.

What is this change?

The embrace of the idea that the only mission of companies is to maximize short-term profit for shareholders.

Talk to some people in the money management business, and they'll proclaim that this is a law of capitalism. They'll also cite other supposed laws of capitalism, including the idea that employees are "costs" and competent managers should minimize these costs by paying employees as little as possible.

But these practices aren't actually laws of capitalism.

They're choices.

They're choices that arose out of the shareholder activism movement that began in the early 1980s — a movement that was reasonable and necessary back then but has since been taken too far.

•••••

Not long ago, America's corporate owners and managers made different choices — choices that were better for average Americans and the economy. These managers and owners also had a profoundly different understanding of their responsibilities.

"The job of management," proclaimed Frank Abrams, the chairman of Standard Oil of New Jersey, in 1951, "is to maintain an equitable and working balance among of the claims of the various directly interested groups… stockholders, employees, customers, and the public at large."

By paying good wages, investing in future products, and generating reasonable (not "maximized") profits, American companies in the 1950s and 1960s created value for all of their constituencies, not just one. As a result, the country and economy boomed.

Over more recent decades, however, this balance has radically shifted.

•••••

This "shareholder value" religion is visible in the divergence between profits and wages.

Corporate profit margins have been rising for 15 years and are now near their highest levels ever. Corporate wages, meanwhile, have been declining for four decades and are near their lowest level ever.

•••••

The richest 1% of Americans now own nearly 45% of the country's wealth, near the highest level since the "Gilded Age" of the 1920s. These Americans had an average net worth of $14 million in 2013. At the same time, the average wealth of "90%-ers" has plunged in recent years to just above $80,000, the same level as in the mid-1980s. Millions of Americans who work full time for highly profitable corporations earn so little that they're below the poverty line. The bottom 50% of Americans own nothing.

•••••

Consumers account for about 70% of the spending in the economy, so our spending is what drives economic growth. Most consumers work, so another name for them is "employees." And except for the richest Americans, most of us spend almost everything we make.

When we are paid less, we have less to spend, and economic growth slows. When we are paid more, we spend more, and growth accelerates.

Consumer spending also drives business investment. When consumers are flush, businesses invest aggressively to meet demand. When consumers are strapped, however, companies sit on their cash — or just hand it to shareholders. Amid today's already weak demand, companies are exacerbating the problem by cutting investments and increasing dividends and stock buybacks.

•••••

Some corporations have begun emphasizing the need for companies to have a triple or even quadruple bottom line, creating value for customers, employees, and society in addition to shareholders.

Perhaps most encouragingly, one of the world's largest asset managers, BlackRock, now expects companies to create value across multiple dimensions.

"Society is demanding that companies, both public and private, serve a social purpose," BlackRock CEO Larry Fink wrote in an open letter to corporate CEOs. "To prosper over time, every company must not only deliver financial performance, but also show how it makes a positive contribution to society. Companies must benefit all of their stakeholders, including shareholders, employees, customers, and the communities in which they operate."

That's better capitalism. Practicing it will make the world a better place.