I am, and have been since 1994, a fund manager of ethical and SRI portfolios and my initial reaction to the statement on 19th August 2019 by the US Business Roundtable on the purpose of a corporation was positive enthusiasm. This statement said that the purpose of a corporation was to share a fundamental commitment to all of its stakeholders. This changed the previous thinking that a corporation existed principally to serve its shareholders. In the statement, which was signed by 181 US CEOs, it listed what they were committing to, including delivering value to customers, investing in employees, dealing fairly with suppliers, supporting communities and finally, generating long-term value for shareholders. The statement ended: “each of our stakeholders is essential. We commit to deliver value to all of them, for the future success of our companies, our communities and our country”.
As I looked down the list of the signatories and reflected on why they felt the necessity to make such a radical change in what a corporation is for, my view changed. The first question that came into my mind was why these companies weren’t already doing these things. Why should the fact that a company should serve the interests of its shareholders stop it from looking after the other ‘stakeholders’? It seems to me that somewhere along the line capitalism has ceased to function correctly. Schumpeter’s idea of ‘creative destruction’ should have ensured that in the interests of shareholders the other stakeholders would have been looked after. If you don’t offer value to your customers they will go somewhere else. If you don’t look after your employees, someone else will employ them instead. If you don’t look after your suppliers, they will supply someone else. And if you don’t look after the communities in which you work, you will lose your consumers to someone that does. In other words, you would not be looking after the interests of your shareholders if you haven’t already done the things that the new statement professes companies will do in the future.
So what has gone wrong with capitalism? It’s hard to argue that something hasn’t gone wrong when we see productivity growth slowing, inequality growing and we have witnessed the great financial crisis 10 years ago. This has created populism politics, which mainly follows the age-old mantra of blaming everything on ‘them’. That is all our problems are due to immigration and imports. Oh, and of course the experts and the elite. Of which of course, the populist politicians are not members.
One of the fundamental points about a corporation, is that it is owned by its shareholders. If you have a share in a company, you are an owner of the company and share in its profits, or indeed its losses. Whilst some of the 181 CEOs may hold shares in their company, they are not owners of the company because they are the CEO. It is not that difficult to construct an argument that the failure of capitalism is down to the collusion of these very same CEOs, politicians, and regulators. All aided and abetted by a financial sector that was released from its shackles in the 1980s, enabling it to create money and credit. Shareholders are not totally free from blame, as they championed pay structures that linked the rise in share prices to the remuneration of the very same CEOs signing the above statement. Along came your financiers, who more recently have been helped by the activities of central bankers, to propose ways of borrowing money to increase the rewards of management. Share buybacks, which increase earnings per share by reducing the number of shares, have been an easy way for management to enhance their rewards. And reward them they have. In the UK in 1998 chief executive pay to the average worker was at a ratio of 48 to one. In 2016 this had risen to 129 to one. In the US in 1980 the ratio was 42 to one and by 2017 had risen to 347 to one. It is no wonder that inequality has increased and the productivity has fallen.
This brings us back to shareholders. Why is it that the owners of the corporations didn’t call into question the activities of the companies that they owned? Surely if you were a shareholder of RBS you’d have questioned the activities of Fred the Shred. Together, all banks’ shareholders should have averted the Great Financial Crisis. The problem is that over the period from the 1980s, there has been a marked change in who actually owns shares. Share ownership has become institutionalised. It started with mutual funds and pensions. And now with the growth in computer power has morphed into traders and passive funds. The problem with computers and the likes of ETFs is that the concept of company ownership is not part of their raison d’être. High-frequency trading computers are merely following prices. Passive funds are holding companies purely because they are in some index that has been constructed. So the companies in which they invest, and what they do, is really irrelevant. There is growing pressure on passive fund managers to get actively involved in corporate governance as their dominance on shareholder lists have grown. But to date, despite a lot of words, their actions have not been encouraging. This is probably not surprising since the companies that manage the passive funds are run by management who are part of the very ‘elite’ who are managing all the big corporations. According to Proxy Insight data Blackrock and Vanguard have voted in favour of more than 97% of pay proposals for S&P 500 companies.
In the bear market of 1973/4 I first heard the term that ‘this was the end of capitalism’. Back then this was because of the power of labour over capital. To me it looks like the pendulum has now gone to the other extreme where capital has ascended far above Labour. This has been compounded by ‘rentier’ capitalism, where an unholy trinity of politicians, corporate management and regulators have allowed monopoly like conditions to emerge without check. The statement from the US Business Roundtable, probably without realising it, is aligning the CEO elite with the next generation of politicians who will be on the side of labour rather than capital. Let’s be realistic, how are we going to measure these altruistic aspirations? As the balance between Labour and Capital readdresses, the social goals in the statement will give CEOs cover for their failure to deliver on profitability and enable them to continue to claim their ‘rent’ from the shareholders.
Real capitalism has a way of coming to the fore and enhancing the wellbeing of the many. As the people behind the iron curtain will be able to testify, these changes take time. Make no mistake – change is afoot. From the ground up we have the clamour for ESG portfolios. Brexit and Trump are just demonstrations of the rising sense of injustice that ‘rentier’ capitalism has created. The populist ‘right’ politicians are beginning to take on the clothes of their ‘left’ opposition. In the UK, the Institute for Fiscal Studies has warned that Savid Javid and his bosses’ spending promises are closer to Labour’s 2017 manifesto than they are to the Conservative’s. Central banks have driven interest rates down and even below zero, in an attempt to drag future demand into the now, and thus guaranteeing lack of demand going forward. Every economist and his dog are now screaming for fiscal spending to create new demand to fill the void.
Slowly but surely this will have an impact on investors. The biggest impact is likely to be on the fixed interest markets. Why on earth would you pay to lend to a government that is going to increase its spending? If fiscal spending becomes the name of the game at a time when employment in countries like the US and the UK is at record lows, the power of labour will slowly increase as it realises that it is a finite resource. This is especially true in countries where the demographics are ageing. In five or ten years time we will look back and ask whoever thought it was a good idea to buy government bonds at negative yields. Just like we look back and wonder why anyone thought it was a good idea to buy Argentinian government bonds maturing in 100 years’ time only two years ago. Equities on the other hand, whilst they will be volatile as bond yields rise, will benefit from the largess of the various governments borrowing to spend. Hopefully, the spending will be worthwhile. The growing understanding of what mankind is doing to the planet and the implications it has for mankind as a whole should give the world’s leaders plenty of ways in which money can be spent in a worthwhile manner.