Is stakeholder capitalism really back?
Joseph E Stiglitz
Stakeholder capitalism is poised to take the investing world by storm. The Business Roundtable, an association of CEOs of America’s top companies, recently issued a statement that redefines the purpose of a corporation. Signed by nearly 200 top CEOs, including those of J.P. Morgan, Apple, Walmart and Amazon, it essentially says that America should move from shareholder to stakeholder capitalism. That is, corporations should not just focus on maximizing shareholder value, but also include the well-being of employees, environment, suppliers and communities at large. This statement is dramatically different from one made by the Roundtable just two decades ago, when it had articulated a doctrine that the duty of a company’s management and board was only towards its shareholders.
For four decades, the prevailing doctrine in the United States has been that corporations should maximise shareholder value—meaning profits and share prices—here and now, come what may, regardless of the consequences to workers, customers, suppliers, and communities. So the statement endorsing stakeholder capitalism, signed earlier this month by virtually all the members of the US Business Roundtable, has caused quite a stir. After all, these are the CEOs of America’s most powerful corporations, telling Americans and the world that business is about more than the bottom line. That is quite an about-face. Or is it?
The free-market ideologue and Nobel laureate economist Milton Friedman was influential not only in spreading the doctrine of shareholder primacy, but also in getting it written into US legislation. He went so far as to say, “there is one and only one social responsibility of business—to use its resources and engage in activities designed to increase its profits.”
The irony was that shortly after Friedman promulgated these ideas, and around the time they were popularised and then enshrined in corporate governance laws—as if they were based on sound economic theory—Sandy Grossman and I, in a series of papers in the late 1970s, showed that shareholder capitalism did not maximise societal welfare.
This is obviously true when there are important externalities such as climate change, or when corporations poison the air we breathe or the water we drink. And it is obviously true when they push unhealthy products like sugary drinks that contribute to childhood obesity, or painkillers that unleash an opioid crisis, or when they exploit the unwary and vulnerable, like Trump University and so many other American for-profit higher education institutions. And it is true when they profit by exercising market power, as many banks and technology companies do.
But it is even true more generally: the market can drive firms to be short-sighted and make insufficient investments in their workers and communities. So it is a relief that corporate leaders, who are supposed to have penetrating insight into the functioning of the economy, have finally seen the light and caught up with modern economics, even if it took them some 40 years to do so.
But do these corporate leaders really mean what they say, or is their statement just a rhetorical gesture in the face of a popular backlash against widespread misbehaviour? There are reasons to believe that they are being more than a little disingenuous.
The first responsibility of corporations is to pay their taxes, yet among the signatories of the new corporate vision are the country’s leading tax avoiders, including Apple, which, according to all accounts, continues to use tax havens like Jersey. Others supported US President Donald Trump’s 2017 tax bill, which slashes taxes for corporations and billionaires, but, when fully implemented, will raise taxes on most middle-class households and lead to millions more losing their health insurance. (This in a country with the highest level of inequality, the worst health-care outcomes, and the lowest life expectancy among major developed economies.) And while these business leaders championed the claim that the tax cuts would lead to more investment and higher wages, workers have received only a pittance. Most of the money has been used not for investment, but for share buybacks, which served merely to line the pockets of shareholders and the CEOs with stock-incentive schemes.
A genuine sense of broader responsibility would lead corporate leaders to welcome stronger regulations to protect the environment and enhance the health and safety of their employees. And a few auto companies (Honda, Ford, BMW, and Volkswagen) have done so, endorsing stronger regulations than those the Trump administration wants, as the president works to undo former President Barack Obama’s environmental legacy. There are even soft-drink company executives who appear to feel bad about their role in childhood obesity, which they know often leads to diabetes.
But while many CEOs may want to do the right thing (or have family and friends who do), they know they have competitors who don’t. There must be a level playing field, ensuring that firms with a conscience aren’t undermined by those that don’t. That’s why many corporations want regulations against bribery, as well as rules protecting the environment and workplace health and safety.
Unfortunately, many of the mega-banks, whose irresponsible behaviour brought on the 2008 global financial crisis, are not among them. No sooner was the ink dry on the 2010 Dodd-Frank financial reform legislation, which tightened regulations to make a recurrence of the crisis less likely, than the banks set to work to repeal key provisions. Among them was JPMorgan Chase, whose CEO is Jamie Dimon, the current president of the Business Roundtable. Not surprisingly, given America’s money-driven politics, banks have had considerable success. And a decade after the crisis, some banks are still fighting lawsuits brought by those who were harmed by their irresponsible and fraudulent behaviour. Their deep pockets, they hope, will enable them to outlast the claimants.
The new stance of America’s most powerful CEOs is, of course, welcome. But we will have to wait and see whether it’s another publicity stunt, or whether they really mean what they say. In the meantime, we need legislative reform. Friedman’s thinking not only handed greedy CEOs a perfect excuse for doing what they wanted to do all along, but also led to corporate-governance laws that embedded shareholder capitalism in America’s legal framework and that of many other countries. That must change, so that corporations are not just allowed but actually required to consider the effects of their behaviour on other stakeholders.
What is stakeholder capitalism?
There are two very different perspectives about how a business should be run. On one hand there is the view – best described by Henry Ford – that a company is there to produce something, and pay people a wage high enough that they could become your customers. This is commonly referred to as ‘Stakeholder Capitalism’. Ford says, “There is one rule for the industrialist and that is: Make the best quality of goods possible at the lowest cost possible, paying the highest wages possible.” On the other hand, there is the current business philosophy that companies are only there to make their owners and shareholders money. This is called ‘Shareholder Capitalism’.
Stakeholder capitalism is, then, a market system in which companies treat interests of all major stakeholders roughly equally, rather than explicitly favouring investors, attracting growing interest in these recessionary times. However, the term “stakeholder” is highly ambiguous, if not controversial. There are multiple “theories” and concepts involving the term stakeholder, which come to different conclusions and have accentuations. The term, surely, is multi-dimensional and can be described as having descriptive, instrumental and at core normative levels. The fundamental idea of the stakeholder approach is to consider interests of corporate groups other than just those of shareholders. These interests do not need to be considered for the sake of the shareholders but for their own sake. They have an own intrinsic value. For that reason, stakeholder capitalism judges the performance of a corporation by a broad spectrum of parameters, and not only by the performance of the shares. The subsequent question which interests need to be considered, ergo who the stakeholders are is answered inconsistently.
Freeman defined stakeholders very broadly as “any group or individual who can affect or is affected by the achievements of the firm’s objectives”. It is with no doubt still necessary to further differentiate between different stakeholders since their interests and influence can vary heavily.
In spite of the multi-interest considerations the stakeholder approach is not necessarily dealing with social issues. Broad social concerns and stakeholder considerations do not have to be the same and stakeholder theory is actually not an underlying concept of Corporate Social Responsibility (CSR). The stakeholder approach is thought to be a strategic approach to business making. So it is not about taking the interests of the whole society into consideration and assuming a responsibility towards it, but about understanding and using the relationships between the corporation and the groups that have a stake in it so that the best possible economic result can be reached.
So the stakeholder approach at core requires decision makers to identify the legitimate stakeholder and their interests first, then weigh and balance the latter against each other and finally make their choice on that basis.18 How to finally make those choices is up to the decision makers. There also is no overall agreement on what the overall goal of stakeholder theory is. One idea is to make long term value maximization the goal19 since only by means of pursuing maximization of value created all corporate units and society as a whole can benefit.