Volume 40 Number 2

Saving Investors from Themselves: How Stockholder Primacy Harms Everyone

We face many tough issues including poverty, climate change, social and economic inequality, the cost and quality of education and healthcare, stagnant wages, financial market instability, disease, and food security. Despite the existential threat that these concerns may raise, there is no consensus on whether or how to address them through regulation, taxation, or other government policy tools. Private enterprise, however, has tremendous potential to address these issues through technology, wages, supply chain maintenance, green operations, efficient delivery of goods and services, and a myriad of other outputs and outcomes.

In the U.S., the potential of the private sector to address these issues dwarfs that of the government. The 2015 federal budget was approximately $2.5 trillion (excluding transfer payments like Social Security), while the 2015 gross domestic product (GDP) was about $18 trillion. While numbers go up and down, total government spending (including state and local) typically accounts for about 20% of GDP when transfer spending is netted out. Consumer and business spending account for the other 80%. In light of these realities, harnessing the assets of the private sector is a critical pathway towards addressing pressing social and environmental issues.

However, the structure we use to allocate resources in the private economy actively precludes using assets in this manner. What I want to do here is describe the structural issue and how a new corporate governance model—the benefit corporation—can help to restructure our system of capital allocation. But we require more than a mere adjustment to corporate governance. I want to suggest that everyone along the investment chain, from corporate executives and directors to fund managers and individual investors, add an ethical component to their decision-making. I do not mean to suggest altruistic investing. What I am suggesting is that there is a better way to invest for private gain—one that will potentially produce a better outcome for all participants in the economy, including investors. The ethical principle is easy to state: investors and managers should not seek gains by simply extracting as much value as possible from the economy, but instead should seek gains by building and sharing value with all stakeholders in their investments. In other words, we need to restructure our system to encourage the investment of private capital in positive sum opportunities.

The current rules for allocating private capital are based on the idea of “stockholder primacy” and the pursuit of immediate increases to share value, which have become identified with a pre-governmental pure “free market.” As Robert Reich points out in his recent book, Saving Capitalism, there is really no such thing. There is no free market without rules that are created and enforced by government and social mores, and those rules affect outcomes. The rules in place today pit the interests of investors against those of other stakeholders rather than linking them. This is actually a fairly new construct and not a universal one. Pushing the market in a different direction—one that links the interests of all stakeholders—will return the U.S. to the model of stakeholder capitalism that prevailed after World War II. This model would deliberately allocate capital in order to create value for society as a whole, thereby addressing critical social and environmental issues. It would return U.S. capitalism to a system based on making rather than taking.

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