The Capital Letter

‘Stakeholder Capitalism’ a Sham? Unfortunately Not

(Dekdoyjaidee/Getty Images)
The week of August 23, 2021: shareholder primacy under siege, Afghanistan, inflation, and much, much more.

A week or so ago, Lucian A. Bebchuk and Roberto Tallarita wrote an article for the Wall Street Journal in which they complained that the notorious (my description, not theirs) redefinition of the purpose of a corporation contained in a statement by the Business Roundtable (BRT) in August 2019 was something of a sham. By introducing the new definition, the BRT abandoned its earlier support for shareholder primacy — the idea that a company should be run, above all, for the benefit, shockingly, of the shareholders who own it — in favor of the assertion that a company should be managed in a way that takes proper account of the interests of various “stakeholders” of which shareholders were only one category.

Despite this, Bebchuk and Tallarita maintained that very little had really changed:

Corporate leaders have been busy presenting themselves as guardians of the interests of “stakeholders,” such as customers, employees, suppliers and communities as well as shareholders. Our recent research, however, casts serious doubt on whether corporations are matching the talk with action . . .

We’ve identified almost 100 signatory companies that updated their corporate governance guidelines by the end of 2020. We found that the companies that made updates generally didn’t add any language that elevates the status of stakeholders, and most of them reaffirmed governance principles supporting shareholder primacy.

And

most of the companies still have guidelines that explicitly align the interests of directors and stockholders. In contrast, no company’s compensation practices or guidelines link director compensation with stakeholder interests. The strong alignment of director pay with stock price sends a clear signal that shareholder value is the objective directors are expected to pursue.

Good.

To the extent this is the case, it matters less than Bebchuk and Tallarita appear to think, but before considering that issue it’s worth looking at the motives of those prominent corporate executives (there have been many of them) who by signing the BRT statement committed themselves — nominally or otherwise — to “stakeholder capitalism.” Cynicism of the “right” sort, which was, as I will argue later, a remarkable display of naïveté on the part of individuals who have achieved such business success, can explain and partially — but only partially — excuse some of those signatures.

But if some were acting out of a cynicism of the right sort, does that imply there were others who were prepared to betray their companies’ shareholders for more squalid reasons?

Well, yes.

Bebchuk and Tallarita:

If CEOs weren’t intending to deliver value to all stakeholders, what were they trying to do with their statement? One potential motivation is to make corporate leaders less accountable to shareholders. Corporate leaders and advisers often use stakeholder arguments to urge institutional investors to be more deferential to incumbent leaders, less open to activists’ challenges in the event of underperformance, and more accepting of arrangements that insulate management from shareholder intervention.

There is a lot to that, I reckon.

Stakeholder capitalism is an expression of corporatism. Some of these rogues, cynics, if you like, of the “wrong” sort, have their eyes on an even bigger prize, securing for themselves an important — and, one way or another, well-rewarded — role in the corporatist society that is now under construction in this country. Such a society is not, regardless of the sound of that adjective, one dominated by big business, but one, run, in theory anyway, by and for various interest groups, players in an orchestra, with the state acting as a conductor. Corporatism can be relatively benign — its traces are visible in, say, post-war West Germany — it is also the socioeconomic model (again, in theory) underlying fascist and fascist-adjacent regimes in mid-century Europe and Argentina. The U.S. is not headed the whole way down that path, but our current iteration of corporatism will end up as considerably more assertive than anything seen during the years of the Wirtschaftswunder — and it is more likely to lead to economic decline than an economic miracle. It won’t be great for democracy either.

Cynics of the right sort, on the other hand, were presumably gambling that a bit of fancy talk — that they were fully in favor of the BRT’s “transformative statement” and so on, might be enough to keep the enemies of shareholder primacy at bay.

Back to Bebchuk and Tallarita:

Shareholders submitted more than 40 proposals to signatory companies on how to implement the statement’s vision. The companies all opposed these proposals, and most of the companies explicitly stated—in their proxy statement or in letters sent to the Securities and Exchange Commission—that the statement didn’t require any changes to their treatment of stakeholders.

Shareholders are entitled to submit proposals on anything that they see fit, including proposals that would lead to a reduction in their property rights. It appears, however, that most shareholders did not find much to like about that. There’s a reason why so many of stakeholder capitalism’s advocates tend to have a bias against leaving key decisions to be put to the vote by those outside their circle, whether at shareholder meetings or elsewhere.

The good cynics didn’t understand what they were blundering into. What they saw as a minor tactical concession is turning into a strategic disaster: Even if their support for the BRT’s new stance was purely for show, it reinforced the impression that many senior executives now believed that shareholder primacy had failed morally, economically, and politically.

Worse, their reluctance to defend shareholder primacy was part of a wider unwillingness on the part of business leaders to stand up for free markets in the years since the global financial crisis. While there is plenty to criticize about banks’ behavior in the run-up to that debacle, and plenty to criticize about the terms of the (ultimately profitable) bailouts, the role played in creating the crisis by poorly designed and often overly interventionist rulemaking by regulators (starting, probably with bank risk-weighting rules introduced years before) has been obscured. Central planning doesn’t work. It says something that the financial crisis was followed shortly thereafter by the euro-zone crisis, another epic failure of central planning.

The banks undeniably contributed to the mess in which they found themselves, but theirs is just one, heavily regulated sector. Their mistakes say little or nothing about free markets as a whole, but that is not how the story has been told. Occupy Wall Street may have lost on the streets, but it was allowed to win much of the argument. “Capitalism” was put in the dock — yes, yes, if only metaphorically. Those who should have come to its defense either slunk off in silence or started to talk about how fundamental “reform” was needed. Among the global elite, that allegedly much-needed reform began to be seen as stakeholder capitalism, a notion that had — make of this what you will — been peddled by Davos’s Klaus Schwab for years. Not pushing back against this corporatist revival was an act of cowardice or (in the case of those who saw themselves as winners under corporatism’s spoils system) opportunism that less than a decade later led to the BRT’s trashing of shareholder rights.

Recognizing a good bandwagon when they saw one, others have weighed in too. Here’s one Joe Biden, quoted in The Hill in July 2020:

The days of Amazon paying nothing in federal income tax are over. Let’s make sure workers have power and a voice. It’s way past time to put an end to the era of shareholder capitalism – the idea that the only responsibility a corporation has is to its shareholders. That’s simply not true and it’s an absolute farce. They have a responsibility to their workers, to their country. That isn’t a new or radical notion.

The Biden of 2020 was perceived as considerably more moderate than the president he was to become, but he is not — shall we say — the most knowledgeable of people. Would he have been talking about “shareholder capitalism” in quite such a precise manner without the BRT having said what it had? Biden’s caricature of shareholder primacy stirred up some criticism, which produced this telling reaction from the liberal “fact-checkers” at Snopes.com (my emphasis added):

Biden did not propose abolishing the stock market nor barring individuals from buying and selling shares. Rather, Biden was advocating a stakeholder-driven approach to capitalism and calling for an end to the predominance of the shareholder-driven approach, a position that has grown in popularity in recent years, even among the CEOs of the largest companies in the United States.

The BRT, and, critically, those who had signed its statement, moved the Overton Window when it came to the discussion of shareholder primacy — and not in a good way for shareholders.

The potential significance of this shift should not be underestimated. Successfully implemented, stakeholder capitalism would represent a transfer of resources away from shareholders. These resources (and the power that flows from them) could then be redirected away from the comparatively narrow aims (focused, mainly, on economic return) that come with shareholder primacy toward a broader agenda defined by, well, who exactly? Much of the answer to that question can found by looking at the way stakeholder capitalism has intertwined with ESG.

ESG (rating companies against various environmental, social, and governance benchmarks) is a peculiarly aggressive variant of “socially responsible” investing (SRI). Originally, SRI (in most instances) meant investors avoiding taking a position in companies active in businesses (armaments, say, or tobacco) of which they disapproved. That is one thing, but efforts by socially responsible investors to “force” companies to change their ways is quite another. Such efforts — attempted, say, by angry nuns with a few shares to their name — used to be a dauntingly uphill struggle, but they have been made much easier by an intellectual climate in which the prevailing view is becoming one in which companies are held to be accountable to stakeholders — a usefully flexible term — rather than flinty, hard-hearted shareholders alone.

Angry nuns might now find themselves on the same side as major investors with large numbers of shares at their disposal. Typically a good number of these have been public-sector pension funds, who, for quite some while, have been increasingly willing to use their considerable voting power in the pursuit of politicized objectives that have little obvious connection with investment return, and can sometimes hurt it: According to some estimates from 2018, the decision by CalPERS, the California Public Employees’ Retirement System, to divest from tobacco stocks caused it to miss out on $3.6 billion in investment gains. Unsurprisingly such funds have proved very receptive to ESG, as have charitable foundations. They in turn have been joined by investment groups who either explicitly (via designated funds or strategies) or, more generally, are now investing on a basis that, to a greater or lesser degree, reflects ESG guidelines. The days when SRI-influenced managers had scant clout when it came to how their portfolio companies were run have come to an end.

This has been made easier by the convenient vagueness with which ESG is currently defined, and by the claim, rather shakier than its proponents will admit, that ESG can enable investors to do well by doing good. And it is made easier still — for many in the financial world — by the fact that ESG has proved to be a lucrative source of fees, commissions and consultancy agreements, not least for some of the large investment companies such as BlackRock, companies that are developing into significant players in the emerging corporatist order.

And so we return to the question of who sets the agenda, and, more specifically, who decides what is “socially responsible” or determines ESG scores. These are decisions that, given the power of corporate America, can alter the course that this country takes, but they are decisions lacking any democratic accountability. For them — and decisions like them — to be taken by a cabal that includes activists, C-suite grandees, public-sector pension funds, and investment tycoons, as well as quasi-private regulators from Nasdaq (diversity quotas) to various accountancy bodies (climate change) is in keeping with the corporatist modus operandi, so long as the conclusions arrived at are in accord with broader objectives set by the state — or elements within it.

The opportunity presented by the retreat from shareholder primacy and the advance of ESG is not one that the state, particularly with Democrats at the helm, is going to miss. And it will do so by making the most use it can of the regulatory rather than the legislative route, an approach that, once again, minimizes democratic accountability. To take one example, the SEC is stepping up.

Reuters (May):

The U.S. Securities and Exchange Commission (SEC) plans to propose a rule requiring that public companies disclose a range of workforce data as the agency steps up environmental, social and governance (ESG) disclosures, its new chair, Gary Gensler, said on Thursday.

Gary Gensler told an audience of agency and academic researchers that “investors increasingly want to understand information about . . . one of the most critical components of companies, their workforce.”

He said staff would propose a new rule on disclosing the workforce or “human capital” metrics. Those disclosures could include data on issues such as workforce diversity, part-time versus full-time workers, and employee turnover, according to advocacy groups that have been pushing for the new rules . . .

The SEC is ramping up its ESG agenda to execute on Democrats’ priorities to address issues such as climate change and social injustice. Gensler has previously said the agency was also planning a new climate change disclosure rule.

Some investors may indeed be asking for more information about companies’ “human capital,” but insisting on such disclosures would owe more to the agency’s progressive to-do list (essentially by laying down the groundwork for a name-and-shame regime) than the investor protection that is supposed to be its job. It is hard, for instance, to see how shareholders would benefit from the obligatory disclosure of diversity data.

The same can be said of the SEC’s ideas on one specific area of ESG disclosure: that it should be mandatory for companies to disclose their exposure to “climate risk” — and in some detail. Boilerplate language will no longer do the trick. In a talk in July, Gensler justified this on the grounds that “investors are looking for consistent, comparable, and decision-useful disclosures so they can put their money in companies that fit their needs.” However, except in very rare cases, climate change itself is highly unlikely to give rise to material risks on any reasonable investment horizon (to be fair, regulatory or financing risks directly or indirectly created by the campaign against climate change — risks to which Gensler alludes — are a different matter), meaning that this doesn’t have too much to do with investor protection or shareholder return. Instead, these requirements pave the way (yet again) for a name and shame regime and subordinate shareholder return to progressive goals — providing detailed and sometimes complicated disclosures won’t come cheap, and nor perhaps will their consequences.

It’s also worth noting that the SEC is also looking closely at how ESG investment products are being sold.

The Wall Street Journal (from May):

[The SEC] will . . .probe for what it considers deceiving claims by fund managers and investment advisers who advertise environmentally friendly strategies, known as ESG. The acronym stands for “environmental, social and governance” characteristics, but there is no agreed definition of how to define companies that fit into that bucket . . .

Mutual fund complexes and other stock pickers have flooded the market with products that they say have an ESG focus, and many investors have shown a taste for funds that give priority to stocks that score highly on ESG metrics.

The SEC is responding to that surge in products with an eye toward testing whether any claims have exceeded reality, said George Raine, a partner in the asset management group at Ropes & Gray LLP.

This will lead, whether formally (by the introduction of fixed rules) or informally (by punishing managers for mis-selling purportedly ESG-based products: in this connection, check out the agency’s reported investigation of DWS) in more standardized — and, inevitably, tougher — ESG scoring. Given the increasing weight of ESG money, this will have a knock-on effect on the way that companies operate. Shareholders interested in return are unlikely to emerge as the winners.

Corporate executives who have embraced stakeholder capitalism (and, even more so, any who have submitted to the disciplines of ESG) however insincerely, will find it difficult to argue against all this. Moreover, whatever the SEC might do, some companies may already find themselves in legal jeopardy because of the way that they have talked the stakeholder talk without doing as much of the stakeholder walk as they had implied.

JD Supra:

In May 2020, a non-profit sued ExxonMobil, claiming it is “greatly overstating the level in which it engages in cleaner forms of energy . . . thereby deceiving consumers,” in violation of the District of Columbia’s Consumer Protection Procedures Act.  Beyond Pesticides v. Exxon Mobil Corporation, D.C. No. 2020-CA-002532.  The complaint alleges that only a small part of Exxon’s business is devoted to clean energy, as it simultaneously invests heavily in fossil fuels . . .

In July 2019, consumer nonprofits sued Tyson Foods for misleading consumers by proclaiming its commitment to sustainable practices, even though it is allegedly the “second largest polluter” in the U.S. that routinely allows the “horrific abuse” of its livestock.  Food & Water Watch Inc. v. Tyson Foods Inc., D.C. Case No. 2019-CA-004547.

There are plenty more such lawsuits out there. They may or may not succeed, but they are another illustration, albeit indirect, of the impact that the rise of stakeholder capitalism is having. As mentioned above, at the beginning of their Wall Street Journal article, Bebchuk and Tallarita argued that their “recent research . . . casts serious doubt on whether corporations are matching  [their stakeholder] talk with action”. That misses a wider point. Those corporations may not be matching their words with deeds, but words such as those have enabled others to start forcing companies to go in a direction that no one who believes in shareholder primacy should want to see.

The Capital RecordWe released the latest of a series of podcasts, the Capital Record. Follow the link to see how to subscribe (it’s free!). The Capital Record, which appears weekly, is designed to make use of another medium to deliver Capital Matters’ defense of free markets. Financier and NRI trustee David L. Bahnsen hosts discussions on economics and finance in this National Review Capital Matters podcast, sponsored by National Review Institute. Episodes feature interviews with the nation’s top business leaders, entrepreneurs, investment professionals, and financial commentators.

In the 32nd episode David welcomed Anthony Scaramucci back to the Capital Record to discuss COVID, mandatory vaccines, the responsibility of government, the limitations of government, and what this ultimately all means for a free economy.

And the Capital Matters week that was . . .

AfghanistanKevin Hassett:

Given the utter chaos set off by the Biden administration’s bungled exit from Afghanistan, it may seem more than a little surprising that global equity markets have barely budged. The market’s reaction to the fall of Kabul follows a fairly reliable pattern of geopolitical events “decoupling” from global markets. There is a significant chance, however, that markets have underestimated how bad the Afghan news is about to be for the global economy . . .

Andrew Stuttaford:

No government — particularly one with only a shaky claim to legitimacy, none of it democratic — will ever enjoy a sudden drop in its country’s standard of living. That is something the Taliban may shortly discover as they try to consolidate their hold over a society famously fragmented along ethnic lines. Terror reinforced by purloined American weaponry may work, at least for a while. And yes, the universalist pretensions of the Taliban’s Islamism will win over some hearts and minds, as will the order, however harsh, that their form of Sharia brings with it. Nevertheless, if the Taliban, a movement still strongest in its Pashtun heartland, come into too abrasive a conflict with the traditional loyalties of other Afghans to their kith, kin, and tribe, they may struggle . . .

Michael Strain:

The United States’ efforts to suppress opium production in Afghanistan is a case study in the law of unintended consequences. It ended up giving the Taliban a multi-million-dollar revenue stream . . .

InflationJoseph Sullivan:

Inflation has returned. The question is for how long. Some see the rise in consumer prices as — to use a popular word — “transitory” blips poised to pass as pandemic-related quirks in the economy fade. Others perceive inflation as more likely to persist. Only time will tell who is correct. For now, though, history should give prophets of inflation’s ephemerality more pause than prophets of its persistence . . .

Ramesh Ponnuru:

The Fed is officially committed to achieving an average inflation rate of 2 percent. Some economists say the target should be raised to 3. George Selgin considers the arguments for it and says no.

David Beckworth and I considered a similar idea and came to the same conclusion in NR a few years ago . . .

Big TechIain Murray:

Conservatives rightly grow angry at the facts considered by the Supreme Court in Masterpiece Cakeshop vs. Colorado Civil Rights Commission. This case involved a Colorado baker, Jack Phillips, who had refused to custom-design a cake to help celebrate a gay wedding. As a Christian, Phillip objected to advancing a message that conflicted with his sincerely held religious beliefs. Once he had done so, he was prosecuted under equal-protection laws. Although the Supreme Court dodged the issue in its decision, this was at heart a question of compelled speech — Phillips was being forced by law to use his artistic talents against his will.

Today, many conservatives want to compel others to carry their speech by regulating social-media platforms’ ability to moderate content. That’s wrong and against longstanding conservative principle. Conservatives need to find another solution to their complaint . . .

InfrastructureDouglas Carr:

Infrastructure’s effectiveness in the 1950s and 1960s was due in part to the construction of the interstate highway system. It stands to reason that interstate construction would result in follow-on private investment; think of motels, gas stations, restaurants, and so on. San Francisco Fed economist John Fernald is quoted as saying, “Building the interstate highway system was enormously productive.” Unfortunately, we can’t build the interstate highway system twice.

Just as infrastructure investment has grown less effective, it’s also grown more costly. Congress’s funhouse-mirror accounting shows an increase of “only” $256 billion in the federal deficit, but much of the “source” of funds for the infrastructure package comes from “repurposed” pandemic spending. In other words, this money, which was budgeted but never spent, still must be financed with deficit borrowing . . .

Pandemic ReliefMatt Weidinger:

On Labor Day, an estimated 7.5 million individuals are expected to see their temporary federal unemployment benefits come to an abrupt end. But even though that will mark the largest shutoff of such benefits in American history, two political dynamics have made mention of the approaching benefits cliff all but taboo in progressive policy circles: The cliff was designed by the Democratic authors of the March 2021 American Rescue Plan, and it will disproportionately affect residents of blue states.

The 7.5 million Americans poised to lose benefits in two weeks is a huge figure, exceeding the combined population of the cities in Major League Baseball’s two Central Divisions — Chicago, Milwaukee, Pittsburgh, St. Louis, Cincinnati, Cleveland, Detroit, Minneapolis, and Kansas City. As the chart below shows, the coming benefits cliff is almost six times “steeper” than the next-steepest such cliff in American history . . .

The Pandemic and the CitiesIngrid Chung:

New York City was recently crowned the most expensive rental market in the U.S., with a median monthly rent for a one-bedroom unit perching at $2,810. The median monthly rent for that size unit in the former No. 1, San Francisco, is $2,800. Although the numbers haven’t quite hit pre-pandemic levels, the curve is bending ever skyward.

Bad news for renters, yes — but still a promising sign . . .

Woke CapitalVeronique de Rugy:

One of the many problems with demanding that companies act like social warriors is that it requires one to ignore the essence of what corporations are and what each must do to survive. The failure to understand this simple fact will lead to a lot of meaningless virtue-signaling from companies trying to figure out how to please everyone . . .

TechnologyRobert Zubrin:

The reason we need fusion is to destroy the Malthusian belief system, which, in my estimation, is the preeminent threat to human civilization today. If one accepts the idea that resources are limited, then all nations are fundamentally enemies, and the only issue is who is going to kill whom in order to claim what’s available. At bottom, this was the source of the major catastrophes of the 20th century. It could cause far worse in the 21st. This mindset, however, is false. We are not threatened by there being too many people. We are threatened by people who think there are too many people.

Fusion power can save us by utterly refuting the limited-resource thesis. The amount of deuterium fusion fuel present in one gallon of water contains as much energy as that produced by burning 350 gallons of gasoline. That’s all water on earth, fresh or salt. A gallon of water from Mars contains deuterium with the energy content of 2,000 gallons of gasoline. Other planets or asteroids may offer more still. So what we are talking about with fusion is unlimited energy. With enough energy, you can do anything. In the entire history of human civilization we have not used up a single kilogram of iron or aluminum. We have just degraded some matter from more convenient to less convenient forms. With enough energy, we can rearrange it back, recycling it faster and faster from one form to another. We will never run out of anything . . .

Baby BondsRoss Marchand:

The $3.5 trillion budget-reconciliation plan is already morphing into a bonanza for dubious spending and reckless tax increases. Provisions including green-energy tax breaks and “free” community-college tuition would disproportionately benefit the wealthy while leaving taxpayers holding the bill. And now, Senator Cory Booker (D., N.J.) is pushing for even more red ink. Booker wants the legislation to include his “baby bonds” proposal, which would grant every newborn American $1,000 to be tucked away in a savings account in which the government will regularly deposit additional money. However, this $60 billion-per-year proposal would only succeed in exacerbating income inequality while burgeoning the debt. Policymakers should keep “baby bonds” out of the budget bill and give Americans a break from runaway federal debt . . .

TaxRobert VerBruggen:

Under the Democrats’ COVID bill, most American parents will be receiving $3,000 per child this year, or $3,600 for kids under six. The money started going out last month; it’s paid in a combination of regular installments and a lump sum at tax time. And there’s a push to extend these payments through the massive bill the party is working on through the reconciliation process, with an eye toward making them a permanent feature of the tax code.

It’s a big change from the Republicans’ 2017 tax law, under which the child tax credit maxed out at $2,000, was paid only once a year, and was not fully “refundable.” Non-working parents didn’t get it at all, and it slowly “phased in” once parents made more than $2,500. The new amount is much higher, and the phase-in — designed to make sure the credit encourages work — is gone . . .

Energy and the EnvironmentJordan McGillis:

The Biden administration is on its knees.

As of this writing, it is pleading with the Taliban to spare the lives of the Americans remaining in Kabul. It is pleading with the airlines to help with the evacuation effort. And it is also pleading with Saudi Arabia and Russia to put more oil onto the global market and reduce the upward price pressure that Americans have felt at the gas pump this summer.

Much like the fiasco in Afghanistan, the new energy crunch should shock us. But neither should come as any surprise . . .

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