A relentless focus on maximizing shareholder value has contributed to stagnant middle-class wages in the United States and fueled the rise of a society increasingly divided between haves and have-nots, according to a new working paper published by the Roosevelt Institute, a progressive economic think tank.
“Nearly fifty years of increasing focus on shareholder payments has cost American workers the chance to do well when corporations do well,” the study’s author, Lenore Palladino, said in a statement. “The misguided assumption that corporate prosperity should benefit only shareholders has hurt the ability of employees to bargain for a share of that prosperity — which they help create — and held back a growing economy.”
The paper traces the rise of what Palladino calls “shareholder primacy," which she defines as “a legal and economic framework for corporate governance that claims that the sole purpose of corporate activity is to maximize wealth for shareholders.” As Palladino tells it, in the decades immediately following World War II, managers held considerable decision-making power in the dominant publicly traded companies. Because of their positions in their companies, managers tended to make decisions with an eye toward maintaining good, or at least stable, relations with their employees.
“Firms invested in and depended on a stable labor force,” Palladino writes, “and unions held enough power to secure significant gains for their members.”
That began to change in the 1970s. “As economic growth slowed and inflation rose, shareholders became dissatisfied with low and steady dividends,” Palladino writes. Buoyed by the efforts of such conservative intellectuals as the economist Milton Friedman, who wrote that the responsibility of corporate executives is to “conduct the business in accordance with [business owners’, i.e. shareholders'] desires, which generally will be to make as much money as possible,” shareholders began demanding a greater share of the profits generated by the businesses they invested in. The interests of employees were relegated to a secondary concern.
The fruits of that revolution are on display in the chart at the top of this article, showing how worker compensation became decoupled from worker productivity starting in the 1970s. Before then, productivity and pay had risen in tandem: Employees were producing more output and getting paid accordingly. But afterward pay lagged behind a steep rise in productivity.
The chart below, for instance, shows inflation-adjusted hourly wages for production and non-supervisory workers, a subset of the labor force often used as a proxy for the middle class. In real terms, those wages peaked in 1972 at $23.85, then eroded until the mid-1990s. The subsequent two decades have seen a gradual rebound, although as of January those wages still had not equaled their 1972 peak.
What did corporations do with their profits if they were not investing in their workers? Palladino produces data showing much of that money was instead diverted to shareholders via two methods: dividends (payouts of profit on a per-share basis) and stock buybacks, which usually have the effect of boosting stock prices for existing shareholders.
According to Palladino’s data, from 1972 to 2016 the value of these shareholder payouts rose from 1.8 percent of all publicly traded companies’ assets to 3.1 percent. Over that same time, wages’ share of company assets fell by roughly half.
“These shifts are consistent with a story of rising shareholder power and declining employee bargaining power,” Palladino writes.
This relationship is not necessarily causal, of course. Palladino points out that many factors can play a role in wage stagnation, “including globalization, rising market power and decreased antitrust enforcement, the decline in the number of workers covered by a collective bargaining agreement, financialization and the rising proportion of national income earned by the financial sector, and fissuring of the workplace,” to name a few.
Other research has shown, for instance, that a focus on shareholder value can cause employment to shrink as managers seek ways to cut costs, and that the relationship between shareholder payments and employee wages is on some level zero-sum: You cannot boost one without cutting the other. If nothing else, the data charted by Palladino shows the era of shareholder primacy has not been a particularly good one for American workers.
“The rise of shareholder primacy has contributed to America’s high-profit, low-wage economy, in which the wealthy few capture much of value created by working people,” Palladino concludes.
Defenders of practices like stock buybacks disagree with analyses like Palladino’s. They maintain, for instance, that returning profits to shareholders allows those shareholders to invest those funds in other companies with greater cash needs, benefiting workers in those companies. Cash from buybacks “is not disappearing into the vaults of billionaires,” as Benn Steil and Benjamin Della Rocca of the Council on Foreign Relations recently put it, “but is being reinvested in firms that do have good uses for it — like capital investment and worker retention.”
Some economists also argue that, somewhat paradoxically, buybacks prevent firms from becoming too shareholder-focused by putting more of a company’s value under the control of its executives. “A common concern about the public corporation is that it is owned by millions of dispersed shareholders, whose stakes are too small to motivate them to look beyond short-term earnings,” according to Alex Edmans of the London Business School. CEOs and remaining shareholders “have the incentive to look beyond earnings and instead look to a company’s long-term growth opportunities and intangible assets.”
In an interview, Palladino said that it is not just workers who are potentially harmed by an excessive focus on shareholder value. Customers lose when companies forgo investment in new or more affordable products to pay their shareholders.
The practice even puts small shareholders, including people holding retirement investments in 401(k) accounts, at risk, Palladino says. Buybacks, for instance, directly benefit only people who subsequently sell their stock in the company, which long-term retirement investors typically do not do. And overspending on dividends and buybacks can put a company in a financially precarious situation if a recession hits.
“If, in the next downturn, corporations do not have the funds on hand to maintain operations in leaner times, or have loaded up on debt that they then can’t repay, or simply aren’t making the kinds of investments that will make them grow and innovate over time, who is going to be affected?” Palladino asks. “Those of us who are counting on the stock market for our long-term economic security."