The benefits of increased productivity over the last 35 years have not gone to the middle class. So, where did they go? UMass's William Lazonick identifies a key change made by the Reagan Administration – to date largely overlooked – that bears a lot of the blame.
In an article titled
Profits Without Prosperity in the September Harvard Business Review, UMass professor William Lazonick describes original research into companies listed on the S&P 500. Lazonick finds that between 2003 and 2012,
an incredible 91% of the profits of these firms profits went – NOT to R&D, investments in plant and equipment, job creation or workers' wages – but to stock repurchases (54%) and dividends (37%).
HBR, Wm Lazonick: Profits Without Prosperity: Stock buybacks manipulate the market & leave most Americans worse off
http://bit.ly/... (Sep 2014)
It was not always so....
More charts & explanation below the squiggle.
Note: Lazonick's article costs $8.99 to read online for non-HBR subscribers. You can find an excellent – and in some ways more fervent – play-by-play of the article by Denning, How CEOs Became Takers, Not Makers, at Forbes for free.
In 1970, Milton Friedman penned an article for The New York Times Magazine. Steve Denning at Forbes identifies this article as the pivot point for the split between two schools of economics that Lazonick describes as "retain & reinvest" and "downsize & distribute." The latter came to be known as "Maximizing Shareholder Value" (MSV) or "The Chicago School."
Wages began to flatten in the late 1970s with the popularization of "Maximizing Shareholder Value" Economics, otherwise known as "The Chicago School." Sources: EPI, base chart; HBR, Lazonick, text.
Friedman's article is entertaining to read (not to mention poorly written):
The businessmen believe that they are defending free enterprise when they declaim that business is not concerned "merely" with profit but also with promoting desirable "social" ends; that business has a "social conscience" and takes seriously its responsibilities for providing employment, eliminating discrimination, avoiding pollution and whatever else may be the catchwords of the contemporary crop of reformers. In fact they are – or would be if they or anyone else took them seriously – preaching pure and unadulterated socialism. Businessmen who talk this way are unwitting puppets of the intellectual forces that have been undermining the basis of a free society these past decades. (Emphasis added.)
Throughout the 1970s, Maximizing Shareholder Value Economics (MSV) became popular, first in business schools, then in businesses themselves, & finally saw its culmination in the election of Ronald Reagan. Lazonick describes the transition:
From the end of World War II until the late 1970s, a retain-and-reinvest approach to resource allocation prevailed at major U.S. corporations. They retained earnings and reinvested them in increasing their capabilities, first and foremost in the employees who helped make firms more competitive. They provided workers with higher incomes and greater job security, thus contributing to equitable, stable economic growth what I call "sustainable prosperity."
This pattern began to break down in the late 1970s, giving way to a downsize-and-distribute regime of reducing costs and then distributing the freed-up cash to financial interests, particularly shareholders. By favoring value extraction over value creation, this approach has contributed to employment instability and income inequality.
We tend to think of what went wrong in the last 30 years as characterized by increasing inequality, the demise of unions, the eclipse of a livable minimum wage, etc, but Lazonick claims these are simply the
results of MSV Economics as companies (and their captive legislators) pulled out all the stops in the service of "maximizing shareholder value." In particular, Lazonick identifies one specific regulation that has had an outsized effect:
Rule 10b-18 of the SEC Act.
The [Security & Exchange] Commission's chairman from 1981 to 1987 was John Shad, a former vice chairman of E.F. Hutton and the first Wall Street insider to lead the commission in 50 years. He believed that the deregulation of securities markets would channel savings into economic investments more efficiently and that the isolated cases of fraud and manipulation that might go undetected did not justify onerous disclosure requirements for companies. The SEC's adoption of Rule 10b-18 reflected that point of view.
[Some of you may want to skip this next paragraph]:
Under the rule, a corporation's board of directors can authorize senior executives to repurchase up to a certain dollar amount of stock over a specified or open-ended period of time, and the company must publicly announce the buyback program. After that, management can buy a large number of the company's shares on any given business day without fear that the SEC will charge it with stock-price manipulation provided, among other things, that the amount does not exceed a safe harbor of 25% of the previous four weeks average daily trading volume.
I know that sounds like a bunch of markety-gobbledygook, but Lazonick summarizes its effect this way:
Rule 10b-18 legalized stock market manipulation.... [It] has facilitated a rigged stock market that, by permitting the massive distribution of corporate cash [directly] to shareholders, has undermined capital formation, including human capital formation.... It has enabled the wealthiest 0.1% of society, including top executives, to capture the lion's share of the gains of U.S. productivity growth while the vast majority of Americans have been left behind.
Lest there be any doubt about the impact of this SEC Rule, check out this graphic (which I annotated):
Timeline of causes of wage/productivity split. Sources (as cited in diary): CPI (base chart); Lazonick; Denning; Friedman.
As you can see, 1982 – the year SEC Rule 10b-18 took effect – was the year that the split between productivity and wages took off with a vengeance. It was also at this point, that inequality headed on its dramatic upward trajectory as documented most recently by the
Economic Policy Institute, and
The Fed.
Lazonick's article contains much, much more. Like Piketty, Lazonick is a researcher. He gets his hands dirty in the data: thirty years of data, in fact. But whereas Piketty is first and foremost a data gatherer, Lazonick also looks at policy. In addition, he focuses on the United States exclusively, which Piketty has avoided in part due to our unique class of super-rich "super-managers," who – enabled by Rule 10b-18 – have been able to rake in much of the benefits of buybacks, leaving regular shareholders in the dust.
Lazonick also suggests policy solutions (#1: Repeal Rule 10b-18) that have begun to resonate across the economics blogs. The problems with lack of investment in R&D, capital improvement & innovation, and good, well-paying jobs have been widely noted. What Lazonick has uniquely done is identify an important mechanism underlying these – and offer a set of fixes.
For more, I suggest reading Lazonick's "Profits Without Prosperity," and/or Steve Denning's articles about it. In addition, Sam Seder interviewed Lazonick about his paper for Majority Report. The audio of that interview is here.
>>>>>>>>>>
Rec list! Awesome! I am honored.