The problems with the advocacy of stakeholder capitalism

I have blogged earlier about the problems with compassionate capitalism. 

Rebecca Henderson is among the leading ideologues for corporates in the US seeking to repackage capitalism without making any hard trade-offs. She has an article in Project Syndicate which pretty much captures everything at fault with the stakeholder capitalism advocacy.

Let's start with Henderson's diagnosis,

Corporate leaders are well aware that climate change is bad for business. It will be a lot harder to make money in a world where once-great coastal cities are underwater, agricultural failures produce massive waves of refugees, and unprecedented wildfires destroy hundreds of billions of dollars of property each year. At the level of the entire economic system, there is no fundamental incompatibility between maximizing profits and addressing climate change. But there is a massive collective-action problem: many individual firms simply have had no good business case for becoming a climate leader.

The collective action problem is a convenient straw man to absolve businesses off any responsibility. In fact, more than any collective action problem, there is a deep time inconsistency problem. Corporate leaders know that these harder realities are not likely to materialise during their tenures and can easily kick the can down the road for their successors. 

Even with the collective action problem, it is not as daunting as is being projected. In most major business segments in the US, nearly three-quarters of the market is dominated by no more than 4-5 companies, with many by even 2-3 firms. Is it a coincidence that not one of these segments has seen any collective effort by businesses, who by the way lose no opportunity to collude, to address fundamental issues of their stakeholders (at least of their workers)?

Then there is the issue of impact washing. Businesses pursuing legitimate commercial opportunities in the emerging environmentally beneficial areas should not be confused with stakeholder capitalism. 

In recent years, however, many other firms have been investing aggressively to exploit immediate, profitable opportunities to address climate change. Investors did not pour more than $280 billion into the renewable-energy sector last year out of the goodness of their hearts. The most successful initial public offering of the last two decades was Beyond Meat, a plant-based burger company. And electric-vehicle manufacturer Tesla seems poised to become the most valuable company in the automotive industry. In these and many other cases, the pursuit of shareholder value is driving the kind of system-level innovation that can transform entire industries.

It's disingenuous to even suggest Tesla or Beyond Meat are pursuing stakeholder capitalism. They are merely pursuing shareholder value maximisation. Tesla's aggressive pursuit of tax concessions is just one signature of stakeholder value destruction. Even in the most rapacious versions of capitalism, there will always be firms pursuing environmental sector businesses if there are profit opportunities. 

In fact, in the context of car companies like Tesla issuing green bonds to finance electric vehicles, Jonathan Ford points to this,

As one fund manager, Tom Chinnery of Aviva Investors, put it: “That’s business as usual. Every car company on the planet should be doing this.”

Ford points to another example of even more shameless impact washing by private equity firm, Carlyle,

The hydrocarbon producer, Clearly Petroleum, has operations in Texas alongside the Brazos river, where, thanks to more extreme weather events in recent years, the watercourse has become increasingly prone to heavy flooding. So the company’s owner, the buyout firm Carlyle, supported it in building flood barriers around its storage tanks and elevating electrical equipment, protecting the works from inundation. Pretty sensible you might think. At least if the plan is to pump oil. It doesn’t obviously do much for the planet. Yet, despite the fossil fuel bit and lack of any obvious carbon abatement, Carlyle claims that this is a green investment. The firm says that achieving impact “isn’t just about putting money into companies with strong records on environmental, social and governance factors”. “It’s also about making sure portfolio companies are in a good position to deal with the effects of climate change that are happening right now,” it says. You might argue that if that’s “green”, almost anything could fit the description.

In light of the incentive structures and pervasive practice of impact washing, claims of incorporating stakeholder interests should be subjected to strict scrutiny. Again, sample Henderson's unqualified claim about self-regulation, 

Moreover, some companies and sectors have turned to voluntary self-regulation. In November 2010, for example, the Consumer Goods Forum – comprising firms that together employ more than ten million people – committed to achieving net-zero deforestation in the key sectors of soy, palm oil, beef, and paper. This was entirely consistent with profit maximization. Growing consumer awareness of these sectors’ negative environmental impact had become a significant brand risk. Firms were increasingly worried about their ability to recruit talent or maintain viable supply chains. So, knowing that while costs might increase, they would increase equally for everyone, they took pre-competitive action.

How do we know this brings in real benefits, with associated costs, and is not impact washing? How do we know that it's not optical washing instead of meaningful reform? Where's the evidence that firms are increasingly worried about their ability to recruit talent because of their environmental track record? Where is the evidence that these have become anything close to being prohibitive enough as brand risks? Rigorous assessments, compared to Ms Henderson's corporate apologia, like this by Aswath Damodaran, debunks all such notions.

To be fair, she grudgingly acknowledges the limitations of this approach. But here too she sees a role for capital markets alongside governments. Again misleadingly, she points to the example of Japanese Government Pension Fund, whose focus on climate change is more a reflection of public action than any commercial interest. 

Some of these are emphatic claims, with liberal use of adjectives, and have no evidence,  

Nonetheless, the momentum behind coalition building in recent years has created a growing cohort of firms with strong economic interests in finding third parties to enforce cooperation... Massive institutional investors thus have strong incentives to push the firms in their portfolios toward climate action... The shareholder-value imperative is also leading firms to rediscover the central role of government in enforcing cooperation... Having oriented their business models toward addressing climate change, these firms have strong incentives to push for measures that will compel their competitors to make the same choices.

She concludes with pure feel-good hogwash,

To achieve a green recovery, we must reclaim the original promise of capitalism and its fundamental normative commitments to prosperity and freedom, not to making money at any cost... An authentic public purpose can give firms the courage, creativity, and talent needed to bear the risk of exploring new business models. For the smart ones, climate commitments can confer a productive and competitive edge. Adopting a purpose does not mean abandoning investors. It is possible to change the world for the better and make money, to reconcile moral duty and fiduciary responsibility – and it is imperative that we find a way to do so at scale.

Where did the stuff about "original promise of capitalism" come from? 

The idea behind all such feel-good propaganda about business self-regulation is to keep governments away from forcing hard choices required for any meaningful reform. 

On their own, companies, especially the largest ones, are never going to change track from single-minded pursuit of profit maximisation. The examples of corporate engagement with China and response to Covid 19 are only the latest exhibits. 

The profits-at-all-cost approach of Wall Street, Hollywood, Big Tech, National Football League is all well-known. In fact, the pace of worsening of US-China relations this year appears to have been outmatched by the pace of Wall Street's embrace of China. This story of craven compromise on Mesut Ozil by Arsenal and English Premier League is another reminder. 

Last year, nearly 200 large US companies, grouped under a Business Roundtable declaration, pledged their commitment to stakeholder capitalism. Their balance sheet when faced with Covid 19, according to a study by Tyler Wry of Wharton,

As COVID-19 spread in March and April, did signers give less of their capital to shareholders (via dividends and stock buybacks)? No. On average, signers actually paid out 20 percent more of their capital than similar companies that did not sign the statement. Then, as the coronavirus swept the country, did they lay off fewer workers? On the contrary, in the first four weeks of the crisis, Wry found, signers were almost 20 percent more prone to announce layoffs or furloughs. Signers were less likely to donate to relief efforts, less likely to offer customer discounts, and less likely to shift production to pandemic-related goods.

See this and this about the utter hollowness of the Business Roundtable resolution.  

The fundamental problem with advocacy of stakeholder capitalism is that it just does not add up, big time. Any meaningful attempt to reform capitalism has to involve making hard choices around trade-offs. For businesses it is fundamentally about increasing costs and lowering their profit expectations. It's about better treatment of workers and increasing their share of the incomes. It's about changing the distorted incentive structures within firms. It's about paying their proportionate share of taxes and eschewing the aggressive pursuit of tax avoidance. It's about drawing lines in the relentless pursuit of efficiency and making choices about resilience and sustainability. In simple terms, it's about rebalancing in several areas. 

At the industry level, it is about reining in the unfettered political power (the power to set the rules of the game concerning their own industries) exercised by big financial institutions and behemoth technology firms. As Herman Mark Schwartz has written, this requires fundamental shifts in capitalism and corporate incentives. It is about political mobilisation and choices thereon.

Update 1 (14.01.2022)

Aneesh Raghunandan and Shivram Rajagopal have a damning indictment of the Business Roundtable folks,

We find no evidence that BRT members – who voluntarily signed the Statement – have engaged in such stakeholder-centric practices. Relative to within-industry peer firms, publicly listed signatories of the BRT statement commit environmental and labor-related compliance violations more often (and pay more in compliance penalties), have higher carbon emissions, and rely more on government subsidies. BRT firms are also more likely to disagree with proxy recommendations on shareholder proposals. Preliminary evidence from the period subsequent to the signing of the Statement suggests that signatories did not sign the document as a credible signal of a future intention to improve stakeholder-centric behaviors. Our results suggest that firms’ proclamations of stakeholder-centric behavior are not backed up by any hard data on these firms’ operations.

This report has found that after the pandemic, the BRT signatories were no better than others in protecting jobs, workplace safety, labour rights, and in addressing racial inequalities.