WASHINGTON -- Sen. Tammy Baldwin (D-Wis.) made a passionate call to address one of the leading drivers of income inequality on Friday.
The target of her remarks wasn't taxes, the minimum wage or union rights. It was short-term thinking in corporate boardrooms.
“Short-termism turns economic growth into a zero-sum game that Wall Street rigs in its favor and Main Street simply can’t win,” Baldwin said in a speech at the National Press Club. “This explains how the richest country in the world can be amongst the most unequal -- in terms of wealth, in terms of wages, and in terms of opportunities.”
Baldwin spoke at a panel discussion sponsored by the progressive think tank Roosevelt Institute on corporate “short-termism” -- sometimes known as “quarterly capitalism.”
The Roosevelt Institute convened the event to promote two new reports decrying companies that prioritize the short-term practices of paying dividends to investors and buying back stock above long-term investment and growth. A paper by J.W. Mason said the short-termism trend is deeply damaging to the economy. An accompanying paper by Mike Konczal recommends ways to curb the practice.
U.S. corporations used to reinvest a greater share of profits in long-term growth -- upgrading infrastructure, funding research and hiring workers. From 1952 to 1984, every dollar of U.S. corporate earnings correlated with 48 cents of investment, the Roosevelt Institute found. But from 1985 to 2013, every dollar of earnings was associated with just 22 cents of investment.
Corporate investment has grown at a slower rate during the current economic recovery than in any business cycle since the 1950s. J.W. Mason’s paper demonstrates the relative decline in investment in two line graphs, using both a broad and a narrow definition of investment.
Meanwhile, corporate earnings are at record highs. By historical standards, corporate coffers have been flush since 2000 -- save for an interruption during the Great Recession, according to the Roosevelt Institute’s analysis. And the Federal Reserve’s benchmark interest has been near zero since December 2008, making it cheap for companies to borrow, and thus, to invest.
The reason for the disparity, Mason argues, is that corporations have been spending an ever-larger share of profit on payouts to shareholders -- especially through stock buybacks. Shareholder payouts, which also include dividends, have been, on average, equal to 90 percent of reported corporate profits in the past 30 years, according to the think tank’s analysis of corporate data. The growth of payouts has accelerated dramatically in recent years, overtaking total profits in 2014.
Prior to the 1970s, by contrast, payouts represented about half of corporate profits.
The rise in corporate short-termism, designed to generate the highest possible short-term returns for investors, stems from a shareholder revolution in the 1970s and '80s. Activist investors use their shareholder votes to lead campaigns to oust executives who didn't provide greater returns to shareholders.
Companies got the message, and now focus relentlessly on quarterly payouts for shareholders -- hence the phrase “quarterly capitalism.” Thanks to ballooning stock options and pensions for CEOs, executives have even more vested interest in increasing stock prices and payouts.
The shareholder revolution is credited with shaking corporate America out of complacency and forcing it to become more competitive.
But short-termism -- and the anemic long-term corporate investment that accompanies it -- is harmful, because it contributes to income inequality and thwarts work toward strategic goals, such as preparing for the effects of climate change, according to the Roosevelt Institute. Payouts to shareholders divert resources from job creation and wage increases. And they deprive the country as a whole of technological innovations that in the past have raised living standards and given the U.S. a competitive edge.
Even if one assumes that short-termism benefits shareholders, which is doubtful, most of the gains go to the biggest investors -- often the wealthiest. The bottom 60 percent of households in terms of net worth own 2.5 percent of all shares of stock, while the richest 5 percent of households held more than two-thirds of shares, according to a 2012 study by New York University economist Edward Wolff.
At least one Wall Street executive has concluded that short-termism doesn't actually benefit investors. Laurence Fink, CEO of Black Rock, the biggest asset manager in the world, wrote a letter to CEOs of S&P 500 companies in April, warning them that only companies that prioritize long-term investment and growth can “expect our support.”
Mark Carney, head of the Bank of England, the U.K.’s central bank, said in September that if investors and insurers do not begin accounting for the costs of climate change now, they will face “potentially huge” losses later.
Baldwin said on Friday that the deleterious effect of short-termism on middle-class living standards in Wisconsin had inspired her to act.
After a hedge fund took over the storied Wausau Paper Co., it shuttered mills vital to local economies in Wisconsin and other states. A 2012 mill closure in the small town of Brokaw, Wisconsin, which Wausau Paper’s former CEO insists could have been avoided if not for the hedge fund’s pressure, devastated the town’s finances, prompting it to pursue bankruptcy in April.
Baldwin introduced an amendment to an appropriations bill in July that would have required the Securities and Exchange Commission to study stock buybacks, but it was blocked by Republicans. Baldwin said she hopes more information will reveal whether CEOs responsible for buybacks are using the maneuver to bolster their own pay by driving up stock values. The Roosevelt Institute said SEC scrutiny of buybacks would likely slow the practice, because it would raise the specter of investigations.
Konczal proposes a 10-point plan for “combating short-termism” in his report. His proposals include having the SEC use existing regulatory power to limit stock buybacks, having Congress pass new legislation discouraging companies from tying CEO pay so closely to stock price, and taking steps to increase worker participation in corporate decision-making, which is common in Germany.
But Konczal acknowledges the difficulty in changing corporate governance. He suggests the government fill the gap in research and development funding, and use other policy tools to ensure full employment and distribute wealth equitably.
Major changes in national policy are unlikely, however, even if the White House remains in Democratic hands in 2016. Democratic presidential frontrunner Hillary Clinton has pledged to fight quarterly capitalism. But her plan is less aggressive than those proposed by Baldwin or the Roosevelt Institute.
In a speech in July, Clinton proposed modestly raising capital gains taxes on investments held for two years or less, a change that may discourage short-term buying and selling. She also called for abolishing capital gains taxes altogether on long-term investments made in “small businesses” -- a category that includes fabulously wealthy Silicon Valley venture capitalists, who invest in tech start-ups.
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