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Since the ink dried on the GOP tax plan, officially known as the Tax Cut and Jobs Act, back in December 2017, companies have spent over $218 billion dollars re-purchasing their own stock at the going price on the open market. The point of the tax law, according to Republicans, was to free up corporate cash so that companies could create jobs. Instead, it seems, companies are using the cash windfall to reward shareholders. Daily spending on buybacks has doubled from just a year ago and could reach a record high of $800 billion this year.
Why do companies buy back their own shares? Because buying back shares raises the price of the remaining shares—each share is now a slightly bigger slice of the corporate pie. Share buybacks push up share prices easily and instantly without the hard work of companies making improvements in how they attract customers or create their products.
The current surge of stock buybacks is a symptom of a much larger problem: how deeply corporate leaders are able to manipulate our economy for their own gain and without any oversight.
They are also a perfectly legal way for corporate executives, who hold huge chunks of stock, to juice their own pay. Executives decide which days to buy back shares and can then sell their own shares at the newly bumped up price. Top executives generally make the majority of their compensation through performance-based pay, which is either directly or indirectly tied to stock prices. Even though the rules of performance-based pay changed under tax reform, it is likely that executives will remain large shareholders.
But the problem with stock buybacks isn’t just frustration with the 1 percent getting even richer. Nor is it just the hypocrisy of how the tax bill was sold by the Republican Party—though there is plenty of that. While Republicans promised the bill would raise worker wages, all of the analyses about the ratio of spending on buybacks to spending on workers tell the same story: massive amounts of money are moving out to shareholders while very little is trickling down to workers. Moreover, Republicans promised improved innovation, but it should surprise no one that corporate investment as compared to profits has declined compared to historical levels—hurting corporate potential in the long-run—just as stock buybacks are on the rise.
Ending stock buybacks could be straightforward. Congress could amend the Securities and Exchange Act to simply make open-market share repurchases illegal. Or it could impose limits on buybacks for companies that aren’t investing in their employees or funding their pension commitments, or it could only allow buybacks when workers also receive a dividend. The Securities and Exchange Commission (SEC) could also repeal the “safe-harbor” rule, which lets companies spend massively on buybacks, or at the very least make companies justify why buybacks are a good use of corporate cash.
But the current surge of stock buybacks is a symptom of a much larger problem: how deeply corporate leaders are able to manipulate our economy for their own gain, without oversight from those who are supposed to hold them accountable. We’re in the grip of a shareholder primacy ideology, which posits that the purpose of corporate tax reform is to benefit shareholders because shareholders have the only right to the spoils.
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To find our way out of this mess, we must first understand how we got here.
There has been a significant shift—in power and in material rewards—away from workers and towards shareholders since shareholder primacy rose to dominance in the 1970s.
Shareholder primacy as a framework for corporate behavior only became entrenched in the 1980s. The postwar era was dominated by “managerial capitalism,” in which the management of big corporations focused on sales growth and, in some cases, labor peace to ensure growing productivity. For a white male worker, you could get a steady job that paid the bills, promised a pension, and was all but guaranteed for life. Shareholders were an afterthought.
In the 1960s, the big firms grew into conglomerates—highly diversified companies that by the 1970s ended up being worth less than the sum of their parts. Shareholders grew restless in the 1970s as the economy slowed and interest rates rose, but they were stymied from takeovers because of prohibitive state corporate law and anti-trust regulation at the federal level that still held back some industry consolidation. As the 1970s came to a close, prominent economists reframed the responsibility of executives from ensuring rising sales to maximizing shareholder value. Further they claimed that the ideal executive compensation package should include large chunks of shares to align executives’ interest with shareholders.
This has—not surprisingly—led to an obsessive focus by corporate leaders on short-term share prices and cost-cutting, with the workforce as the first cost cut. There has been a significant shift—in power and in material rewards—away from workers and towards shareholders since shareholder primacy rose to dominance in the 1970s. But it wasn’t a gradual or cultural shift—key policy interventions under Ronald Reagan broke the back of managerial capitalism and ushered in shareholder primacy.
In 1982, four key policy changes occurred that allowed shareholders to take over, or threaten to take over, companies, and pushed executives to focus on the share price or get out of the way. The first was an overhaul of the Department of Justice’s antitrust merger review guidelines so that industry consolidation was welcomed, not forbidden. The second was a Supreme Court case, Edgar v. MITE, which made state antitakeover statutes unconstitutional and allowed for the rise of the hostile takeover. Third, Reagan’s wholesale attack on unions ended an era of fragile labor peace.
The fourth policy change was Rule 10b-18, a Securities and Exchange Commission rule that ushered in the era of stock buybacks. Back in 1968, Congress gave the SEC the authority to prohibit buybacks if they so choose under the Williams Act Amendment. The SEC never prohibited them, but throughout the 1970s, it proposed a rule that would have limited buybacks to 15 percent of the volume of a company’s shares that were trading on the open market, and, more importantly, presumed that any buybacks over this limit were stock price manipulation and therefore likely illegal.
It adds insult to injury when companies claim they ‘cannot afford’ to pay workers decent wages while shoveling billions of dollars out the door to shareholders.
But the rule never passed. And in a turnaround that is familiar today, the Reagan Administration came in and promulgated a new rule that allowed companies to do whatever level of buybacks they liked. In 1982, under the leadership of John S. R. Shad—the first SEC Chair from Wall Street since the Great Depression—the Commission passed Rule 10b-18, the “safe harbor rule,” which limits corporates to a daily limit of buying back only an amount of shares equal to 25 percent of what’s trading on the open market. But the rule is superficial—companies do not have to disclose how many shares they buy back each day—only per quarter—and even if they exceed that limit, there is no presumption that the purchases are market manipulation.
The safe harbor rule is akin to driving rules, in that you have to stay within a certain speed. But imagine if no one ever sat by the side of the road to see how fast you drove. What would you do?
The answer is buy back a huge volume of stock in order to keep those share prices rising. Economist William Lazonick, who has done the most to bring attention to the harm of stock buybacks, calculated that from 2003-2012, public companies in the S&P 500 index spent over 90 percent of their earnings on buybacks and dividends. You might think the Obama Administration’s SEC would have given more attention to this practice, but you’d be wrong. In 2015, former SEC Chair Mary Jo White admitted that the agency does not collect the data to know if companies are staying within the daily volume and timing limits. All of this precedes the avalanche of buybacks we’re seeing now.
This practice is the heart of “shareholder primacy”—executives claim that they’re helpless to raise wages, slow down the scale of stock buybacks, or stop the fissuring of the workplace because they have to meet the insatiable demand for an ever-rising share price. The dollar amount that companies spend on buybacks shows just how easily corporations could raise pay for decent wages. Walmart’s base wage, for instance, rose from $10 to $11 this year and was announced to great fanfare after tax reform. But for a starting worker, it still means that he or she earns $19,448 a year. Meanwhile, Walmart authorized a buyback program of $20 billion in 2017.
To break the grip of shareholder primacy, a deep shift is required—one that forces us to reimagine the purpose of the corporation in society and what corporations owe to the employees who create the firm’s value in the first place.
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Some of the world’s biggest business leaders are engaged in that debate today: what do corporations owe to the larger society, and should they be serving a broader purpose? Corporate oracle Larry Fink, head of the $6.3 trillion asset manager BlackRock, recently published an open letter calling for companies to “benefit all of their stakeholders.” And the World Economic Forum was full of conversation about the “new age” of CEO activism and how improving environmental, social, and governance metrics is a win-win for companies.
To break the grip of shareholder primacy, a deep shift is required—one that forces us to reimagine the purpose of the corporation in society.
But lurking behind these conversations is the threat that if executives take their eyes off of short-term profit maximization, outside hostile investors will swoop in and take over the firm. The “corporate social responsibility” debate is all well and good—it certainly has been important for the movement against climate change, for instance—but even with all of the nods to “responsibility,” companies still fight tooth and nail to keep labor compensation to a minimum. CEOs rarely, if ever discuss the responsibility they owe their employees—or the people working for suppliers, outside contractors, and franchisees whose work is dependent on the company.
These are the people with the least to gain from stock buybacks. One of the arguments for buybacks is that we’re all market participants now and so we all benefit from rising share prices. Another strand of the decades-long shift to shareholder primacy was the rise of the 401(k) and broad participation by households in the market. But according to research by economist Ed Wolff, less than half of all U.S. households own any stocks at all, and less than a third of all households have over $10,000 in stocks. Equity ownership is extremely stratified by race and gender: only one-third of black households have retirement accounts or own shares directly, while over 60 percent of white families do.
Buybacks represent the tip of the spear of how corporations hurt working families today. It adds insult to injury when companies claim they “cannot afford” to pay workers decent wages while shoveling billions of dollars out the door to shareholders. Moreover, it shows how shortsighted today’s executives really are because stock buybacks decouple shareholder gains and real productivity improvements—the improvements that make consumers happier or better off.
Only a model of capitalism where workers have true bargaining power within the company will shift us away from the disaster that is shareholder primacy.
Open-market share buybacks need to be made illegal. But it will take much more to re-situate shareholders as just one group that should do well when a company does well. To end shareholder primacy, we need new rules that decrease the incentives for shareholder value extraction as well as rules that build structural worker power so that employees are an equal corporate stakeholder. There are many options. Unions and worker organizing is obviously central. More expansive worker ownership and worker dividends would also change company dynamics, as would requiring corporate boards to include workers. The new model of benefit corporations, which mandates stakeholder capitalism, is another important innovation. Because in the end, only a model of capitalism where workers have true bargaining power within the company will shift us away from the disaster that is shareholder primacy.
Lenore Palladino is Assistant Professor of Economics and Public Policy at the University of Massachusetts Amherst. She is also a Fellow at the Roosevelt Institute and a Research Associate at the Political Economy Research Institute.
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