There has been a subtle shift in the standard academic account of shareholder primacy. The touchstone citation for shareholder primacy used to be Jensen and Meckling’s famous 1976 paper on the theory of the firm. This has been displaced by Milton Friedman’s equally famous takedown of corporate social responsibility in 1970 on the pages of the Sunday New York Times. The shift in the citation pattern follows a shift in the leading discussion points. Where people once worried that agency costs were burning up billions of dollars of shareholder value, now, with agency cost containment and the emergence of ESG investing along with movement towards social welfare enhancement as corporate purpose, shareholders sacrifice their own returns for the greater good (or at least make gestures in that direction). A formidable task results for academic corporate law. It needs to reconstruct its own paradigm to explain and justify this turn to social responsibility. Friedman as a result emerges as the fundamental theory-giver rather than as a “but cf.” cite in a footnote describing corporate social responsibility as a related but irrelevant policy discussion.
Friedman’s New York Times essay expanded on a handful of pages in his book on political economy, Capitalism and Freedom, first published in 1962. We there come across a structural observation heretofore missing in discussions about ESG, corporate purpose, and the voting habits of institutional shareholders. Friedman turned to CSR in a chapter on monopoly, observing that the manager of a corporate entity operating as a pure competitor had no room to worry about CSR. The managers of a producer possessing monopoly power, in contrast, had rents to dispose of and allocative choices to make. CSR concerns are thereby conceptually tied to and perhaps limited by market power.
It is a powerful point. Kudos to Mark Roe for bringing it to bear on today’s governance discussion in his forthcoming article, Corporate Purpose and Corporate Competition.
Roe sets up a big policy table, describing today’s governance climate as a “purpose pressure” zone. He then puts Friedman’s point on the table, suggesting that the pressure will register more intensely as market competition becomes less intense. It follows that the present governance dispensation is not only a function of demand for a socially responsive purpose, there is also a supply side–the subject company must have the financial ability to respond and not all are so positioned. This gets us to the big question: whether there have there been changes in the industrial organization landscape to which we might look to account for the recent intensification of purpose pressure. “Well, maybe” is the answer. Roe surveys recent commentary on industrial organization to identify three “rent-increasing channels,” some of which fall on the bad side of competition policy with others following as the outcomes of intense competitive struggle. They are: (1) a decline in the intensity of competition, (2) an increase in salience of winner-take-all contests due to increasing scale economies and the proliferation of networked means of production, and (3) an increase in institutional shareholding concentration. Roe steps out of the industrial organization frame to add a fourth—the decrease in labor’s power to extract a share of corporate rents. And there’s a major caveat—not all in the field subscribe to the picture of competitive decline.
Roe describes numerous implications, some destabilizing for shareholder primacy and others complicating the ESG picture. I’ll mention only a few here. Shareholder primacy does its productive best, says Roe, in highly competitive industries and its justificatory base weakens as competition loses intensity. Meanwhile, a firm with a sterling ESG profile could be jockeying politically to protect its rent base. There also may be a direct relationship between the rent sacrifice bound up in ESG initiatives and management slack, at least to the extent that managers hew tightly to shareholder interests only in highly competitive situations and governance institutions prove unequal to the task of eliminating slack where competition is disabled. Social agendas could trigger instability inside of corporations given an outside polity lacking the stable political consensuses that might provide decisive answers to social questions.
I should note that all of this comes in the absence of a political agenda. The author is just trying to get a handle on what is going on. It nonetheless also bears noting that the description cuts against the grain of today’s academic mainstream, which pursues strategies to integrate purpose pressure into the received model of shareholder primacy. The idea is to leave the Friedmanian public private divide intact (and to continue to hew to methodological individualism) while admitting a public coloration into the corporate governance picture. I am intrigued by much of this work but skeptical about the bottom line. So far as I can tell, the rabbit has not yet been pulled out of the hat. I am accordingly receptive to Roe’s intervention, which sounds a much needed note of caution. It makes its points scrupulously as it does so. This is an exploratory paper, blissfully free of the essentialist claiming that so often hobbles otherwise good work in the field.
Finally, this is a rare cross-disciplinary exercise connecting corporate and antitrust law. For us insular corporate types, it offers a steep ride up the learning curve and is all the more welcome for so doing.
