Should companies pursue social goals?

That’s the question being debated at the Creative Capitalism blog. I’ve made a small contribution on the idea, responding to the argument that the managers of companies have a fiduciary obligation to maximize profits. Joshua Gans has covered the same topic, and there’s lots more interesting stuff to read.

Fiduciary obligation

I’d like to tackle the notion of fiduciary obligation: that firms are obligated to act in the interest of stockholders or more specifically in Richard Posner’s formulation, to maximize corporate profits.

First, what is meant by obligation here? The obvious interpretation is that this obligation exists under statutory or judge-made corporate law. But if this were the main or only reason for arguing that firms should maximize profits the answer would be simple – change the law so that companies are free to take a broader range of goals into account. In fact, in many countries, such as Germany, companies are obliged to take worker interests into account, and capitalism does not appear to have collapsed as a result. But I somehow doubt that, if US law were changed to remove any obligation to maximize profits, or even to create a positive obligation to pursue broader social goals, Posner’s objections to creative capitalism would be resolved.

Alternatively, Posner argues that there is an equitable obligation to ‘keep faith’ with shareholders. As Posner says, if a company issues equity under the implied assumption that its managers will maximize profits, then decides to pursue other goals, shareholders can reasonably argue that an implicit contract has been broken. On the other hand, much of the corporate history of the US since the 1970s has consisted of the repudiation of implicit contracts with workers, and they have found little redress. In any case, such problems don’t arise for new companies, who state their policies at the outset.

So, presumably, the obligation to maximize profits is a matter of enlightened self-interest. Posner argues, plausibly enough, that a company that doesn’t maximize profits is weakening itself in competition with other firms. To be more precise, the probability of bankruptcy or hostile takeover is presumably increased by deviations from profit maximization. But this doesn’t mean that the probability of firm survival is maximized by maximizing profits. And there’s no obvious reason why socially concerned managers couldn’t conclude that the strategy that yielded them the best expected personal value, adjusted for the risk of corporate failure, was one in which the company pursued broad social goals.

If an argument is to be made against creative capitalism, fiduciary obligation seems a very weak reed. A better way of approaching the question would be to ask whether the goals of all concerned could not be better met if managers ran companies to maximize profits, maximized their personal rent from their positions (subject to appropriate legal constraints) and then used their own wealth to pursue social goals. This is broadly speaking what Gates has done: it’s the Bill and Melinda Gates foundation, and not the Microsoft corporation, that is fighting malaria.

But it’s far from clear that this neat separation will always apply. Pharmaceutical corporations, for example, face large fixed costs in developing medicines and low marginal costs in producing them. This situation creates a great deal of scope for different pricing regimes. It’s easy to describe cases where the socially optimal pricing rule is going to be very different from that which maximizes profits.

And it may well be that behaving as a good corporate citizen is conducive to long-term firm survival. This isn’t just a matter of buying PR as Posner suggests. If political actors generally regarded the activities of a firm as socially desirable, they will presumably be less likely to take action that might damage it. And while political perceptions do not always coincide with social reality, it’s hard to believe, in global terms that the strategies adopted by major pharmaceutical companies in recent decades have been either socially optimal or tailored to maximize the chances that the industry, and the firms that make it up, will survive in the long term in something like their current form.

31 thoughts on “Should companies pursue social goals?

  1. I wasn’t moralizing Observa, if that’s what you’re saying, I was just saying that execs do a lot of stuff, some of it clearly improves the bottom line, some we’re not sure about, and some clearly doesn’t. It’s impossible for me be really clear on what your saying because you seem to avoid writing anything at all like a refutable statement so I may have been talking about something different to what you thought we were.

  2. to be fair to ikonoclast andrew he never said any of that, i did, imagining what ikonoclast might possibly think
    i suspect you are well aware of that but choose to pursue it this way anyway,

    this consumer desires thing is rubbish by the way andrew,
    companies create consumer desires in a lot of cases,
    since freud looked into the mind and his nephew worked out to make a lot of money out of it the concept that businesss, especially big business responds to consumer desire is farcical,
    have you read any jk galbraith,

    if i may be so bold as to presume for a second time today what someone thinks,
    i bet you think galbraith was not a serious economist and is not to be taken seriously

  3. I didn’t really want a house with furnishings a car and those overseas holidays. These were all false desires created by “companies”. Tricky devils. 😉

  4. smiths,
    I have read Galbraith. I have also read Hayek and Mises. While I would regard all of them as serious economists (as I do our host here) I do not agree with all of them equally.
    If you are right, smiths, why does any company ever fail? They create the demand for their products, ergo they have no need to ever fail.
    As I said, though, smiths – and this challenge is also open to you (as it was on the last thread on which you avoided it) what would you replace it with? Even J.K. Galbraith accepted the system broadly. Your rhetoric indicates you want to bring it down. If so, what (precisely) would you replace it with?
    I will expect more avoidence of this question and more attempts to diverge.
    .
    Terje,
    Yes – why would I really want that big screen TV when I could have, say, a book – oops that is a consumer product too. What do I really want?

  5. There is no failure of the capitalist system here. The market working perfectly now to clean up the excesses of central bankers over the last decade or more. The moral hazard was created by a Keynesian mindset that believes in the ability of an omniscient elite to control ‘inflation’ with some sort of overarching interest rate that is supposed to do the trick. What a preposterous, presumptuous notion that really is when you think about the complex structure and dynamics of our economy, let alone its interaction with the RQW. Our Reserve experts would target inflation at +2-3% for us all. Why not minus 2-3% you may well ask? Ask but but won’t get any answer from these supposed experts at tending every sniffle and sneeze issuing from the sum total of 20+ million individual endeavours and their decisionmaking. How on earth would they know what set of underlying interest rates is truly being thrown up to match that supply and demand for savings and investment? The answer is obvious now the market has taken that lever completely out of their hands and relegated them to impotent bystanders. We need a medium of exchange, a unit of account and a store of wealth, forever beyond their clumsy, childish grasp and the mentality that goes with it, not to mention the ever present temptation for such children.

  6. observa,
    IIRC the reason for the 2-3% goal is that a small amount of inflation is considered “healthy”. The last justification I remember hearing was that this allows wages to drop without people noticing.

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