The creative capitalism blog has been set up to examine the idea that corporations could do a job of promoting social goals like improving health in poor countries (that is, better than they do now and better, in at least some ways, than governments or NGOs). Richard Posner objects to this on the ground that corporate managers have a fiduciary obligation to maximise profits. I don’t find this convincing (reposted over the fold).
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.