Capitalism is a good thing.

Wall Street Journal

OPINION

INSIDE VIEW

To Serve the Public, Seek Profits

Producers capture only 4% of the value they create, and all of society enjoys the rest.

By Andy Kessler

October 11, 2020

“It’s way past time we put an end to the era of shareholder capitalism,” Joe Biden declared in Dunmore, Pa., in July. Companies “have responsibility to their workers, their community, to their country.” This echoes last year’s virtue semaphoring by 181 CEOs, when the Business Roundtable redefined corporate purpose away from shareholders and toward “stakeholder capitalism”: a collectivist creed of workers, customers, communities, climate and country. Why does it feel like we’re about to get our pockets picked? The message is clear: Profits are greedy, so spread the wealth around.

It’s been 50 years since the New York Times published Milton Friedman’s article “The Social Responsibility of Business Is to Increase Its Profits.” Most people only read the title, so they miss Friedman’s statement that businesses are obliged to avoid deception and fraud. A company must “engage in activities designed to increase its profits,” he writes, “so long as it stays within the rules of the game.”

Almost as penance for publishing the original, the Times recently printed an eight-page supplement nitpicking Friedman’s article. It’s as if in 1826 the Times of London had ripped to shreds Adam Smith’s “The Wealth of Nations” and said, “No one has actually seen the invisible hand. Hidden incentives? Balderdash! Let’s go back to stakeholder mercantilism.” The sun would have set on the Industrial Revolution.

Capitalism and competition create wealth; other systems slop existing wealth around. Stakeholder capitalism is a passing fad with a blatantly obvious end result. Ding ding!—there were four redundant phrases in that sentence. “Stakeholder capitalism” is redundant because companies already benefit stakeholders or die quickly. “Customers are always beautifully, wonderfully dissatisfied,” Amazon’s Jeff Bezos told Congress in July. “A constant desire to delight customers drives us to constantly invent on their behalf.” And any company that wants to be around beyond next quarter already takes care of its community within the Friedmanesque rules of the game. Underpaying employees means competitors eventually lure them away.

No, profits aren’t greedy. They are a critical price signal—a measure of how well a company is deploying capital and creating value for society. The stock market sums all expected future profits, funding companies with great profit prospects and starving unworthy ones. But besides owning shares in those companies, what’s in it for us?

A lot. In a 2005 paper, Yale economist William Nordhaus concludes, “Only a minuscule fraction of the social returns from technological advances over the 1948-2001 period was captured by producers, indicating that most of the benefits of technological change are passed on to consumers.” This is what Friedman was saying implicitly when he called for corporations to maximize profits: It would maximize value to society at large.

Mr. Nordhaus quantified that value in a 2006 paper for the National Bureau of Economic Research: “Innovators were able to capture about 4 percent of the total social surplus from innovation.” The social surplus Mr. Nordhaus identifies is the improvements capitalism brings to common living standards. That is societal wealth. Yes, entrepreneurs and innovators generate wealth for themselves, but not as much as they do for society. If that’s not socially responsible, I don’t know what is. Mr. Nordhaus should have won his Nobel for this, but it was his work on “integrating climate change into long-run macroeconomic analysis” that caught the committee’s eye in 2018. Sigh.

The flip side is that for every dollar government removes from profitable uses through taxes or regulation, it theoretically takes 25 times that amount from compounding social wealth. Each lost dollar reduces investment and potential productivity, and instead goes to whoever public policies favor. Same for environmental, social and governance investing, where distortions diminish returns, just as federal car mileage standards and union overpay destroyed Detroit.

In terms of social value, nonprofits by definition announce their ineffectiveness compared with profit-seeking companies. Millennials especially seem to want a “social purpose” from their employer and their jobs. But the Nordhaus effect means they already have it, often in spades.

There’s no point in trying to “reimagine capitalism.” Capitalism works by creating wealth. Equality comes best through the creation of ever-cheaper goods and services, not handouts. The supercomputer in your pocket, same-day delivery, heart stents, even perfect Costa Rican bananas in your ShopRite were all generated by reinvesting profits. Other “isms” typically fail because they eventually fritter away the wealth that capitalism had furiously created.

Here’s my message to a potential Biden administration: If you want to spend my hard-earned money on social programs, be honest about it. Say “we need to help the poor temporarily with tax dollars so they can get better jobs and stand on their own.” Fine, I’m in. But the more you hide behind word salads and social-justice jibber-jabber, the less I’m interested.