What should be the goal of the business corporation? For a long time, the prevailing view in English-speaking countries and, increasingly, elsewhere was that advanced by the economist Milton Friedman in a New York Times article, “The Social Responsibility of Business is to Increase Its Profits”, published in September 1970. I used to believe this, too. I was wrong.
The article deserves to be read in full. But its kernel is in its conclusion: “there is one and only one social responsibility of business — to use its resources and engage in activities designed to increase its profits so long as it stays within the rules of the game, which is to say, engages in open and free competition without deception or fraud.” The implications of this position are simple and clear. That is its principal virtue. But, as H L Mencken is supposed to have said (though may not have done), “for every complex problem there is an answer that is clear, simple, and wrong”. This is a powerful example of that truth.
After 50 years, the doctrine needs re-evaluation. Suitably, given Friedman’s connection with the University of Chicago, the Stigler Center at its Booth School of Business has just published an ebook, Milton Friedman 50 Years Later, containing diverse views. In an excellent concluding article, Luigi Zingales, who promoted the debate, tries to give a balanced assessment. Yet, in my view, his analysis is devastating. He asks a simple question: “Under what conditions is it socially efficient for managers to focus only on maximising shareholder value?”
His answer is threefold: “First, companies should operate in a competitive environment, which I will define as firms being both price- and rule-takers. Second, there should not be externalities (or the government should be able to address perfectly these externalities through regulation and taxation). Third, contracts are complete, in the sense that we can specify in a contract all relevant contingencies at no cost.”
Needless to say, none of these conditions holds. Indeed, the existence of the corporation shows that they do not hold. The invention of the corporation allowed the creation of huge entities, in order to exploit economies of scale. Given their scale, the notion of businesses as price-takers is absurd. Externalities, some of them global, are evidently pervasive. Corporations also exist because contracts are incomplete. If it were possible to write contracts that specified every eventuality, the ability of management to respond to the unexpected would be redundant. Above all, corporations are not rule-takers but rather rulemakers. They play games whose rules they have a big role in creating, via politics.
My contribution to the ebook emphasises this last point by asking what a good “game” would look like. “It is one”, I argue, “in which companies would not promote junk science on climate and the environment; it is one in which companies would not…
Go to the news source: Milton Friedman was wrong on the corporation