“The directors of … companies, being the managers of other people’s money rather than their own, it cannot well be expected, that they should watch over it with the same anxious vigilance … Negligence and profusion must always prevail … in the management of the affairs of such a company.” So wrote Adam Smith 250 years ago. And that remains a core concept in the right wing free market fundamentalism that drives us today.
The big businesses which emerged in America at the end of the 19th century were predominantly managed, as Berle and Means recorded, by people who were quite separate from ownership which was widely dispersed over very many individual shareholders. Despite that separation of control and ownership, the businesses were the most successful on the globe.
Over the past 30 years economic theory has tried to reassert the claims of owners, affirming managers as merely the agents of shareholders, and their sole responsibility being to make as much money as possible for those owners. When big business first emerged it was rare for any individual shareholder to have as much as a 1% share of a company’s equity, and institutional shareholders, such as pension funds, owned in total only around 7% of the value of publicly quoted corporate equity. But that institutional shareholding has grown substantially, so that today it is estimated to amount to approaching 80% of company shares.
As a previous posting on this site noted, the Financial Reporting Council’s latest code of practice is for these institutional shareholders, and their fund managers, encouraging them to be pro-active with their investee companies so as to maximise shareholder value. But though the fund managers control their shareholdings, they are not the owners. They are simply intermediaries, who act in their own interests, making a great deal of money on the backs of their real clients, the investors in trust funds etc, the future pensioners. Those owners’ real interests are not in short term value maximisation; their jobs and livelihoods depend on long term stability, rather than a quick pay-off resulting from a hostile takeover.
The traders and fund managers of the intermediary institutions pay themselves large bonuses for achieving results which are against the interests of the owners, and for which they personally are exposed to little risk. This is not just an example of moral hazard, nor even Smith’s ‘negligence and profusion’. In truth it amounts to straightforward theft. The FRC would be better engaged on the relationship between the real owners and the financial intermediaries, rather than those intermediaries and the investee companies.