Among all the debate about the vices and virtues of capitalism there is rarely any serious attempt to define its key characteristics. Whatever they are, they appear to work better than the best known alternative that has so far been tried: centrally planned totalitarian communism. Whether good capitalism or bad, compassionate, predatory or even ‘conscious’, all capitalisms appear to depend on the ownership and control of the established legal entity known in the United States as the corporation, or the public limited company elsewhere. That is the corporate form Chandler described as ‘the most powerful institution in the economy’ on which the affluence and growth of the past century and a half has been based.
The corporation was the legal form which was enabled to issue shares to many dispersed individuals and so accrue sufficient funds to make large scale capital projects possible. Initially its legal creation required a royal charter, then an act of parliament and finally, after 1844, a company could be legally established by a relatively simple process of registration. Limited liability followed a decade later. This was the precious means by which industrialisation was enabled.
Right from the start, great care was taken, to quote a 1766 Act of Parliament, to protect ‘the permanent welfare of companies’ from being ‘sacrificed to the partial and interested views of the few.’ So early joint stock companies were governed by their members democratically, on the basis of ‘one man one vote’, irrespective of the number of shares owned. This was typically exercised by a show of hands at general meetings.
Over time, democratic voting was modified to give larger shareholders greater influence, both in the US and UK. But care was still taken to limit the number of votes any shareholder might have so that ‘large landholders and dynastic wealth’ would be prevented from exercising ‘unbridled power’ for their own benefit to the detriment of the corporation and the common good (quotes from Lawrence Friedman’s A History of American Law).
Thus, by mid nineteenth century, the ownership and control of corporations had been uniquely established. Ownership was indirect through share certificates rather than by the direct ownership of corporate assets, and enjoyed limited liability. Control was democratic. The corporation had been carefully established as an independent legal entity in its own right.
However, the ‘large landholders and dynastic wealth’ didn’t give up on their ‘partial and interested views’. Progressively, democratic corporate governance in America was replaced by what was referred to as plutocratic control based on ‘one share, one vote’. This change rendered the corporation vulnerable to unrestricted exploitation. A minority shareholder had their liability limited to what they had paid for their share certificates, and in return benefited from the distribution of dividends and the potential accumulation of value in the shares, both being at risk. A majority shareholder, (ie one with 50% of the equity plus a share) enjoyed all those benefits, but in addition had total control. In effect the unique form of corporate ownership, which had enabled the industrial revolution, was changed so that the company ceased, for all practical purposes, to be any different from any other item of private property once a majority shareholding was achieved. The majority shareholder could do with it what they would, exactly the situation that democratic voting had been established to prevent. Control was returned to the wealthy, enabling the entrance of the ‘robber barons’.
Britain, of course, followed suit. Ironically this was the period in which political voting was becoming more democratic, moving in exactly the opposite direction towards universal suffrage.
Corporate law across the globe has always imposed the legal duty on company directors to act at all times in the best interests of the company, having regard to the long term and to the interests of the company’s various stakeholders. That legal duty is supposed to apply quite irrespective of the company’s ownership, though in practice a majority owner can, and not infrequently does, require the directors to act against the law supervising the break up and disposal of the company.
There is a dishonestly based theoretical justification for this destructive action, famously expressed by the late Chicago economist, Milton Friedman: ‘Few trends could so thoroughly undermine the very foundations of our free society than the acceptance by corporate officials of a social responsibility other than to make as much money for their stockholders as possible.’ That was 1962, the year of the Cuban missile crisis, but Friedman’s populism was such that his is still the dominant ideology in 2013.
It took academic economists a decade to dream up a sycophantic support for Friedman’s contention. They denied the corporation its legal status, arguing instead it was a ‘centralized contractual agent in a team productive process’ (Alchian & Demsetz, 1972) and a ‘legal fiction’ (Jensen & Meckling, 1976). Therefore, since the company had no factual legal status, company directors were argued to be directly responsible to shareholders as their agents with a legal duty to act solely in their best interests. But this strand of neoclassical economics, dignified as ‘agency theory’, was in truth just academic dissembling and obfuscation. Company directors have legal service agreements with companies not shareholders and those agreements require them to act, as is the law, in the best interests of the company at all times. Nowhere is there any statute or common law identifying directors as agents of shareholders. The company is a legal fact – that is its whole point.
The change from democratic to plutocratic control threatened ‘the permanent welfare of companies’. While Friedman’s corporate refocusing on the extraction of value for the benefit of shareholders resulted in much more of the threat being activated in the sorts of corporate abuse that have been featured repeatedly on this site. The resulting damage to the real Anglo-American economies has raised the question of whether the public limited company actually has much of a future role (see http://www.gordonpearson.co.uk/11/what-will-replace-the-public-company/ And if that is questionable, would stock markets continue to serve any real purpose (see http://www.gordonpearson.co.uk/19/what-good-are-stock-markets/ ) On this analysis the current version of capitalism appears to have run its course.
Yet the public limited company as a separate legal entity protected from predation and directed by people committed to its survival and long term prosperity, clearly still has a great deal to offer. It remains the prime vehicle for technological innovation, it provides the mass of employment, generates wealth and economic growth and could be the means for making the world a still better place for everyone. So the original concerns are still valid: to protect ‘the permanent welfare of companies’ from being ‘sacrificed to the partial and interested views of the few’ and also to protect it from the ‘unbridled power’ of ‘large landholders and dynastic wealth’ acting for their own benefit to the detriment of the corporation and the common good.
Democratic voting is clearly one proven way of protecting real economy corporations from predation. But there are other ways. Away from Anglo-American Friedmanite dogma other approaches to corporate governance have demonstrated their power to protect and develop enterprise (see http://www.gordonpearson.co.uk/books/the-road-to-co-operation/).
Capitalism still has much to offer. But so long as it is used to justify the extraction of value for the 1% at the expense of the 99%, its days will be numbered.