Editor’s note: This is the first of a five-part series examining the Capitalism Problem and what everyone needs to know about its shortcomings and opportunities.
Capitalism is a system that produces economic and moral value.
Conceptualized by Adam Smith, Milton Friedman narrowed the focus of capitalism to two principles: maximize shareholder value and limit government involvement.
As a result, capitalism has produced two big problems: economic disparity and unethical decisions. I bundle these two issues together into what I call the Capitalism Problem.
Capitalism: An Intensifying Problem with Challenging Solutions
Economic disparity is leading to a middle-class with minimal income growth and a risk to our institutions with policies being driven by an elite few. Decisions being made with short-term and financial-only perspectives are leading to a moral erosion within corporations and society.
The problem of capitalism raises the possibility of weakened political institutions and a strong sentiment of distrust within society. While CEOs and executives, boards of directors, and lobbyists are stakeholders with more power and influence, employees-as-citizens are vulnerable without the ability to address the problem of capitalism without assistance from the other key stakeholders.
Over the last few decades, we’ve seen a variety of solutions that attempt to correct this imbalance. Solutions to lessen the vulnerability of employees-as-citizens, I believe, include the following:
Mandating employee representation on boards of directors
Linking CEO-to-worker compensation ratios to a scaling corporate tax rate
Annual reporting on corporate social responsibility initiatives and outcomes
These solutions do help on the micro level, but we need to begin a collective effort to address it on a larger scale. First, it starts with understanding the Capitalism Problem.
Understanding the Capitalism Problem
One place economic disparity begins is within the compensation mix of a corporation. Uygur (2018) reviewed S&P 500 companies and found the average CEO-to-worker compensation averaged 244-to-1 between 1998 and 2016.
In reviewing the top 350 corporations by sales, the CEO-to-worker pay ratio has hovered in the 300-to-1 range since 2000. CEO compensation includes stock options, stock rewards, and bonus pay, and the combination represents an over 1,000 percent increase in CEO compensation between 1979 and 2017.
With a growing compensation gap within companies, it quickly extends to society and impacts economic class. Middle-class family income levels in 2016 were comparable to 1989 levels. Income growth was faster for the top 20 percent, experiencing a 95 percent growth compared to 28 percent for the middle-class households.
While the middle class hasn’t experienced significant income growth in recent years, the wealthy have and continue to do so. The U.S. has experienced a rise in the wealthy top one-percent by more than half of countries with similar productivity and technology characteristics; the other countries have not strayed too far from their late 1940s level, according to Alvaredo et al. in 2013’s The Journal of Economic Perspectives.
Another hardship for the middle class: the corporations aren’t always ethical and don’t empower the average middle class worker. Sixteen percent of employees experienced pressure to compromise standards in 2017, a 23 percent increase since 2013 (“The state of ethics,” 2018). Employee pressure creates weak organizational cultures, which are three times more likely to compromise standards (“The state of ethics,” 2018).
In 2017, 40 percent of employees believed their company had a weak ethical culture (“The state of ethics,” 2018).
While employee pressure and weak organizational cultures can create an environment of distrust and unethical decisions, the 2008 global financial meltdown delivered an added sense of concern for business ethics. Employees have a low level of trust in the market economy and ethics continues to be a cited as a major challenge for workers.
Should capitalism be held accountable to facilitate making the right decisions for workers and society? Some argue that it should.
But one thing is clear: capitalism has challenges that are human, organizational, and economic in nature.
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Part 2 can be read here.
Alvaredo, F., Atkinson, A., Piketty, T., & Saez, E. (2013). The top 1 percent in international and historical perspective. The Journal of Economic Perspectives, 27(3), 3–20.
The state of ethics & compliance in the workplace. (2018, March). Retrieved https://higherlogicdownload.s3.amazonaws.com/THEECOA/11f760b1-56e0-43c6-85da-03df2ce2b5ac/UploadedImages/research/GBES2018-Final.pdf
Uygur, O. (2018). Income inequality in S&P 500 companies. The Quarterly Review of Economics and Finance. doi:10.1016/j.qref.2018.11.007