The Systems View, Part II – Financial Markets and Corporate Short-Term Thinking

In Part I of this series, I argued that corporations are the major force in the destruction of the environment, that the average citizen has little political influence, and that the average consumer has little economic influence. This post shows how financial markets are putting irresistible pressure on corporations, how we are unwittingly complicit in that problem. The third and final part of this series then shows how the proposed social security “reform” will work to deform our environment and our economy even further.

Originally published 2005

A second article from the Sunday, 9 Jan 2005 edition of the San Francisco Chronicle is entitled “Public Pensions in Flux” (page B1). This one, written by Kathleen Pender, points out that Governor Schwarzenegger is attempting to replace California’s pension program for public employees with something similar to a 401(K)–an individual retirement account that is invested in the stock market on your behalf.

That action, like the proposed “reform” the Social Security system to allow for individual retirement accounts will be ultimately disastrous for the environment and for American health, as you’ll see shortly.

Public Pensions Disappearing

Pender points out that Michigan, Oregon, Ohio, South Carolina, Montana, and Colorado have already implemented such plans, or are in the process of doing so. But she notes that:

“In states where employees have had a choice, the overwhelming majority have chosen the (traditional pension) plan, rather than the (retirement account) plan.”

In other words, people acting in their own best interests rarely choose individual retirement accounts. But even if they did, those accounts would still have one fundamental flaw — they’re putting enormous pressure on corporations to take short term actions to maximize profits. But in the long term those actions are destroying our environment, our health, and even our economy.

The Popularity of Retirement Accounts

Of course, individual retirement accounts have been popular in the private sector for many years now. They have had great appeal for a mobile, white-collar workforce. After all, what good is a pension you get in 20 or 30 years when five years is the longest you stay with any one company?

So “retirement accounts” came into vogue. The problem is that their ultimate effect is work against the people who invested in them — a result that only becomes clear when you examine the economic system as a whole and see how actions relate to another.

Before launching into a discussion of that problem, however, I want to discuss the lack of government ethics that prevented us from implementing an even better solution — publicly administered pensions.

Lack of Government Ethics

If, as I’ll argue in a moment, individual retirement accounts are ultimately destructive to our environment and our economy, then a better solution for a mobile workforce would have been a publicly-administered pension plan. It could have simply been an increase in Social Security that was sizable enough to guarantee a secure retirement in old age, rather than the meager subsistence-level income that Social Security currently provides.

The only problem with that approach was a pronounced and visible lack of government ethics.

In all the discussions about Social Security, there is one fact that never seems to be mentioned — Social Security was supposed to be a government-run savings account. I’ve talked to at least one person who said,

 “Social security was supposed to be a savings plan. That’s how it was sold to the American people“.

The problem, of course, is that you can’t give a government a surplus of money without some politician, sometime, wanting to use it and figuring out a way to do so. (For example, look at how George Bush turned a $5 trillion project surplus into a $5 trillion projected deficit.)

Politicians being what they are, and the public’s memory and awareness of events being what they are, it wasn’t long before the government started “borrowing” money from the Social Security accounts. In effect, the money that went into the system got spent, and was replaced with a gigantic IOU from the U.S. Government.

A few decades after that, (the public’s memory being what it is), the government began to drop any pretense of paying the money back. Instead, they started calling Social Security a “pay as you go system”, where today’s workers fund today’s retirees.

The problem the politicians “foresee” is that they in fact  caused — namely that at some point, there aren’t enough workers paying money into the system to support those that are taking money out of it — especially given the declining economy we can expect within the next 25 to 50 years.

The moral here is that:

1. A government-run pension plan could have been a much better retirement solution for a mobile workforce, had the government been trustworthy.
2. Lacking something like a Voting Advice System,  there was no way to make the government trustworthy enough to implement that solution.
3. Instead, enormous amounts of money have been funneled into individual retirement accounts and, since the problems created by that strategy have yet to be recognized, state and national governments are right now in the process of making things 100 times worse.

The Problem with Retirement Accounts

The problem with individual retirement accounts is that they put an enormous amount of money in the hands of very few investors.

Any one person’s retirement account is what, 30 or 40 thousand dollars? Or maybe 300 or 400 thousand, if they’re really well off. To an individual, that’s a lot. But to a corporation, it’s peanuts. A major corporation spends that much on pencils. But when you combine the money in everyone’s retirement account, it adds up to trillions — and those trillions of dollars are in the hands of only five financial management corporations.

So for starters, the idea of “socially conscious investing” is practically a non-starter. It’s still worth doing, if only for the sake of your own conscience. But it will have negligible impact in changing the nature of our economic system and the prospects of our environment, so long as it is dwarfed by the money managed by financial management corporations who only value profitably.

Unfortunately, it gets worse. Much worse.

In those financial management corporations, there are a handful of investment managers make the decisions. Those investment managers watch their chosen corporations like a hawk. When quarterly profits drop, they sell. When the sell, the fractional lowering in the stock price triggers automatic sell-offs in the computer programs that all of the other investment firms use to monitor the stock market.

In other words, if a company’s quarterly profits drop, their stock tanks. It’s as simple as that.

Pressure for Short-Term Profits

The problem for the corporation is that a good stock price is their financial lifeblood. If the stock drops, they’re hurting.

To understand why, it’s important to know that things aren’t like they were in the old days. Back when corporations were first starting, people invested in the corporation to give it the money it needed to get started. After that, it was on it’s own. In return for their money, investors got a share of the company’s profits, in the form of dividends.

In time, a market started up that allowed people to trade their shares to others. They might trade shares in one company for those in another, or they might trade shares for cash, to recover their initial investment.

Somewhere along the line, corporations started doing very, very well. Around that point, someone figured out that instead of selling all their stock at once, they could authorize a huge amount of it, but only dole out a portion. Investors would then buy what was available, but the company could always sell more later, when the price was higher.

That seemed like a good idea. It certainly was a wonderful idea from the standpoint of the corporation. Instead of having to borrow money, they could always sell stock. Of course, if they sell too much they’ll depress the price, so they want to keep things in balance. But having the ability to sell stock means that they can easily repay debts — that makes them a favorite target for bank loans, so they get very favorable rates.

If their stock price goes way down, on the other hand, they lose the ability to sell stock, and their interest rates go up. In other words, they must have a good stock price.

The problem, of course, is all that money in the hands of the financial managers. In effect, no one is invested in the company for the long term. Gone are the days when a person would invest in a company and collect dividends for 20 or 30 years. These days, financial managers are looking to squeeze every dollar of profit they can out of their investments, and they’ll drop a stock in a heartbeat if they see a better offer somewhere else.

Need for Stock Reform

Is that the way things should be? I rather doubt it. I suspect that some drastic financial reform is necessary to insulate corporations from the incredible pressures they’re under to display exemplary short-term performance — because their short term thinking is killing us. 

It’s not clear to me yet what kind of financial reform would solve the problem, but clearly some kind of reform is needed. Of course, the result of any such reform would be to eliminate the staggering sums of money that people are making on Wall Street. So any decent proposal will meet with serious resistance from the people and corporations that have the most money and, therefore, the most to lose.

So a Voting Advice System will be absolutely necessary to get the reform implemented, once it is identified. Further, the solution will have to be implemented around the globe. To do otherwise might put a stranglehold on any national economy that attempted to solve the environmental unilaterally. (Or can that be problem be avoided? It’s an intriguing question.) In any case, there are undoubtedly some who would claim, with some justification, that after decades of consuming the majority of the world’s resources, America could do with an economy that was a little less globally competitive, economically.

The Problem of Short Term Thinking

To summarize what we have so far:

• The average citizen has little impact on the environment through government, and the average consumer has little impact on corporations through “consumer action”.
• The average person has money invested in individual retirement accounts.
• That money, in the hands of full-time financial managers, is putting incredible pressure on corporations to produce short-term results.

The need to produce short-term results, obviously, leads to short-term thinking. And that short-term thinking is decimating our environment, our economy, our ability to govern, control of our government, and even our public health:

• Environment–Corporations have no incentive to conserve resources, clean after themselves, or invest in clean technologies if it will cost money to do so. In fact, they cannot do so, due to the potential impact on short term profits.
• Economy–To maximize profits, corporations are laying off employees and sending jobs offshore. Millions of people are out of work, millions more have stopped looking or have taken lower paying and part-time work when nothing else was available. As total wages drop, so does spending power. (See Christmas Shopping Down Turn.) The result, in the long term, is a declining economy that erases the profits generated by their short term actions — but corporations have no choice but to take those short term actions.
• Ability to govern–To maximize profits, corporations are sending intellectual profits off-shore, which lowers the profits they pay taxes on, even as their real profits rise. And they’re engaging in other tax avoidance schemes, as well. (See Perfectly Legal, by David Cay Johnston). In the process, corporations are starving the American government, which no longer has the money to police them effectively through the FDA, Securities and Exchange Commission, and the IRS.
• Control of our government–To further maximize profits, corporations are spending money to lobby politicians and influence elections. They write the majority of legislation that’s introduced in Congress, and they have been responsible for further deregulation and weakening of the standards that used to provide some modest restraints on their behavior. As the economy declines, and they become even more desperate for profitability, they work ever harder to throw of the “restraints” that decrease their short-term profits, even though those restraints were responsible for building the largest economy in the world, with the largest and wealthiest middle class that has ever existed. (Now however, a million or two formerly middle class citizens slip over the line into poverty every single year.)
• Public health–To maximize profits, corporations sell foods with manifestly harmful ingredients like partially hydrogenated oils and high fructose corn syrup — ingredients that weren’t in the food supply when I was a kid, but that are making our children sick, and making them fat, along with much of the adult population who don’t know enough to avoid them. Drug companies are withholding negative studies from the FDA, because the legislation they’ve written allows them to do so.

In short, when the enormous financial power and intellectual capacity of corporations goes into short-term thinking instead of long-term benefits, the results are only good for the corporations, the top level executives, and the major shareholders. The rest of us are paying an enormous price — a price that starts with our inability to control our government, and which accumulates exponentially-increasing interest from there. 

Note:
Democrats have been nearly as guilty of assisting corporations in these areas as Republicans. (Although, to be fair, after taxpayers spent years and millions of dollars proving that Microsoft was a badly-behaving monopoly who cost American consumers billions, it was George Bush and the Republican administration who let them off with a polite request to please slap themselves on the wrist.)

Next: The Systems View, Part III: Social Security “Reform” is Not Advisable

Resources

• Voting Advice System
  A plan for a system that will make money irrelevant to elections, by making it convenient for voters to get advice from people and organizations they trust, empowering those advisors with political influence in the process.
• Perfectly Legal, by David Cay Johnston.
  Shows how corporations have been reducing taxes at the expense of average Americans.

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