Is Corporate Altruism Viable in a Competitive Economy?

By Gary Becker

In the past several decades, economists have analyzed the competition from companies motivated solely by the desire for profits against companies truly motivated in part by other considerations. These other goals include altruism toward consumers, discrimination against minority employees, and a desire to help the environment. The main message from this analysis is that companies that forego some profits to pursue other goals have trouble competing against profit-maximizing firms. An example is the competition between firms that hire workers solely on the basis of their productivity and cost, and companies that give up profits to avoid hiring African-Americans or other minorities because they are prejudiced against these workers. Since firms only interested in profits will hire minority workers when that is profitable, and prejudiced firms will not, discriminating firms will be under a competitive disadvantage (for the details of the analysis, see my “The Economics of Discrimination,” 2nd Ed.,1973).

Companies that combine the profit motive with environmental and other concerns can thrive in a competitive environment only if they are able to attract employees and customers who also value these other corporate goals. Then the added cost of pursuing non-profit goals would be partially, if not entirely, offset by having customers who pay more for their products, such as fair-traded coffees. Or these companies may be able to attract high level employees relatively cheaply because the employees are excited by the prospects of spending some of their working time in helping others, perhaps by developing vaccines that can treat diseases common in poor countries. These appear to be the types of companies that Bill Gates wants at the forefront of his “creative capitalism” since he has encouraged companies to pursue recognition as well as profits.

How successful can this form of capitalism be? Gates quotes with approval the opening discussion in Adam Smith’s outstanding 1759 book “The Theory of Moral Sentiments” on the importance of altruism in human motivation. While this book does deal with motives like concern for others, and the desire for recognition and acclaim, Smith was skeptical not about the strength of altruism, but about its scope or reach. For example, he uses an example in this book that is highly relevant to the present and to Gates’ quest. He asks “how a man of humanity in Europe”… would respond to hearing “that the great empire of China… was suddenly swallowed up by an earthquake…” His answer was that “If he [this man] was to lose his little finger tomorrow, he would not sleep tonight; but, provided he never saw them [i.e, the people of China], he would snore with the most profound security over the ruin of a hundred million of his brethren, and the destruction of that immense multitude seems plainly an object less interesting to him than this paltry misfortune of his own” (Part III, Chapter 3).

Globalization has brought the situations in China, India, Africa, and other poor parts of the world much closer to the concerns of men and women in rich countries than they could ever have been in Smith’s time. Still, essentially for the reasons given by Smith, it would be quite difficult to get many companies in richer countries to be highly motivated by a desire to find cures for diseases that are not profitable because they only afflict persons living in Africa and other poor countries, individuals who do not earn enough to pay much for the cures. It would not be any easier to get companies to spend significant resources to help lower carbon emissions that reduce global warming, unless these expenditures were forced by governments, or compensated by public or private sources.

My great teacher and close friend, the late Milton Friedman, took a well-known negative position on corporate responsibility. This is also the position taken by Richard Posner. Unlike these distinguished individuals I do not see anything wrong in Gates, Buffett, and others encouraging corporations to be more concerned with goals like distinction along with an interest in making profits. The real test is how viable such motives are in a competitive market environment where the competition includes companies motivated only by profits.

For the reasons I gave earlier, it is very difficult for companies to pursue other goals than profits when they face tough competition, and when the behavior of their competitors is driven solely by profits. A monopolist, on the other hand, can pursue other goals and forfeit profits, even when stockholders object, although private equity companies or corporate raiders may try to replace the management team with their own team that is motivated solely by profit considerations.

Moreover, it is not clear that the economy is worse off when management of a monopoly uses some of its extra profits to pursue environmental and other non-profit goals. In the short run their stockholders would suffer from not getting full monopoly returns, but others might benefit from their behavior. In the long run, the stockholders of monopoly companies would receive the risk-adjusted competitive rate of return on their capital, regardless of what management does.

There are far more effective ways than corporate philanthropy to help poor nations of Africa and elsewhere speed up their economic development, and reduce the impact of malaria, Aids, and other devastating diseases. Probably the single most important step is to encourage much more competition and market-friendly policies by African and other governments in poor countries. Corporate philanthropy and especially government aid probably has retarded the introduction of such reforms by governments of badly performing countries. In addition, it would help to reduce, better still eliminate, tariffs by rich countries on the agricultural and other exports from developing countries. Foundations like the Gates foundation can encourage more widespread use of DDT and mosquito netting in combating malaria (see my Sept. 24, 2006 post on the Becker-Posner blog that discusses deaths from malaria), and subsidize the development of new drugs that fight diseases mainly found in poor countries.

Comments

[Fabio Franco]

"I do not see anything wrong in Gates, Buffett, and others encouraging corporations to be more concerned with goals like distinction along with an interest in making profits."
...
"Probably the single most important step is to encourage much more competition and market-friendly policies by African and other governments in poor countries. Corporate philanthropy and especially government aid probably has retarded the introduction of such reforms by governments of badly performing countries."

There seems to be a contradiction in these two quotes. If philanthropy may have retarded economic development in poor countries, then certainly Dr. Becker should see something wrong in the concerns of Gates and Buffet and other well-meaning philanthropists. These billionaires may know how to make money, but they have a weak grasp of what constitutes the origin of wealth. Their lack of a deeper understanding of economics coupled with their mega-dollars and good intentions may help retard growth in underdeveloped regions instead of fostering it -- certainly the opposite result they themselves intended.

It would do the world a lot more good if Gates left the philanthropic area and started up another company and strived to make it grow to the size of Microsoft.

[Michael F. Martin]

Moreover, it is not clear that the economy is worse off when management of a monopoly uses some of its extra profits to pursue environmental and other non-profit goals. In the short run their stockholders would suffer from not getting full monopoly returns, but others might benefit from their behavior. In the long run, the stockholders of monopoly companies would receive the risk-adjusted competitive rate of return on their capital, regardless of what management does.

In the United States, it was Henry Ford who (despite his many flaws) recognized this truth. The decision in Dodge v. Ford set the United States on a path to unsustainable growth.

At present, it is the Japanese who have taken up the torch of sustainable capitalism. The United States needs to relearn from them the lessons it knew in the Industrial era.

For starters, the focal point of managers and investors should not be on time-averaged measures of profitability. Such measures make changes in supply and demand difficult to detect. Rather, the focal point should be on frequency-averaged measures, such as average debit flow and credit flow from balance sheet accounts. Fortunately, we have the Japanese as a guide in making a transition to a more sustainable form of capitalism.

http://brokensymmetry.typepad.com/broken_symmetry/2008/06/thomas-schellin.html

[Entprof]

Becker's argument relies on the assumption that investors will remain solely interested in maximizing returns on their investment. However, equities are simply products, like any other, subject to supply and demand and the whims of consumers seeking to maximize their utility. If an increasing proportion of investors maximize their personal utility by investing in only 'green' or 'altruistic' firms demand for these characteristics will reward companies which have them and can potentially overcome the power of competition to drive firms to the lowest common denominator. If public pension funds, such as CALPERS, where to enact strict requirements that 1/3 of their funds be invested in companies that meet strong, strict standards of ethics, environmental responsibility, etc. than demand for this activity would increase, increasing returns to the activity and in turn increasing the supply of this activity. These types of actions will release the entrepreneurial spirit in interesting new directions.

[james mcclure]

Milton Friedman's ethos stands in stark contrast to the "stakeholder theory" that is so popular in the academic disciplines of Marketing and Management. For more see:

hhtp://web.bsu.edu/jmcclure/SOCIAL%RESPONSIBILITY.pdf

[tendaikamba]

If global environment was perfectly competitive without any imperfections whatsoever, then Becker's argument would hold. Hats off to Bill Gates using his brilliant creative imagination for coming up with something that helps the advancement of humanity. Some of these professors have come up with theories, which have been applied and brought misery and suffering to mankind. Its time they shut up their big mouths and let good global citizens like Bill Gates continue to change our world in a positive way.

[Michael F. Martin]

@James McClure:

What Milton Friedman believed in was the superiority of property rights and contract over centrally planned control of supply and demand.

If Milton Friedman ever questioned the wisdom of wondering whether, in fact, a different initial allocation of resources and obligations through property rights might be efficient, I do not know of it.

In the context of corporations, I understand Friedman to have been in favor of more owner-oriented rules. Friedman understood that separation of ownership and control is necessary to achieve the most efficient allocation of resources, and that private control was better than public control. But I never understood him to be arguing that private control should consider only the narrow interests of one set of stakeholders in the corporation.

[ken goldsholl]

There is no such thing as corporate altruism, unless possibly if a corporation never tells anyone about their seemingly not-for-profit activities. There is an intangible value to the goodwill that corporate charitable activities provide, every bit as much as the intangible value of a brand name. Also, the tangible value of some of these activities just may not be obvious to those with the short-term, formula-driven mindset that pervades Wall St and much of corporate America.

Everything a company does will have some effect on its' business, but not everyone is capable of understanding the possible effect. Industry analysts often criticize executives for the amount of spending on R&D or capital equipment, as if they are qualified to make the determination whether it is a good investment. It is unlikely they are any more qualified to judge the wisdom of the long-term investments that Becker considers "altruism".

[Michael F. Martin]

I will discuss instead several ideas in his remarkable book, Capitalism and Freedom, published in 1962, that contains almost all his well-known proposals on how to improve public policy in different fields. These proposals on based on just two fundamental principles. The first is that in the vast majority of situations, individuals know their own interests and what is good for them much better than government officials and intellectuals do. The second is that competition among providers of goods and services, including among producers of ideas and seekers of political office, is the most effective way to serve the interests of individuals and families, especially of the poorer members of society.

From Gary Becker's post in memoriam of Milton Friedman in November 2006.

http://www.becker-posner-blog.com/archives/2006/11/

[Romania Invest]

If the question is "Is Corporate Altruism Viable in a Competitive Economy?", then my answer is "Anything is possible when you want it strongly".

The primary need of a competitive economy is social stability, whenever the economic activity would endanger this stability, the economy itself would suffer.

We should not take the philosophy of corporate altruism to its extreme and assume that the primary role of companies should become the social improvement, but we should just add up this goal to the existent profit oriented one.

Up to some limits, profit and altruism do not exclude one another. What we must find is just this limit that allows an altruistic action to have the result of an investment. It should be an investment in the social stability that is profitable to all the actors.

[Kevin Carson]

The very form of your question makes an unwarranted assumption: that the way things are now is the natural result of the market, and some sort of positive intervention is necessary to alter things.

Corporate *anything* most likely wouldn't be viable in a truly competitive market. If you did away with all the subsidies to the operating costs of large-scale enterprise, and all the cartelizing regulations that protect giant corporations from the competitive penalties for their inefficiency, we'd probably wind up with an economy roughly along the pattern of Emilia-Romagna: radical decentralization, with networks and clusters of small-scale manufacturers producing for local markets, and a high degree of cooperative ownership. The American corporate economy is almost as much a creature of the state as the old Soviet economy, and the large corporation is a turtle on a fencepost.

[Tracy W]

The primary need of a competitive economy is social stability, whenever the economic activity would endanger this stability, the economy itself would suffer.

I don't think it is. The Western economy has gone through some radical social changes over the last two centuries, social changes caused both by technological revolutions (railways, cars, planes, telephones, contraceptive pills) and by deliberate choice (the civil rights movements). Social stability has not been in existance - for example when my father was at university you could be kicked out for living with someone of the opposite sex without being married, when I was there no one gave a stuff. During this period of time economic growth has apparently been higher than at any time during history.

Of course, correlation is not causation, so we cannot say that social change is essential for the last two centuries' amazing economic growth, but the statement that an economy will suffer in the face of a lack of social stability is not very convincing to me.

We should not take the philosophy of corporate altruism to its extreme and assume that the primary role of companies should become the social improvement, but we should just add up this goal to the existent profit oriented one.

How, precisely, are we going to add the goal of social improvement to the existent profit-orientated one? Is every worker at each company going to have to work x hours more a week on the goal of social improvement? This doesn't seem very likely to me, after all many people who work for corporations have responsibilities outside work that are not time-compressible, like raising children. I suspect what will happen is that a company that takes on CSR will have to reduce their time spent on profit maximisation, somehow. So what's the right amount?

And, well, measuring a company's progress on the long-term profit maximisation goal strikes me as problematic enough in itself. How do we measure progress on social improvement? How do we agree on what social improvement is? Do changes in children born outside wedlock count and if so in which way? How do executives reconcil those stakeholders who think that social improvement means changing society in such a way as to maximise the choices people have in life, even if that means that people have more chances to make bad choices, versus those who think that social improvement means changing society in such a way as to minimise the chance that people will make bad choices, even if that means restricting their choices overall.

It's awfully easy to say that companies should take social improvement into account, but that doesn't mean they can do so.

[Jake Seliger]

How successful can this form of capitalism be?

A large part of the problem is that concerns other than competitive ones also reduce the incentive for efficiency. If one does things from altruistic motives, it seems churlish to criticize doing them incorrectly, slowly, or badly—after all, you're just trying to help. And that is a major problem I perceive in motives other than profits, and it's a problem I address implicitly in my comment on the first post. This is why what looks like corporate altruism can sometimes end up being worse for society than seeking profit: in doing the latter, the company is likely to better satisfy people's desires because it has to, whereas in altruistic endeavors, it is in part satisfying its own desire to appear virtuous.

Foundations and the Future addresses this idea regarding the nonprofit sector.

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