All Commentary
Friday, January 1, 1993

Short-Term America: The Causes and Cures of Our Business Myopia

To cure business short-termism, American business needs a healthy dose of true capitalism.

One of the most quoted aphorisms of Sony’s Akio Morita is that in Japan, managers think ten years ahead; in America, ten minutes.

Superficially, the criticism is valid. American business executives are short-term profit maximizers, and this country’s long-term ability to compete in world markets has suffered as a result. But why? Are American managers inherently myopic, avaricious, or just plain stupid? Not really. To a great extent, as Michael Jacobs explains in his current book, they are merely responding in a rational way to the network of incentives and controls created not by the market, but by government.

“America’s economy,” writes Mr. Jacobs, “was founded on the belief that markets work. Yet the United States now operates the most heavily regulated financial system on earth.”

Consider the banking industry. One reason why Japanese managers think in terms of decades and not in quarters is that in Germany and Japan banks sit on the boards of major corporations. Banks not only provide the capital necessary for steady growth, they hold managers strictly accountable for the long-term success and profitability of the enterprise. In the United States, banks are prohibited by New Deal-era legislation from owning stock in non-financial companies.

Banks are conservative institutions that favor long-term growth. Excluding them from an ownership role in corporations means that both banks and corporations are poorer as a result. But government regulation, of course, does not end there.

The principal owners of corporate America are the pension funds and other institutional investors that hold over half the stock of the hundred largest U.S. firms. Like banks, these owners tend to be conservative by nature and one might suppose that they would be the perfect long-term shareholders. The trouble is that government discourages the owners of America’s corporations from acting like owners. SEC and state regulations make it hard for shareholders to take concerted action to discipline or replace poor managers. Proxy battles are difficult and costly, and forty states now have anti-takeover laws.

Furthermore, current interpretations of the antitrust and tax laws are so broad that if an institutional investor attempts to exercise ownership—even by so much as nominating a candidate for the board of directors—that investor is liable to be accused by the FTC of subverting competition, or by the IRS of “entering the business” of the corporation and thereby subjecting itself to tax penalties. (In the latter case, a pension fund or foundation would lose its tax-exempt status, which makes these investors even more wary.)

Thus, since the nominal owners may not exercise real ownership authority, the only means by which they can express their dissatisfaction with the way the company is being run is by selling their stock. And the fear that they will do just that, and expose the company to the threat of a takeover, is what drives managers to sacrifice the company’s long-term interests for the sake of making a good showing in the next quarter.

The takeover threat is heightened by the fact that government taxes corporate profits twice and treats corporate debt as a tax deduction. This makes debt financing attractive. Indeed, as Mr. Jacobs points out, one of the features that drew investors to so-called “junk” bonds was that they purported to combine the return characteristics of an equity security with the tax advantages of a debt. The politicians may have deplored the wave of corporate takeovers and leveraged buyouts that swept Wall Street during the last decade, but they were as much to blame as anyone else.

Predictably, the big government crowd says that the answer to our economic ills is even more intervention. Mr. Jacobs has a better idea. To cure business short-termism, he recommends that our capitalist system be injected with a healthy dose of—well—capitalism. Among other reforms, he proposes that banks be allowed to own stock in non-financial businesses, that we streamline financial services regulations, and that we give shareholders greater freedom to elect and replace directors. The sooner our capitalists are allowed to act like capitalists, he argues, the sooner our managers will be likely to think ten years ahead,

Hal Gordon is a freelance writer in Bethesda, Maryland.