The Origin Of 'The World's Dumbest Idea': Milton Friedman … No popular idea ever has a single origin. But the idea that the sole purpose of a firm is to make money for its shareholders got going in a major way with an article by Milton Friedman in the New York Times on September 13, 1970. As the leader of the Chicago school of economics, and the winner of Nobel Prize in Economics in 1976, Friedman has been described by The Economist as "the most influential economist of the second half of the 20th century…possibly of all of it". The impact of the NYT article contributed to George Will calling him "the most consequential public intellectual of the 20th century." Friedman's article was ferocious. Any business executives who pursued a goal other than making money were, he said, "unwitting puppets of the intellectual forces that have been undermining the basis of a free society these past decades." – Forbes
Dominant Social Theme: The modern corporation is a Big Deal.
Free-Market Analysis: Milton Friedman is seen as the dominant free-market thinker of his age. And yet during his lifetime he created withholding for the graduated income tax, called for a "steady state" central bank and now, it turns out, was behind the myth that corporations should care only about one thing: profits.
It's like he purposefully set out to blow up arguments for the efficacy of the private sector. His curatives seldom seem to take into account the essentially coercive nature of modern capitalism.
And this article in Forbes provides us with a great example of that. Here's more:
How did the Nobel-prize winner arrive at these conclusions? It's curious that a paper which accuses others of "analytical looseness and lack of rigor" assumes its conclusion before it begins. "In a free-enterprise, private-property system," the article states flatly at the outset as an obvious truth requiring no justification or proof, "a corporate executive is an employee of the owners of the business," namely the shareholders.
If anyone familiar with even the rudiments of the law were to be asked whether a corporate executive is an employee of the shareholders, the answer would be: clearly not. The executive is an employee of the corporation. An organization is a mere legal fiction.
But in the magical world conjured up in this article, an organization is a mere "legal fiction", which the article simply ignores in order to prove the predetermined conclusion. The executive "has direct responsibility to his employers." i.e. the shareholders.
"That responsibility is to conduct the business in accordance with their desires, which generally will be to make as much money as possible while conforming to the basic rules of the society, both those embodied in law and those embodied in ethical custom."
What's interesting is that while the article jettisons one legal reality—the corporation—as a mere legal fiction, it rests its entire argument on another legal reality—the law of agency—as the foundation for the conclusions. The article thus picks and chooses which parts of legal reality are mere "legal fictions" to be ignored and which parts are "rock-solid foundations" for public policy.
This Forbes article took our breath away because here – in black and white – a mainstream publication announces what we have long argued, that corporations are a fiction.
We have pointed out not only that modern corporations are not a legitimate outgrowth of the marketplace but also that their sprawling, multinational posture is a result of fiat-money central banking. Combine fiat-corporatism with fiat-monetarism and you've got a recipe for Leviathan.
How could Milton Friedman miss this?
What he advocated, in fact, was a furtherance of this flawed model. He didn't acknowledge that modern corporations were the result of judicial force and the best he could bring himself to say regarding central banking was that it should be further institutionalized and regularized.
But having stated that this Forbes article took our breath away, we have to explain that by the time we'd finished reading we were somewhat less impressed.
The article misses the opportunity to give us a thorough Austrian explanation of corporate configurations. It could have talked about Murray Rothbard's perception that corporations could arise through voluntary acquiescence, or the idea of flexible partnerships.
This latter point is one we want to reemphasize. There is nothing that cannot be done via a chain of partnerships joining and parting company as an industrial goal mandates. One does not need a half-million man corporation to accomplish this or that. The only result is constant turmoil and endless expansions and contractions with the attendant human cost.
Here's a bit more:
… It is therefore hardly surprising, says Roger Martin in his book, Fixing the Game, that the corporate world is plagued by continuing scandals, such as the accounting scandals in 2001-2002 with Enron, WorldCom, Tyco International, Global Crossing, and Adelphia, the options backdating scandals of 2005-2006, and the subprime meltdown of 2007- 2008.
Banks and others have been gaming the system, both with practices that were shady but not strictly illegal and then with practices that were criminal. They include widespread insider trading, price fixing of LIBOR, abuses in foreclosure, money laundering for drug dealers and terrorists, assisting tax evasion and misleading clients with worthless securities.
Martin writes: "It isn't just about the money for shareholders, or even the dubious CEO behavior that our theories encourage. It's much bigger than that. Our theories of shareholder value maximization and stock-based compensation have the ability to destroy our economy and rot out the core of American capitalism. These theories underpin regulatory fixes instituted after each market bubble and crash.
Because the fixes begin from the wrong premise, they will be ineffectual; until we change the theories, future crashes are inevitable." Peter Drucker got it right… Not everyone agreed with the shareholder value theory, even in the early years.
In 1973, Peter Drucker made a sustained argument against shareholder value in his classic book, Management. In his view, "There is only one valid definition of business purpose: to create a customer. . . . It is the customer who determines what a business is. It is the customer alone whose willingness to pay for a good or for a service converts economic resources into wealth, things into goods. . . . The customer is the foundation of a business and keeps it in existence."
You see? Such a promising article with a disappointing climax.
The problem with Western banking is monopoly control of money stuff not an emphasis on shareholder value. If companies – absent the supporting embrace of the Supremes – want to emphasize shareholder value they are certainly free to do so. If companies want to emphasize the customer, that's fine, too.
The market itself can take care of all of these arguments once the market is rendered free of coercive implements like a judicially supported "corporation" and a congressionally mandated "Federal Reserve." These are, of course, problems throughout the West and increasingly throughout the world.
This Forbes article begins to address the reality of the problem and that's a great step forward, in our view. We wish the writer would have gone further and focused on other issues that have distorted the market economy.