Fixing the American Economy: More Builders and Fewer Traders
July 6, 2015
The current rules shaping corporate and investor behavior must be changed. Wall Street is trapped in an incentive system that delivers quarterly profits at the expense of long-term investment.
There's nothing wrong with paying investors handsome returns, and a vibrant stock market is something to strive for. But when the very few can move stock prices in the short term and simultaneously reap handsome rewards for themselves, not their companies, and when this cycle becomes standard operating procedure, crowding out investments that boost productivity and wage increases that boost consumption, the long-term consequences for the economy are debilitating.
A set of incentives has evolved that favors short-term gains over long-term growth. These damaging incentives include the proliferation of stock buybacks and dividends, the increase in non-cash compensation, the fixation on quarterly earnings, and the rise of activist Investors.
Taken together, they have contributed significantly to economy-wide problems such as: (1) rising inequality, (2) a shrinking middle class, (3) an increasing wedge between productivity & compensation, (4) less business investment, and (5) excessive financialization of the U.S. economy.
So what should be done? The authors propose reining in both share repurchases and the use of stock awards and options to compensate managers as well as refocusing corporate reporting on the long term. Reining in both share repurchases and the use of stock awards requires following policy steps:
- Repealing SEC Rule 10-B-18 and the 25 percent exemption.
- Improving corporate disclosure practices.
- Strengthening sustainability standards in 10-K reporting.
- Toughening executive compensation rules.
- Reforming the taxation of executive compensation.
The economy would work better if public corporations behaved more like private and family-held firms — if they made long-term investments, retained and trained their workers, grew organically, and offered reasonable compensation to their top managers.
Source: William A. Galston and Elaine Kamarck, "More Builders and Fewer Traders: A Growth Strategy for the American Economy," Brookings Institution, June 30, 2015.
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