‘A Friedman Doctrine – The Social Responsibility of Business is to Increase its Profits’: 44 Years Later

 

Royalton, VT:  Odd Fellows Hall  7/17/13
Royalton, VT: Odd Fellows Hall 7/17/13

          September 13 marks the 44th anniversary of the publication of University of Chicago professor Milton Friedman’s article, ‘A Friedman Doctrine – The Social Responsibility of Business is to Increase its Profits’.[1]  Few newspaper essays have had greater effect.

           The redefinition of  corporate law since 2010 by the Supreme Court – in Citizens United v. FEC, McCutcheon v. FEC and Burwell v. Hobby Lobby Stores, Inc. – owes much to the Nobel laureate.

           So argues a forthcoming article on Citizens United by Delaware Supreme Court Chief Justice Leo E. Strine, Jr. [2], (of which more another day).  It sent me back to Friedman’s ‘Doctrine’.

Doctrine’s Context

           War and race dominated the talk of the September when Friedman’s Doctrine appeared.

           In August 1970, 400 military were killed in action in Vietnam.  Universities started classes later in 1970 than they do now.  By Sept. 13, some had reopened, having shut during the campus strikes following the US expansion of the Vietnam War into Cambodia in early May.  Many predicted more unrest.

           Of the War, ‘A Friedman Doctrine’ does not hint.  Of race, there’s a suggestion.  Even in Lawrence, Kansas, in the spring and summer of 1970, buildings burned, crowds rioted, men died.

           Prof. Friedman did acknowledge the nascent environmental and consumer rights movements, anti-poverty campaigns and employment.  And, he was quite concerned about ‘social responsibility’ – and socially responsible investing which had suddenly appeared in 1969-70.

[B]usinessmen believe that they are defending free enterprise when they declaim that business is not concerned “merely” with profit but also with promoting desirable “social” ends; that business has a “social conscience” and takes seriously its responsibilities for providing employment, eliminating discrimination, avoiding pollution and whatever else may be the catchwords of the contemporary crop of reformers.[3]

 Defining ‘Responsibility’

           For such businessmen (there were few businesswomen, and the women’s movement isn’t noted), Friedman had only contempt.  ‘[T]hey are – or would be if they or anyone else took them seriously – preaching pure and unadulterated socialism.’

           The ‘S’ word and its variants in 1970 had even more pejorative connotations than it does today, because Soviet socialism was very much alive.

What does it mean to say that “business” has responsibilities?  Only people can have responsibilities.  A corporation is an artificial person and in this sense may have artificial responsibilities, but “business” as a whole cannot be said to have responsibilities, even in this vague sense. [4]

Elegant phrasing that.  But he’s setting up the most important point for him: business as a category of human activity can’t have ‘responsibilities’.  Only individuals can.

           Hence, says Friedman, a corporate executive’s

responsibility is to conduct the business in accordance with their [the corporation’s owners’] 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.[5]

 Two thousand words later, Friedman concludes, apparently repeating the point but actually sharply limiting an executive’s scope of action:

 …in my book Capitalism and Freedom, I have called it [“social responsibility”] a “fundamentally subversive doctrine” in a free society, and have said that in such a society, “there is one and only one social responsibility of business – to use its resources and engage in activities designed to increase its profits so long as it stays within the rules of the game, which is to say, engages in open and free competition without deception or fraud.”[6]

 The Line of Responsibility

          To arrive at the simplicity of this assertion, Friedman bases it on another, the seed of what’s now called ‘shareholder primacy’.

In a free-enterprise, private-property system, a corporate executive is an employee of the owners of the business.  He has direct responsibility to his employers….

In either case [a for-profit or not-for-profit], the key point is that, in his capacity as a corporate executive, the manager is the agent of the individuals who own the corporation or establish the eleemosynary institution, and his primary responsibility is to them.[7]

          This ‘key point’ had never been true in any Anglo-American jurisdiction since the modern corporation first appeared in 1600 – until March 25, 2014, when Hobby Lobby may have adopted it.  (More on this in another post.)

          In a business law course, an undergraduate learns that a corporate executive is an employee of the ‘artificial person’, not of its owners.  S/he has ‘direct responsibility’ to the corporation.  Its owners’ elected representatives – the board – hold the executive accountable.  So Prof. Friedman misleads when he says:

The whole justification for permitting the corporate executive to be selected by the stockholders is that the executive is an agent serving the interests of his principal. [8]

 Corporate executives have never been agents of their employer’s stockholders.  Ever.

           Friedman also fails to note, the corporate executive serves an artificial person, having the privileges its creator – society acting through government – gives it.   Why should society expect less responsibility from an artificial person than a breathing one?  Especially in exchange for perpetual life, the protections of ‘the business judgment rule and limited liability….

 The Engine of Hypothesis

          ‘A Friedman Doctrine’ doesn’t alert its readers to the falsity of its key point – the corporate executive’s direct responsibility to the owners of the business.  Why?  Here’s the Nobel Laureate (in 1953) on economic methodology:

Truly important and significant hypotheses will be found to have “assumptions” that are wildly inaccurate descriptive representations of reality….   A hypothesis is important if it “explains” much by little … if it abstracts the common and crucial elements from the mass of complex and detailed circumstances … and permits valid predictions on the basis of them alone.  To be important, therefore, a hypothesis must be descriptively false in its assumptions.[9]

Hence, the falsity of the assumptions of ‘A Friedman Doctrine’.  Still, that does not excuse the professor from alerting his readers to their untruth.

           The economist’s explanation of behavior may be future not past.  For as Friedman wrote economic modeling is ‘an “engine” to analyze [the world], not a photographic reproduction of it.’[10]  In Friedman’s and lesser hands, it is in Edinburgh professor Donald MacKenzie’s rephrasing, ‘An Engine, not a Camera’.[11]

           Just as James Monroe and John Quincy Adams did in the Monroe Doctrine, Milton Friedman asserted the reality he wanted to create.  And did.

 Executives’ Social Responsibility

           In Friedman’s construct, it’s all about individual humans.  As quoted earlier, the Friedman Doctrine asserts:

 A corporation is an artificial person and in this sense may have artificial responsibilities, but “business” as a whole cannot be said to have responsibilities, even in this vague sense.[12]

 Taken literally and precisely as he states it, he’s right about ‘business’ while being wrong logically, ethically and legally that an artificial person can’t have social responsibilities. 

          But if ‘business’ lacks such responsibilities:

What does it mean to say that the corporate executive has a “social responsibility” in his capacity as businessman?  …[It] must mean that he is to act in some way that is not in the interest of his employers.  For example, …that he is to make expenditures on reducing pollution beyond the amount that is in the best interests of the corporation or that is required by law in order to contribute to the social objective of improving the environment.[13]

 So, as to the businessman who’s a corporate executive:

In each of these cases, the corporate executive would be spending someone else’s money for a general social interest.  Insofar as his actions in accord with his “social responsibility” reduce returns to stockholders, he is spending their money.  Insofar as his actions raise the price to customers, he is spending the customers’ money.  Insofar as his actions lower the wages of some employees, he is spending their money.[14]

           Perhaps nothing in ‘A Friedman Doctrine’ is as breathtaking, as destructive, as the hypothesis this rests on:

The political principle that underlies the market mechanism is unanimity.  In an ideal free market resting on private property, no individual can coerce any other, all cooperation is voluntary, all parties to such cooperation benefit or they need not participate.  There are no values, no “social” responsibilities in any sense other than the shared values and responsibilities of individuals.  Society is a collection of individuals and of the various groups they voluntarily form.[15]

 Forty-one years later, the sorely-missed Tony Judt gave the success of Friedman’s ‘unanimity’ idea its due:

It is not by chance that Margaret Thatcher – who famously declared that “there is no such thing as Society.  There are individual men and women, and there are families” – made a point of never traveling by train.  If we cannot spend our collective resources on trains and travel contentedly in them it is not because we have joined gated communities and need nothing but private cars to move between them.  It will be because we have become gated individuals who don’t know how to share public space to common advantage.[16

 Social Responsibility is Theft

           But ‘A Friedman Doctrine’ had another context.  Shareholder activism and modern socially responsible investing had just been born.

I have, for simplicity, concentrated on the special case of the corporate executive….   But precisely the same argument applies to the newer phenomenon of calling upon stockholders to require corporations to exercise social responsibility (the recent G.M. crusade for example).  In most of these cases, what is in effect involved is some stockholders trying to get other stockholders (or customers or employees) to contribute against their will to “social” causes favored by the activists.  Insofar as they succeed, they are again imposing taxes and spending the proceeds.[17]

           In sum, this ‘Friedman Doctrine’ is that  ‘social responsibility’ – any corporate action to do good without an ulterior aim to maximise profits –  whether imposed by shareholders or by managers is theft.

 The Doctrine’s Continuing Importance

           Those who’ve made socially responsible investing their career have dealt with the effects of the Friedman Doctrine every day.  But it’s had a society-wide effect, too.

           Much of the intellectual structure of the ‘Law and Economics’ school rests on Friedman’s hypotheses.  Through judges (and professors) like Richard A. Posner and Frank H. Easterbrook of the US Seventh Circuit Court of Appeals, it has dominated the courts – and law schools – since the Reagan-Bush years.

           If Delaware Supreme Court Chief Justice Leo Strine (another Law and Economics acolyte) is right, this strain of conservatism has run head on into another advanced by the Supreme Court in Citizens United.

          In another article I’ll look at the consequences of this collision.

  

Notes

           1.  Milton Friedman, ‘A Friedman Doctrine – The Social Responsibility of Business is to Increase its Profits’, New York Times Magazine, Sept. 13, 1970, p. SM17 (hereafter ‘Doctrine’) as reprinted at http://www.colorado.edu/studentgroups/libertarians/issues/friedman-soc-resp-business.html

           2.  Leo E. Strine, Jr. & Nicholas Walter, ‘Conservative Collision Course?: The Tension Between Conservative Corporate Law Theory and Citizens United, 100 Cornell L.R. ___ (2015), Harvard John M. Olin Discussion Paper Series No. 788, John M. Olin Center for Law, Economics & Business, Harvard Law School, Cambridge, MA.

           3.  Friedman, ‘Doctrine’, op. cit.

           4.  Id.

          5.  Id.

           6.  Id.

           7.  Id.

           8.  Id.

           9.  Milton Friedman, “The Methodology of Positive Economics” (1953), as quoted in Donald MacKenzie, An Engine, Not a Camera: How Financial Models Shape Markets [2006] (Cambridge MA: MIT Press, 2008), pp. 9-10.  MacKenzie’s is a brilliant book, albeit not for those afraid of some slogging.  His occasional articles in the London Review of Books aren’t to be missed.

           10.  Id., p. 10.

           11.  Id.

           12.  Friedman, ‘Doctrine’, op. cit.

          13.  Id.

           14.  Id.

           15.  Id.

           16.   Tony Judt, “Bring Back the Rails!”, New York Review of Books, January 13, 2011, pp. 34, 35.

           17.  Friedman, ‘Doctrine’, op. cit.

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