The rules of the game aren't set in stone.

Photographer: George Rose/Getty Images)

Good Business Needs Bad Lobbyists

Justin Fox is a Bloomberg View columnist. He was the editorial director of Harvard Business Review and wrote for Time, Fortune and American Banker. He is the author of “The Myth of the Rational Market.”
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It’s pretty popular these days to dump on Milton Friedman’s famous claim that the social responsibility of business is to increase profits. So far, though, Friedman's core argument that corporate managers should focus on making money for their shareholders seems to have withstood the assault. Yes, lots of people in business have other goals, and even big corporations often do better if they define their purpose as something other than just making lots of money. Overall, though, successful businesses are socially useful in the sense that they bring growth, prosperity and opportunities for personal fulfillment -- and the most obvious common thread linking successful businesses is that they are, you know, profitable.

Still, there is one part of Friedman’s statement that has always bothered me. Here’s the full quote, first published in Friedman’s 1962 book “Capitalism and Freedom” and then reprised in the 1970 New York Times Magazine article that made it famous:

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.

The problem here is that, as anybody who has spent any time observing the political process in the U.S. over the past few decades knows, those “rules of the game” aren't set in stone. Corporations play a pretty major role, often the decisive one, in determining the rules by which they play. And if they are always pushing for changes in the rules that would increase their profits, as they should if they are obeying Friedman's commandment, won't they eventually push things too far?

It turns out I'm not the only one bothered by this! There's a new paper out from the Brookings Institution today, by Harvard Business School professors Rebecca Henderson and Karthik Ramanna, that takes on exactly the “rules of the game” weakness in Friedman's argument. Henderson is a prominent strategy theorist who serves on a couple of corporate boards (Amgen and Idexx Laboratories). Ramanna is a young professor with a background in accounting who has recently been branching out.

Henderson and Ramanna start by enthusiastically endorsing the idea that corporate managers should be out to maximize returns to shareholders, even offering three “central moral principles” to back it up. They also argue that aggressive corporate lobbying in service of that goal is fine, as long as lots of other people are lobbying, too:

If firms face active and involved competitors -- or other powerful interest groups such as labor unions, pensioners, or organized consumers -- as they attempt to shape legislative or regulatory outcomes, it seems plausible that in many cases the kinds of lively conversations that result will lead to the development of institutions that can support an approximation to free and fair competition.

If a political process is not "thick" with competing interests but "thin" and obscure, though, it's a different story. Then one or a few corporations clearly can play a decisive role in shaping the outcome, and there's no reason to think that outcome will be a good one for society if the representatives of those corporations are acting purely to maximize shareholder returns.

What is to be done? Henderson and Ramanna propose that, when a political process is thin, "corporate managers have an active duty to advance the interests of the system as a whole (even over the interests of their firm)." Let's think about that for a minute. If you're a chief executive, you're supposed to do whatever it takes to increase your corporation's profits, including going to Washington to lobby aggressively for your company's interests. But as soon as you find yourself in a position to dictate the terms of some new regulation or law, you're supposed to drop the self interest and suddenly turn all public spirited.

This may strike you as a tad unrealistic. Or totally &$@#+%* nuts. Happily, Henderson and Ramanna don't really buy it either, and they acknowledge that we'll surely need enforcement mechanisms to get corporate managers to change their political behavior. Things get a little vague after that: The "emerging field of corporate accountability reporting" offers some promise, they write, as does "the development of standards and professional codes for business lobbying."

So ... probably nothing to get very excited about just yet. But before you dismiss this as an empty academic exercise, it's worth noting that much of the language and intellectual framework with which corporate executives in the U.S. now define their jobs and shareholders judge their performance evolved out of a 1976 academic paper, "Theory of the Firm: Managerial Behavior, Agency Costs and Ownership Structure," by Michael C. Jensen and William H. Meckling, that was inspired by Friedman's 1970 article. Trying to shift that language and expand that framework even a little is important work.

  1. Yes, I got to know these people when I worked up north, and I once edited a Harvard Business Review article by Ramanna.

This column does not necessarily reflect the opinion of Bloomberg View's editorial board or Bloomberg LP, its owners and investors.

To contact the author on this story:
Justin Fox at justinfox@bloomberg.net