The Enduring Wisdom of Milton Friedman

Steven N. Kaplan is the Neubauer Family Professor of Entrepreneurship and Finance at the University of Chicago Booth School of Business. This post is based on his piece, originally published in ProMarket. Related research from the Program on Corporate Governance includes The Illusory Promise of Stakeholder Governance by Lucian A. Bebchuk and Roberto Tallarita (discussed on the Forum here); For Whom Corporate Leaders Bargain by Lucian A. Bebchuk, Kobi Kastiel, and Roberto Tallarita (discussed on the Forum here); and Toward Fair and Sustainable Capitalism by Leo E. Strine, Jr (discussed on the Forum here).

Milton Friedman wrote his famous piece about corporate social responsibility 50 years ago. The wisdom of the piece has been influential, productive, and remains true today.

It is important to understand what Friedman actually said and meant: “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.” I interpret “profits” to mean long-term shareholder value, which is the value of the company. That captures the fact that total shareholder value can increase if a company takes actions that reduce profits in the short-term, but increase them by more in the medium and longer-term. That is surely what Friedman meant.

Many observers, including the organizers of the Stigler Center’s Political Economy of Finance Conference, believe that his view has been extremely influential. It has been implemented in the US and globally starting in the 1980s, encouraged by scholars like Michael Jensen (a Booth alum and my thesis advisor). [1] What has been the result of corporate shareholder value maximization mixed in with globalization? Let me cite Nicholas Kristof, of the New York Times, who wrote at the end of 2019 (and pre-pandemic): “For humanity over all, life just keeps getting better.” People living in extreme poverty fell from 42 percent of the world’s population in 1981 to below 10 percent today. That is 2 billion people who are no longer suffering extreme poverty. Absolute poverty declined substantially in the US, from 13 percent in 1980 to 3 percent today. And this is more or less what Friedman predicted. The pandemic will affect these numbers, but I am hopeful that the effect will be temporary.

So, I believe we should start from the premise that the goal of shareholder value maximization has been extremely successful globally in the way that matters most.

Shareholder value maximization has been successful because in many cases maximizing shareholder value is in harmony with delivering for stakeholders. Apple and Microsoft, for example, have delivered huge value not only to shareholders, but also to customers, employees, and suppliers around the world.

Today, some customers and employees care more that firms are responsible on environmental and social issues, so it can be value maximizing to respond. Friedman himself acknowledges: ”It may well be in the long-run interest of a corporation that is a major employer in a small community to devote resources to providing amenities to that community or to improving its government. That may make it easier to attract desirable employees, it may reduce the wage bill or lessen losses from pilferage and sabotage or have other worthwhile effects.”

But, there are two major challenges with prioritizing stakeholders over shareholders. The first challenge is that there are always trade-offs. GM provided a great example last year when it proposed to close a plant producing gasoline cars in Michigan and to open one producing electric cars farther south. [2]

How do you choose? If you close the plant, you hurt the workers you fire and you hurt the community in Michigan. On the other hand, if you do not close the plant, you hurt the workers and community in the south and you hurt the environment. Would it matter if the closed plant is in Michigan or China? Would it matter if the new plant is in Texas or Mexico?

For Friedman, the choice is clear—do what maximizes shareholder value of the overall company. When you deviate from that and consider the other stakeholders, Friedman asks: “If businessmen do have a social responsibility other than making maximum profits for stockholders, how are they to know what it is?”

And, how does the board evaluate the CEO? Without shareholder primacy, it is very easy for the CEO to say, “I did a good job.”

The CEO can say, “I kept the old plant and employees! The employees and community are happy. I am a great success!”

Or the CEO can say, “I built the new plant. The environment is happy. The new community is happy. I am a great success!”

You see the problem. The CEO can do almost anything and claim to be creating value.

The second major challenge with delivering for stakeholders instead of shareholders is competition and investment. Many models, including Hart and Zingales, ignore investments and understate the effect of competition. Companies compete against shareholder value maximizers. Value maximizing competitors will operate and invest efficiently. When a company prioritizes other stakeholders and does not maximize shareholder value, the company is likely to invest less/operate worse. A good example of this is the US auto companies in the 1960s and 1970s. They treated their unions and employees as partners/stakeholders. They were devastated by Japanese competitors.

And Friedman is prescient and wise in one additional way. Last year, the Business Roundtable, comprised of the CEOs of many of the largest US companies, issued its ill-advised Statement of Purpose that concluded: “Each of our stakeholders is essential. We commit to deliver value to all of them.” Friedman brings up a vital concern about dividing loyalties in this way. “If businessmen are civil servants rather than the employees of their stockholders, then in a democracy they will sooner or later be chosen by the public techniques of election and appointment. And long before this occurs, their decision-making power will have been taken away from them.”

Right on cue, Senator Elizabeth Warren and other politicians responded. Warren wrote: “For information about the tangible actions you intend to take to implement the principles … I expect that you will endorse and wholeheartedly support the reforms laid out in the Accountable Capitalism Act to meet the principles you endorse.”

To conclude, Friedman was and is right. A world in which businesses maximize shareholder value has been immensely productive and successful over the last 50 years. Accordingly, business should continue to maximize shareholder value as long as it stays within the rules of the game. Any other goal incentivizes disorder, disinvestment, government interference, and, ultimately, decline.


1Nicholas Lemann devoted an entire book to this, Transaction Man: The Rise of the Deal and the Decline of the American Dream.(go back)

2Greg Mankiw used a version of this example in his column for the New York Times, July 24, 2020.(go back)

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