Philanthropy can’t be outsourced to the profit motive

By Felix Salmon
June 16, 2011
Matthew Bishop has responded to my post about profits and philanthropy with an astonishing assertion: that his ideas, and those of Daniel Altman, are so fresh and new that I'm scorning them out of sheer unfamiliarity.

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Give him points for chutzpah, at least. Matthew Bishop has responded to my post about profits and philanthropy with an astonishing assertion: that his ideas, and those of Daniel Altman, are so fresh and new that I’m scorning them out of sheer unfamiliarity. I’m a “traditionalist,” says Matthew, a “John Bull turning up his nose at ‘foreign muck.’” It seems I’m stuck 20 years or so in the past: since then, says, Matthew, there’s been a “growing realisation that business does have the capacity to create as well as destroy social value.”

The realization that business has the capacity to create as well as destroy social value is known as “economics,” and goes back at least as far as Adam Smith. There’s nothing new about it, and nor is there anything new about economists using this insight to assuage the guilt of the rich. Here’s Joan Robinson writing in 1936, and talking about someone who more or less fits the self-image of a Davos CEO: a person with intelligence, conscience, and wealth.

He cannot keep all three – integrity of mind, a quiet conscience, and the privileges of wealth. One must be sacrificed. If he is a saint he sacrifices the wealth – but we will suppose that he is not. If he is a man of no definite religious creed he can keep his mental honesty and his income by sacrificing his conscience. He can say “I am a selfish individual. I don’t pretend to have any better right than anyone else to a comfortable life, but I propose to enjoy it if I can.” …

Now, it is here that the economist is a godsend to him. The economist is a self-appointed expert. It is his business to know about these things. A man may have an honest and independent mind and yet take on trust the opinion of experts on a subject that he has not time to master for himself. If the economist tells him it is all right, then he can keep his integrity, his income and his conscience all intact.

One of the main effects (I will not say purposes) of orthodox traditional economics was to fill this want. It was a plan for explaining to the privileged class that their position was morally right and was necessary for the welfare of society. Even the poor were better off under the existing system than they would be under any other.

Daniel Altman’s “single bottom line” idea — that by maximizing profits companies also maximize social welfare — falls squarely into this tradition. Far from being new, it was old even in the 1930s.

Here’s Robinson 41 years later, making the same point in a different way:

Freedom is the great ideal. Along with the concept of freedom goes freedom of the market, and the philosophy of orthodox economics is that the pursuit of self-interest will lead to the benefit of society. By this means the moral problem is abolished. The moral problem is concerned with the conflict between individual interest and the interest of society. And since this doctrine tells us that there is no conflict, we can all pursue our self-interest with a good conscience.

Robinson makes a strong case that Adam Smith himself did not actually believe this — but certainly many of the orthodox economists who followed him did.

Bishop himself criticizes Altman on the grounds that he treats “the chronic short-termism of today’s stock market capitalism only as an afterthought” — but that implicitly agrees with Altman that if businesses could just see their way clear to concentrating on the very long term, then the profit motive would automagically align with maximizing social welfare. This is dangerous, because Davos Man always thinks of himself as concentrating on the very long term. And I defy you to find a corporate leader who will ever say that chasing short-term profits is a better idea than maximizing value over the long term. When corporate leaders listen to Altman and Bishop, then, they get the message that if they just do what they claim to be doing already, then they’re already doing all they can in terms of their corporate social function.

Bishop cites anonymous “critics” as saying he’s being “too idealistic”; I’d love to know who these critics are. The truth is that Altman, and to some degree Bishop too, is being too ideological, with their article of faith that long-term profitability means long-term social welfare. Tell that to the companies removing mountaintops.

Of course it’s possible that a company — even a profit-maximizing company — can have positive social impact. Matthew’s example of IBM is a good one, although given the scale of IBM’s philanthropy I don’t think it’s actually profit-maximizing, at the margin. Altman would I’m sure have some convoluted explanation of how IBM’s philanthropy makes it a more desirable place to work and thereby helps to maximize long-term profits, but those kind of arguments are unfalsifiable and therefore meaningless.

Matthew also says I’m wrong when I say that his Economist article favors IBM over the Carnegie Corporation. I’ll quote, you decide:

In the first 50 years, the impact of the Carnegie Corporation on society dwarfed that of IBM…

Judged on the past 50 years, there is a strong case for saying IBM has had more impact than Carnegie…

The achievements of IBM and the Carnegie Corporation are impossible to quantify mathematically. What seems clear, though, is that as it enters its second century, IBM can plausibly hope that its best years lie ahead. Alas, that seems most unlikely for Carnegie.

If I was a corporate leader reading this, I’d happily take away the message that successful corporate leadership is the best way of improving the state of the world — even better than pure philanthropy. And I’d be greatly encouraged by Altman, who says this, in a comment on my post:

We think that using the single bottom line with a long (not infinite) time horizon will actually encourage profit-maximizing companies to invest in more social initiatives, since they’ll see how those initiatives can help their profitability in the long term.

I find it very hard to see how this is meant to work in practice. After all, the base case for any public company is to have a single bottom line with a long time horizon. Simply being funded by permanent capital won’t in and of itself make executives invest more in social initiatives, or open their eyes to the long-term value thereof — especially when any such investment carries an opportunity cost and means that there’s some other project which would have to be abandoned as a result.

I suspect that a weak form of Altman’s thesis might well be true. If a company’s equity capital comes from investors with a medium-term time horizon and one eye on the exit — VCs or private-equity shops — then that company is probably less likely to invest in social initiatives than if it’s a public company with permanent equity capital.

But that doesn’t mean that simply having a single bottom line and a focus on maximizing profit is the best possible way to maximize social impact. Public companies might look better, from a social perspective, than those run by corporate raiders and buyout chieftains. But that’s a pretty low bar to set.

10 comments

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You have it exactly: ideologues confusing themselves with idealists. Too few people can see the obvious.

Posted by martineh | Report as abusive

Is there not a ‘survivors bias’ in picking IBM after it has already been a successful company and comparing its value (or not) against something like Carnegie? Is it not a more intellectual honest approach to pick the sum ‘social’ value of a bunch of companies pursuing profit motives starting at the same time as IBM? Picking IBM stand-alone seems biased once we know they ‘won,’ much like surviving mutual funds can average better-than-benchmark returns because the underperformers keep folding.

Posted by TRKAdvisors | Report as abusive

I think we’re all being too short-term here. Companies are legal fictions. They’re not “real.” They’re organizations of individuals designed to serve some social need. One of the things they do very well (as a by-product) is inculcate those individuals with socially useful skills. I know it well, having worked for a couple of failed companies as well as for a failed project of the Federal Government.

The projects and companies I worked for didn’t survive. But I did (duh). And I learned valuable lessons that I could then use to serve another populace.

BTW, just because a company makes a profit doesn’t make the social need it serves unimportant. The mechanic who works on my car is performing a *very* valuable service. And by keeping my old car running, I don’t have to extract as much iron ore and coking coal to consumer another one.

Posted by Publius | Report as abusive

but those kind of arguments are unfalsifiable and therefore meaningless.

doesn’t that mean your assertion IBM is not profit maximizing is also unfalsiable and therefore meaningless?

A good deal of what’s written – here and elsewhere – about economics and the behaviour of firms is unfalsiable. It just goes with the territory. I’d keep that powder dry if I were you.

Posted by Luis_Enrique | Report as abusive

Thanks for this, and the previous article. Yours is the only critical evaluation of the paper that I’ve seen so far, and there’s several assumptions in the original paper that need to be questioned (example: they put great emphasis on positive externalities of profit-driven companies, but ignore that if externalities are so important, the negative must be taken into account as well).

I confess myself mystified by attempts to defend profits. Is it just a matter of assuaging guilt?

Posted by BrigidS | Report as abusive

The fundamental difference between a foundation created for philanthrophy vis-a-vis an organization where its investment into what is now fashionably CSR, is the primacy of the intent.

In one case it is only a sideshow, a product mix to manage the market in terms of image, and yes, is purely a derivative of its profits.

Companies need to make profits to be charitable – is a truism.

A charitable act needs to be sustainable – as in perpetually addressing the cause by regenerating profits – is the new fangled notion that is the absurdity that Felix Salmon so neatly destroys.

Thanx.

Posted by from_a_distance | Report as abusive

Although corporations can of course have positive social impacts, anything more than modest philanthropy is likely to get the corporation sued for breach of fiduciary duty. That’s exactly what happened in the eBay vs craigslist case (which I summarized here http://bit.ly/fJNGvI ) in which the Delaware Court of Chancery — indisputably the most important corporate court in the world — sustained a claim for breach of fiduciary duty arising from craigslist’s philanthropic endeavors, holding:

“The corporate form in which craigslist operates, however, is not an appropriate vehicle for purely philanthropic ends, at least not when there are other stockholders interested in realizing a return on their investment. Jim and Craig opted to form craigslist, Inc. as a for-profit Delaware corporation and voluntarily accepted millions of dollars from eBay as part of a transaction whereby eBay became a stockholder. Having chosen a for-profit corporate form, the craigslist directors are bound by the fiduciary duties and standards that accompany that form. Those standards include acting to promote the value of the corporation for the benefit of its stockholders. The “Inc.” after the company name has to mean at least that. Thus, I cannot accept as valid for the purposes of implementing the Rights Plan a corporate policy that specifically, clearly, and admittedly seeks not to maximize the economic value of a for-profit Delaware corporation for the benefit of its stockholders—no matter whether those stockholders are individuals of modest means or a corporate titan of online commerce.”

Posted by MaxKennerly | Report as abusive

Maximizing stock value doesn’t even maximize the financial value delivered to stockholders.

Consider: To the extent that stockholders have diversified investments, “value of stock” and “value to stockholders” will tend diverge. For thoroughly diversified investors, if an action by Company A increases its value by X while decreasing the value of Company B by Y, this action will decrease value to A’s (diversified) stockholders when X is less than Y.

MaxKenneely quotes the Delaware Court of Chancery as ruling that directors are bound by “…fiduciary duties and standards….[that] include acting to promote the value of the corporation for the benefit of its stockholders.”

The traditional interpretation of this fiduciary duty is simply wrong: Promoting the value of a corporation does not, in general, equate to promoting the benefit of its stockholders, even in the narrowest financial sense.

Posted by Anonymous | Report as abusive

“I begin by taking. I shall find scholars later to demonstrate my perfect right.” –Frederick the Great

It seems there are always scholars such a Mr. Bishop who are ready, willing, and able to rationalize the selfishness of the powerful.

Posted by Justsomeguy5 | Report as abusive

@ Felix- I think a great example of the “outsourcing” of charity to the private sector successfully is the food company Newmans Own. They have very successfully created a well received brand around the idea that profits beyond those needed to grow the enterprise would be donated to various charities and foundations. People don’t buy their products because they are dependably delicious (which they are) they buy them because they know a few pennies of every dollar they spend are going to do some good. That makes the lemonade taste better.

@ Publis- “I think we’re all being too short-term here. Companies are legal fictions. They’re not “real.”… … The projects and companies I worked for didn’t survive. But I did.” Think even longer term that that. Like Zerohedge says, in the longrun the survibility of everyone drops to zero. Paul Newman is dead but the movies he made and the charitable company he created “live” on.

Most large charities have endowments which provide them income each year. This is most imporntant in lean economic years when contributions tend to dry up. Why could a non-profit with a billion dollar endowment not buy a steady 1 billion dollar company outright rather than minority stakes in 100 different companies.

We’re a well known well run charity to buy up a large going concern company my prediction would be that company would have their pick of the litter of employees and customers lining up to try their product.

Posted by y2kurtus | Report as abusive