The chart helps explain the relative out-performance of US equities as against world stock markets, noted in a previous post. The piece appeared in 2012, so the data is a bit old, but the disparity has probably gotten larger in the last few years. Smithers was bearish on the stock market in 2012 and, assuming mean reversion, believed shares to capital would recede and shares to labor would increase. Since publication on December 26, 2012, the U.S. stock market is up 54%.
The chart appears in an NPR report introduced by Paul Solman, consisting of an interview between Jon Shayne and Smithers, a noted student of financial history.
ANDREW SMITHERS: All output is for
somebody’s benefit, either those who work for the firm (the labor share) or
those who provide the capital (the profit share). Labor’s share has never been
lower or the profit share higher. These shares of course add up to 100 percent,
before the government has taxed both labor and capital.
JON SHAYNE: What do you think has
caused labor’s share to fall below its average to a new historical low, and
capital’s share to rise to the higher highest peak ever?
ANDREW SMITHERS: The change in the
way company managements are remunerated has been dramatic in this century.
Salaries have ceased to be the main source of income to senior management, with
bonuses and options taking over. There has been major change in management
incentives and it should not cause surprise, though it evidently has to most
economists, that management behavior has changed. The current incentives discourage
investment and encourage high profit margins.
This is dangerous for companies’
long-term prospects as it increases their risk of losing market share and
reduces their ability to reduce costs. It is very damaging for the economy, but
it maximizes the income of managements. Senior management positions change
frequently, so if management wish to get rich, they have to get rich quickly. I am not alone in this diagnosis. A
recent report from the Federal Reserve Bank of New York comes to the same
conclusion from a theoretical analysis as I have come from data analysis.
JON SHAYNE: How do bonuses today
encourage profitability above investment? I guess you mean that they are tied
to changes in earnings per share, or return on capital, rather than to the growth
of companies’ output?
ANDREW SMITHERS: Yes, the current
way in which managements are rewarded is perverse from an economic viewpoint.
Adam Smith pointed out that some characteristics of human beings such as greed,
which are often unpleasant at a personal level, can nonetheless bring social
benefits. But this is not necessarily the case under current remuneration
systems; greed is increasingly the cause of harm rather than help to the
economy.
JON SHAYNE: On the graph, do we
know how much of labor’s share represents what managers earn? If their share
has gone up over the decades, through stock options and the like, which I
believe is the case, then the average worker is getting even a bit less than it
looks, correct?
ANDREW SMITHERS: Yes, there have been
two major changes. First, the share of output which goes to all employees has
fallen to its lowest recorded level. Second, the proportion of total
remuneration that goes to the higher paid has shot up. Both of these changes
have been bad from the viewpoint of the average worker. The result is that
current management reward systems are producing both economic damage and social
disquiet. . . .
* * *
Paul Solman, Capital Wins, Labor Loses, But Andrew Smithers Says It Can't Go On," PBS Newshour, December 26, 2012
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