How do you spend your Friday evenings? Do you occasionally enjoy a meal with friends? We do, too. Do you engage in in-depth discussions on macroeconomics? Well, maybe not.
Last Friday, our dinner host was an economist. It made for interesting, if intense, banter. And, then he said something that stopped me dead in my tracks.
He theorizes that corporate CEO behavior is changing. They are sitting on record amounts of cash and not investing it, he says. “Sure,” I responded. “In a lackluster economy, there is not enough demand to motivate investment.”
His reply was not cast in the usual language of political dialog. He didn’t accuse those Sun-Tzu quoting, take-no-prisoners corporate CEOs of hoarding cash because they’re greedy. Rather, he asserted that there has been a cultural shift in corporate America away from risk-taking.
Human beings are pre-programmed to be risk averse. If you want to convince somebody to do something, make him or her afraid of the alternative.
“Vote for me!” “Why?” “Let me tell you what will happen if the other guy wins…”
There’s lots of math in economics. But, at its core, it’s a behavioral science. Economists derive mathematical models to predict the effect of human behavior. Corporate CEOs are paid millions to maximize returns on their capital (factories, equipment and all that cash). But, turnover in the executive suite is pretty high. Fortune 500 CEOs lose their jobs in about four and a half years on average. So, if they are now so afraid of losing their cushy jobs and lavish pay packages that they aren’t taking risk, it can’t be good for the economy.
Still, I’m not sure I buy his argument.
Big shot CEOs don’t keep piles of cash in their offices. They save it in banks and buy bonds. An enduring truth of economics is that savings = investment and investment creates jobs. If a corporation buys municipal bonds, cities use it to maintain their infrastructure. If they buy corporate bonds, other companies invest in R&D, capital equipment and real estate, creating jobs in the process. Some of that money ends up in private equity funds where investment managers make bigger bets than those risk-averse CEOs and earn bigger rewards when they are successful.
Leon Black, CEO of private equity firm The Apollo Group, made $540M last year. Poor Apple CEO Tim Cook took home a measly $4.25M. If you are an average middle class earner, there’s not much difference between the two. How much money can you spend anyway? Doesn’t Tim Cook live pretty well? Leon probably owns more assets than Tim (he paid $120M for a painting – Edvard Munch’s The Scream.) But, so what? There’s only so much time in the day and you can only be in one place at a time. How much happier can Leon be than Tim?
|The Scream by Edvard Munch|
Apple is sitting on more cash than any company in the US, about $147B. And, they have invested much of it in US Treasury bonds. How’s that for risk-averse behavior? Even when CEOs invest cash in their own companies, they often acquire other companies, implement new technology or build factories overseas – all activities that kill jobs in the US.
Maybe my dinner companion is on to something.
If big corporations don’t or won’t create jobs, it is left to the small, entrepreneurial companies to do so. And, the evidence shows that small businesses create jobs at a faster rate than big ones.
Yet, government impedes the progress of small businesses in many ways through initiatives like raising the minimum wage, requiring health insurance and extending family medical leave benefits. Whether you think those policies are good or bad, you have to recognize that they have a negative effect on the return that business owners can get from their investments.
Business investment provides jobs and drives innovation that creates more jobs. However, the tax code doesn’t reward you for investing in your business so much as investing in real estate and other assets. When business investment and hiring get more expensive, business owners are less likely to invest in factories and offices and more likely to invest in beachfront property.
The rich always find ways to remain rich. Government policies that provide the wrong incentives and penalties don’t prevent the rich from getting richer. They prevent the poor and middle class from becoming rich.
It’s enough to make me want to SCREAM:
WHO WILL LEAD?