William Lazonick Says Corporations Will Use Gains to Prop Up Stock Prices

UMass Lowell economics Prof. William Lazonick teaching Image by K. Webster
Economics Prof. William Lazonick has done groundbreaking research on stock buybacks.

By Katharine Webster

Economics Prof. William Lazonick has been sounding the alarm about corporate stock buybacks for years.

Since the early 1980s, when the Securities and Exchange Commission eased regulations on buybacks, corporations have increasingly used profits to repurchase their own shares, his research shows.

That increases stock prices and, with them, stock-based executive pay and the gains of stock-market professionals, at the expense of job creation and investment in plants, equipment, research and development, he says.

His article “Profits Without Prosperity: Stock Buybacks Manipulate the Market and Leave Most Americans Worse Off” earned an award for the best Harvard Business Review article of 2014. Since then, his work has been cited by politicians calling for stronger financial regulations, and he is frequently interviewed by financial reporters and analysts. But little, he says, has changed.

We recently caught up with him to talk about tax reform legislation being debated in Washington that would cut the corporate tax rate nearly in half.

Q: Supporters of tax reform argue that cutting the corporate tax rate from 35 percent to 20 percent will allow companies to hire more workers and invest in innovation. Do you agree?

A: No. Big, publicly traded corporations are under great pressure to increase shareholder value, so they spend most of their profits on repurchasing shares of their own stock as well as paying dividends. Stock buybacks give a manipulative boost to a company’s stock price. That benefits those who have information that allows them to time the buying and selling of shares, but it comes at the expense of long-term growth, because the companies have less money to invest in workers, productive capacity and innovation.

If the corporate tax rate is cut under the current regulatory environment, corporations will just use the money for more stock buybacks and higher dividends.

Q: Who is pressuring them?

A: A lot of this goes back to a loosening of financial regulations under the Reagan administration. The lax regulatory environment led to the rise of corporate raiders and hostile takeovers.

These corporate raiders, who call themselves “shareholder activists,” pressure companies to drive up share prices through stock buybacks, which increasingly are funded by borrowing money and by cutting costs – either by sending American jobs and manufacturing facilities overseas or by laying off workers and cutting employee pay and benefits. They then sell shares at the inflated price.

UMass Lowell economics Prof. William Lazonick Image by K. Webster
Economics Prof. William Lazonick has won prizes and major grants for his research.
Q: Can you give an example of how this works?

A: General Electric is a good example of how the pressure has increased, even in companies that want to innovate and invest in new technologies and workforce development. They’re being raided.

In 2015, an outfit called Trian Partners purchased less than 1 percent of GE stock, then published a white paper saying what GE should do to increase shareholder value and got one of their founding partners on GE’s board.

In the decade before 2016, GE was spending an average of $5.4 billion per year on stock buybacks. But in 2016, under pressure from Trian and its allies, GE – which made $8.2 billion in profits – paid out $8.5 billion in dividends and spent another $22 billion on stock buybacks. Earlier this month, GE announced it was cutting its dividends because of cash-flow problems, and its share price plummeted – but no one seems to be connecting this to last year’s massive buybacks.

Q: Shouldn’t shareholders expect an income from their stock portfolios?

A: As shareholders – not share-sellers and speculators – they should get dividends, if and when a company can afford to pay them while still remaining a viable enterprise.

But in this deregulated environment, the people who are extracting the most value aren’t the ones who are creating it. Value is created by the people within a company who research and develop new products and manufacture them, or find a way to offer better services. But those people have no job security anymore.

Companies are cutting pensions and benefits, offshoring manufacturing jobs and laying off older workers – often the ones with the greatest expertise in creating competitive products – because they’re “too expensive.” They’re destroying the middle class in the process.

Q: You’ve said that boosting share prices through buybacks is bad for ordinary shareholders. Doesn’t a rising tide lift all boats?

A: Ordinary people usually put their savings into mutual funds, so they’re not picking individual stocks, let alone timing the market to lock in gains in share prices.

The SEC doesn’t require companies to announce the days on which they are doing buybacks, but corporate executives have this information and hedge-fund managers, who are in the business of timing the sales of their shares, can figure it out. Ultimately, when enough large companies have been looted by hedge-fund managers and senior executives, the market crashes – and ordinary people see a large share of their savings evaporate.

Q: Most economists say that a free market allocates resources best.

A: The idea that the United States has a free market economy is a myth. In fact, taxpayers fund billions upon billions of dollars a year in infrastructure and knowledge that business enterprises then benefit from. The federal government has spent decades making investments in higher education, roads, aviation, computers, the internet and the life sciences. I’ve argued that the United States has invested more in this kind of development than any government in history, and overall, that’s been to our benefit.

But in the past three decades, we as taxpayers have gotten scant return on our investment – and we actually end up paying more in some cases. The pharmaceutical industry is a prime example. The National Institutes of Health spend $32 billion a year on research grants and work at public laboratories. That research provides the basis for many new drugs and treatments. When a big pharmaceutical company partners with a university research team or acquires a startup company and brings a drug to market, the company typically gets a 20-year patent, along with other protections and subsidies that we grant to it. Yet we let it charge whatever price it likes. No other country in the world does this.