The revolt of "angry Americans" is now accepted broadly as a major cause of the unexpected victory of Mr Donald Trump in the United States presidential election. So what was it that made Americans so angry?
In my view, "predatory value extraction" is at its core. Since the 1980s, US business corporations have been restructuring employment relations and financial behaviour. The mantra of the day was that American corporations should recover their international competitiveness against their Japanese and German counterparts through "corporate restructuring". American workers then kept hearing the story that the US economy resurged from the 1990s, thanks to the success of the restructuring.
Often missing in the story is the pain caused by restructuring to individuals as well as to society. Many people lose their jobs and are forced to find new jobs in new places. Often, they have to accept cuts in their salaries and benefits. There are also social costs involved in supporting those out of work temporarily or permanently.
Individuals only feel that it is worthwhile to have undergone this painful process if they get some benefits from the restructuring in the end. Society can enjoy a "virtuous cycle" if the benefit of restructuring is shared broadly by its members.
Let us put aside the debate on whether the US economy as a whole was really successful in its restructuring. I have strong reservations that it was successful as touted. However, there is no disagreement that the benefits and costs of restructuring have been distributed unequally.
For nearly half a century before the 1980s, labour productivity increases were paralleled by wage increases. The US middle class emerged and prospered during the period. Since the 1980s, however, wage increases have not kept up with labour productivity increases. Under the incessant pressure for restructuring, US workers on average have had to accept less than what they contributed to their companies. From the mid-1990s, they began working longer hours than the Japanese workers whom they used to deride as "ants".
The proportion of "contingent workers" in the total workforce also increased sharply from 10.5 per cent in 2010 to 15.8 per cent last year, according to professors Lawrence Katz and Alan Krueger. That's an increase of 9.4 million workers, implying that nearly all of the net employment growth in the US during the period occurred in contingent work.
UNHOLY ALLIANCE
Who then took most of the benefits from the restructuring? They were a small group of financial investors and top executives whose compensation was tied significantly to stock options and stock awards. This was because the US restructuring was primarily led by the stock market and its focus lay in "maximising shareholder value". In the process, the welfare of workers and long-term sustainability of corporations were often sacrificed. This "unholy alliance" between financial investors and top executives is evident if one examines how US corporations actually distributed their profits and cash piles.
For the decade from 2006 to last year, US corporations' total net equity issues - that is, new share issues less shares taken off the market through buybacks and merger-and-acquisition deals - was minus US$4.16 trillion (S$5.94 trillion). The US stock market became a huge money sucker from US corporations, although the tendency of net outflow has existed on a smaller scale as in other stock markets of advanced countries.
Research by William Lazonick of the University of Massachusetts Lowell and his research team at the Academic-Industry Research Network shows that for the decade from 2006 to last year, the 459 companies comprising the S&P 500 expended US$3.9 trillion on stock buybacks, representing 53.6 per cent of net income of US$7.28 trillion. The US$3.9 trillion is an enormous amount of money that could have been utilised for job creation and long-term investment for corporations. But US shareholders and top executives drew down the money only to purchase stocks and get rid of them in the name of "maximising shareholder value".
Another 36.7 per cent of net income, US$2.67 trillion, was spent on dividends during the period. US corporations had already maintained higher dividend payout ratios than their counterparts in Western Europe or Asia. But the payout ratio increased even more during the process of restructuring after the 1990s. Much of the remaining 9.7 per cent of net profits, US$705.7 billion, was held abroad, sheltered from US taxes.
While pressing for restructuring, financial investors argued that US corporations held on to too much "free cash flow" that should be "disgorged" to shareholders as buybacks and dividends. However, what the corporations actually gave away was much more than free cash flow. Many of America's largest corporations routinely distributed more than 100 per cent of net income to shareholders. They then generated the extra money by further restructuring their workforces, selling off businesses or taking on more debt.
Legally, shareholders are residual claimants who are supposed to get part of profits after expensing wages, business costs, taxes and so on. However, they have made their claims the first priority and have instead made wages and other business costs residual. What they have engaged in was no more than predatory value extraction.
SHAREHOLDER DICTATORSHIP
There are several factors that made financial investors such strong value extractors. One of them is the ever-strengthening trend of fund capitalism.
Shareholding by institutional investors in the US passed the 20 per cent mark in 1970 and has continued increasing to reach about 70 per cent now. Institutional investors, as a group, are absolutely the largest shareholders of US corporations and the US is now better described as "investor America" than "corporate America".
Moreover, the shareholding is extremely concentrated in a small number of investors. The top five institutional investors held 31 per cent of US stocks and the top 10 held 42 per cent of US stocks in the middle of this year. BlackRock, the largest institutional investor with US$4.7 trillion of assets under management, for instance, is the single largest shareholder in one of every five US companies and had 5 per cent or higher shareholding in 2,610 companies.
The power of institutional investors to extract value has increased lopsidedly because US financial regulations were substantially revised in the 1980s and the early 1990s towards strengthening their power. US regulators were heavily influenced by the rhetoric of institutional activism and, ignoring the reality of the rapidly growing power of institutional investors, treated them as weak "minority shareholders" who should be allowed to act together to challenge "autocratic corporate management".
Currently, activist hedge funds are an investor group that exploits this gap between financial regulations and the actual power most effectively for their own profit. Buying a small fraction of outstanding corporate shares, they criticise incumbent management and request restructuring and cash disbursement to shareholders. More often than not, other institutional investors and proxy advisory firms support their claims. "Wolf pact attacks" and "co-investments" have rapidly become a convention in the US stock market. It is worthwhile to note the fact that the acceleration of predatory value extraction from US corporations coincided with the rise of hedge-fund activism in the middle of the 2000s.
The US economy is now run by "shareholder dictatorship", not by "shareholder democracy". Even among shareholders, only a few took the lion's share of the benefit of the extraction. The US middle class has been disappearing in the process and the "1 per cent versus 99 per cent" frame has been solidified. The presidential election was then determined by which candidate was in a better position to exploit this dismal state of the disappearing middle class.
TRUMP TO THE RESCUE?
There is so far no reason to believe that Mr Trump has the leadership qualities to correct the current situation. He was born into a wealthy family that make up the top 1 per cent. He has engaged in large-scale tax avoidance, broken contracts, and shifted losses on to other participants in his businesses to maintain his luxurious and flamboyant lifestyle. He also remarked last year that he would appoint his friend, Mr Carl Icahn, a leading corporate raider and hedge-fund activist, as Treasury Secretary, if elected president.
Mr Trump's right-wing tendency to attribute America's problems to outsiders, such as immigrants and trading partners, can be seen as a reflection of his limited ability to solve the problem of predatory value extraction within the US. However, many angry Americans cheered his political rhetoric of "making America great again". It remains to be seen whether Mr Trump, now the President-elect, is willing to close the gap between his rhetoric and the reality of the American economy.
- The author is an economics professor at the National University of Singapore and former advisor to Korea's finance minister.
