Corporations have broken capitalism. Here's how to fix it.

By Hunter Hastings

Customers come before shareholders

Rewarding a narrow group of shareholders with dividends and stock buybacks.

Why are young Americans so skeptical about capitalism? In a recent (2022) Pew Research poll, only 40% of 18-to-29 year-olds expressed a positive attitude towards capitalism, and a greater number were positive towards socialism.

This doesn't make any sense on rational grounds. Capitalism is the economic system that has raised levels of well-being for billions of people across the globe over hundreds of years, in contrast to all the other systems that have been tried. From life expectancy to access to education to air and water cleanliness, as well as income levels, the world is getting better as a result of capitalism.

The skepticism is not just irrational, it's dangerous. Capitalism is at the core of Western civilization and its values. It's fundamental to our legal, political and social structures, and loss of faith in capitalism can portend a significant social erosion.

What went wrong? How did capitalism get such a bad name?

Upon deeper analysis of the criticisms of capitalism, we can trace them back to the behavior of one of the prime protagonists of the system: corporations. Perceived income and wealth inequalities can be traced back to the way corporations pay wages and salaries, while rewarding a narrow group of shareholders with dividends and stock buybacks.

Managers make themselves part of the disproportionate rewards system with stock grants and awards, perceived as becoming part of the insider trading cartel. Profit maximization can be perceived as exploitation of labor. Environmental degradation stems from corporations' uses of resources and production of waste.

None of this is inherently bad. The use of natural resources to create capital and jobs, pay wages and salaries, while drawing on debt and equity financing to invest today in tomorrow's innovations are at the heart of the capitalist system. Profit is the signal from the marketplace that corporations are using society's resources well.

Corporate management are perceived as having turned away from customers.

But the deeper problem is that corporate management are perceived as having turned away from customers. The primary purpose of corporations, when they were introduced as a great capitalist innovation in the 19th century, was to create value for customers and to engage the creative human capital of the workforce in doing so. They ushered in the era of customer capitalism. Households received the gifts of extended hours of family time as a result of affordable illumination, and greater productivity and less drudgery as a result of new machines. Health, safety, and nutrition were all improved, along with transportation and education. Producers were able to equip factories with better production methods, increasing output and lowering prices for their end-users.

But over time, customer capitalism morphed into corporate capitalism, marked by a shift from the outward, customer focused perspective of the entrepreneur-owners of the early corporations to the internalized orientation of the modern management bureaucracies.

There were two major components within this trend. First was the shift to management-as-control, where creativity in value creation for customers - an exploratory, uncertain activity --was made subservient to efficiency, setting and making planning goals, and "no surprises". The second shift was to the primacy of the financial sector, resulting in the pursuit of short-term quarterly earnings targets, and the use of free cash flow for stock buybacks and dividends rather than investment in R&D and future but uncertain innovation.

By giving themselves stock awards and stock options, management became self-dealing.

By giving themselves stock awards and stock options, management became self-dealing. Economics professor William Lazonick has documented the number of instances of the leading Fortune 500 companies spending more than 100% of their net income on stock buybacks and dividends, i.e. rewarding management and shareholders at the expense of investment in R&D and future innovation for customers.

We can easily observe examples of the shift from external to internal orientation and the damage it does to capitalism. For example, it was revealed in 2017 that Wells Fargo (WFC) had created 3.5 million fake accounts in customers' names without their permission. This was a result of internal managerial pressure for cross-selling and the pursuit of employee bonuses at the expense of the customer. More recently, Alphabet's (GOOGL) disastrous launch of Google Gemini AI - which lost the trust of users by inappropriately displaying Black-complected images of iconically white historical figures like George Washington - was attributed to the power of the internal DEI team and its rules over the engineers seeking to serve customers by providing the most useful response to their queries. The business models of Big Pharma companies emphasize the search for blockbuster drugs (i.e., those that can generate revenues of over $1 billion annually) over accessibility and affordability for patients.

There is some hope that this pattern can be superseded. Some new digital-age leaders, for example, Amazon.com (AMZN), have a business model that connects directly to customers, giving a greater incentive for customer value creation and a real-time feedback flow of information to make them more informed and responsive. These corporations have explored new, flatter structures, adopting the network model over hierarchy, and they are enthusiastically investing in new capital in the form of server farms and data centers and large language models that promise new value creation in the future. The capital is substantial but not fixed like the steel plants and paper mills of the 20th century. We can expect a lot more flexibility and adaptation.

Will digital-age progress convince 18-29 year olds to love capitalism again? There's a good chance of it, although it's not assured. The digital giants have not got rid of all bureaucracy, and the part that remains, especially in HR, retains all the strangling control instincts of the old ones, especially in DEI, ESG and similar areas. A related problem is the entanglement with government, in areas like surveillance technology, censorship and cybersecurity. And there is still plenty of perceived self-dealing in the form of wealth and power concentration.

Nevertheless, there is the potential for the return of the purpose-driven entrepreneurial mindset: serve customers well, with an engaged and well-rewarded workforce, and reap the rewards of the marketplace as a consequence rather than maximizing profit as a reason for being. The 18-to-29 year-olds can embrace that.

Hunter Hastings is a corporate strategy adviser and co-author of "Aberrant Capitalism; The Decay and Revival of Customer Capitalism" (Cambridge University Press, 2024).

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-Hunter Hastings

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04-15-24 1730ET

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