Should Corporations Be Do-Gooders?

By Megan McArdle

Adam Ozimek -- Blogger at Modeled Behavior and associate at Econsult Corporation

Green products, companies paying workers to volunteer, corporate donations to charitable causes, fair trade coffee: you can't turn on the TV or walk down a grocery aisle without seeing examples of  what economists call "corporate social responsibility." But what should we make of supposedly profit maximizing enterprises who seem to contribute to the public good?  Far too often, those defending or advocating for corporate social responsibility are interested in diminishing the status of capitalism, profit seeking, self-interest, and/or neoclassical economics. But I think one can embrace corporate social responsibility without this baggage.

In his classic essay "The Social Responsibility of Corporations", Milton Friedman took the opposite position and argued that sole responsibility of corporations is to strictly profit maximize, and that their contribution to society arises out of that. And to be sure, the biggest benefit to society that businesses generate does arise from their pursuit of profits. Paul Krugman, famously writing in praise of sweatshops, agreed that the profit motive has done tremendous good for the third world:

"It is the indirect and unintended result of the actions of soulless multinationals and rapacious local entrepreneurs, whose only concern was to take advantage of the profit opportunities offered by cheap labor. It is not an edifying spectacle; but no matter how base the motives of those involved, the result has been to move hundreds of millions of people from abject poverty to something still awful but nonetheless significantly better."
Yet one can both recognize the value of non-profit maximizing corporate social responsibility and accept that profit maximizing is the greatest good businesses provide. Markets, self-interest, profit maximizing behavior... these things are great. But a little bit of explicit corporate contribution to the public good can also be of value on the margin. 

Corporate social responsibility does not need to be held in opposition to capitalism, self interest, or neoclassical economics. After all, the more effective corporations are at providing public goods, the stronger the case for voluntary exchange that is the cornerstone of capitalism. And self-interest and neoclassical economics are not the enemies of altruism that some imagine. Neoclassical economics is completely consistent with rationally self-interested actors who value altruism pursuing it and being willing to pay for it. 

So how do rational, self-interested actors result in corporations as the vehicle for social responsibility? One way is if shareholders and their firms are purely profit motivating, but are satisfying the demands of workers, managers, or consumers. These demand side motivated behaviors are often called "strategic" corporate social responsibility. Gary Becker sees this as the only sustainable form, arguing:

"Companies that combine the profit motive with environmental and other concerns can thrive in a competitive environment only if they are able to attract employees and customers that also value these other corporate goals."

However, another way it can be sustained is if shareholders prefer investing in firms that produce some amount of social good. Shareholders may thus choose to invest in social goods within the firm as an alternative to investing directly through some other organization, like a charity or non-profit. 

Yet despite the possibility that workers or shareholders are respectively sacrificing wages and returns for a socially responsible company, a recent overview of the literature from economists Markus Kitzmueller and Jay Shimshack argue that the empirical evidence has failed to provide any evidence that these sacrifices exist. The supposedly lower wages in the non-profit sector are usually mostly explainable by worker or job characteristics. In fact some studies show wage premiums in the non-profit sector. The overall literature also shows a very small positive correlation between corporate social responsibility and profitability. This leaves open the possibility that some of good behavior of corporations is stakeholders spending rents, meaning profit above the required rate of return. But overall these results do suggest that neither workers nor shareholders are paying for a lot of corporate social responsibility. So then who is?

Kitzmueller and Shimshack argue that a wide swathe of literature -- from marketing surveys to econometric evidence -- shows consumers willingly pay a premium for corporate social responsibility. And this is a pretty commonsense result. Green buildings and environmentally friendly products demand a price premium. Around 1 million consumers choose to pay an average premium of 16% for green energy products. Studies also shows that companies in industries that produce mostly consumer products are more likely to comply with voluntary environmental programs. Thus, the evidence suggests good behavior by corporations is often "strategic," as Gary Becker suggests. However, regardless of which form of motivation for corporate altruism is dominant, one can look around and easily find examples where good behavior is motivated by each kind of stakeholder.  

One objection to corporate social responsibility is to ask why don't shareholders, customers, managers, or workers contribute to public goods and social causes outside the firm? This question always surprises me when it comes from otherwise free market types (among who I count myself). After all, what is the market failure that would lead the voluntary group of individuals that constitute a corporation and it's customers to depart from the optimal allocation here? A principal agent problem, perhaps, where managers are abusing their position in the firm. But is there a market failure in CEO salaries that prevents workers from taking these costs back in the form of lower salary? Are so many corporate boards failing to anticipate that the managers they are hiring will in effect steal from shareholders? For free market types, the best evidence that corporate social responsibility is efficient is that we observe so much of it arising out of voluntary exchange. 

Despite this, I think there are some serious reasons to be skeptical of corporate social responsibility. I will discuss this in a post tomorrow. 

This article available online at:

http://www.theatlantic.com/business/archive/2012/04/should-corporations-be-do-gooders/255788/