11 January 2013

Dwindling Labor Share of Company Output is not a Profit Problem - It's a Power Problem

Liberals are concerned about this chart:

Their problem is, labor is not getting as much of the money generated by US companies. The fear is, capital is getting too much, leading to growing income inequality.

I don't buy it. And I'm what most Americans would consider a liberal (or as they would describe me in the UK,  a moderate). I think that it is wonderful that profits are rising relative to wages. To the extent that this is driving inequality in incomes (and it is) that is not a problem with increased profit. It is a problem with profit-sharing.

In an ideal world, we could hire someone to work for a few months, after which the software or movie or product they created would continue to sell for years, turning a huge profit. In this ideal world of intense (but intensely short duration) work towards the creation of something that would create an on-going profit steam (for a prolonged period), profit would be huge relative to wages.

Profit is a great signal that you are employing resources well. No profit means that you made just enough to pay labor and resources and capital (interest, for instance, on loans). When profit is zero, you are not really adding value to the inputs that were already there. Now by contrast, if you make a lot of profit, you are adding value. You brought together inputs that cost, say, only a million and turned it into profit worth, say, one hundred million. You transformed something that was worth just a little into something worth a lot. You didn't just shift money. You created it.

The problem is not that companies are generating more profit. That's wonderful. The problem is that we still don't have good mechanisms for sharing company profit to the Indians and not just the Chiefs (as in Chief Executive Officer, Chief Financial Officer, Chief Operating Officer ...).

In terms of business evolution, the right thing is happening: companies are becoming continually more effective at creating profits. In terms of the politics of business - how work and wealth is shared - the corporation still more closely resembles a fiefdom than a democracy. Once businesses better determine how to share incentives and power over decision-making and wealth-creation, they'll not only become even more profitable but the distribution of that profit will less dramatically contribute to income inequality. The problem is not profit. The problem is that we've yet to get to the next stage of business evolution to better share that profit.

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