Where big investors gather, corporate wealth is reallocated away from workers
In the theory of the firm, to oversimplify, an ongoing conflict simmers — or sometimes, it rages — between shareholders and other stakeholders (including workers) over the wealth the firm creates. Increases in productivity aside, a dollar in the pocket of shareholders is one taken from employees or other nonowner stakeholders, and vice versa.
In 2022, a singularly dramatic example of this phenomenon has been playing out, with Elon Musk paying $44 billion, much of it borrowed, to buy Twitter, then promptly firing half of the company’s workers (and later some more of them) in an effort to cut costs and service the debt that allowed him to own the company.
Less noisily, each and every day private equity-owned companies are also cutting expenses, often payroll, to reallocate corporate wealth to pay down debt incurred to buy companies and eventually reward owners. And publicly traded firms likewise slash expenses, including payroll, to fund dividends and stock buybacks that enrich shareholders.
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Reading the financial pages, it might seem that every company has already clamped down on costs and maximized the amount of corporate wealth that can be shifted to owners.
Some, more than others, it turns out.
Concentrated Ownership Hurts Workers
A working paper, which studied publicly traded companies from 1982 to 2015, finds that an increase in concentrated institutional ownership — big, professional investment firms owning major stakes in a company — is accompanied by lower wages and employment, but no improvement in labor productivity. The Federal Reserve’s Antonio Falato, Federal Reserve Bank of Chicago’s Hyunseob Kim and UCLA’s Till M. von Wachter calculate that a 10-percentage point increase in concentrated ownership appears to be associated with a 2.1-to-2.5% reduction in a given firm’s employment and payroll.
As seen below, on the left, the percentage of institutional ownership of publicly traded firms has been rising steadily since 1980. On the right, the ratio of total wage and salary accruals to corporate domestic gross income has declined.
Falato, Kim and von Wachter’s research suggests that concentrated institutional ownership could explain as much as 25% of the long-term decline in labor share.
Over the past 40 years, corporate management has been overhauled to focus, often singularly, on maximizing shareholder returns, downgrading the relative interests of other stakeholders such as employees, communities and suppliers. During the same period, concentrated institutional ownership of public companies has almost tripled, the researchers report; by 2014, concentrated holdings accounted for more than 20% of U.S public companies’ stock.
The researchers looked at shareholders with 5% or more of a company’s shares, the percentage owned by the single largest shareholder and by the top five holders, among other measures of concentration.
Theoretically, it shouldn’t matter if a company has many small owners or a handful of large shareholders, given that publicly traded U.S. firms are charged with the responsibility to maximize shareholder wealth above all else. What’s more, executive compensation is often heavily weighted with stock options and grants, which allies managers with shareholders and provides strong incentives for management to reduce labor and other costs and reward shareholders.
But voting rights and organized agendas give concentrated shareholders power in a company.
Dedicated investors with large, long-term positions and activist investors that may not particularly like the stock but see an opportunity to persuade the company to make policy changes are the concentrated shareholders that are being discussed here. Notably, the decline in wages and employment wasn’t seen when passive concentrated shareholders like index funds increased their holdings in a company.
Where Workers Lose Out the Most
The paper uses data from the U.S. Census Bureau’s Longitudinal Business Database. From this dataset, a subset was taken spanning the period from 1982 to 2015, containing information on employment, payroll, industry, firm size and geography. This data was then enriched with institutional ownership data from Thomson Reuters 13F SEC filings. On the 13F form, investment managers are required to report all holdings of 10,000 or more shares or holdings valued over $200,000. Lastly, Compustat data on firm revenues was added to the mix.
With this data, the researchers examine the impact of increases in concentrated institutional ownership on:
- shareholder returns and
- labor productivity.
In the process of their testing, they checked their results for robustness by controlling for factors such as industry, local market conditions, unionization rates and indicators for forced layoff announcements. Multiple tests run by the researchers suggested that the firms that experience an increase in ownership by professional investors with concentrated holdings had lower employment and wages than firms with less concentrated shareholdings. At the same time, these firms had higher shareholder returns.
The results were even more pronounced in situations where workers had weak power:
- in industries where labor is relatively less unionized and
- where one company largely controls local labor markets.
Falato, Kim and von Wachter’s paper also found a larger magnitude of decline in manufacturing employment and wages compared with other industries. Additionally, their data implied that large firms mainly saw wage cuts while smaller firms saw both wage and employment cuts.
Overall, their research provides evidence that stagnant wages and falling employment in the midst of rising shareholder wealth may in part be caused by concentrated shareholdings.
Till von Wachter
Professor of Economics
About the Research
Falato, A., Kim, H., & von Wachter, T. M. (2022). Shareholder Power and the Decline of Labor. (No. w30203). National Bureau of Economic Research.