In the next series of four articles I plan to explore the idea of “corporate social responsibility” (CSR). In the first one today, I shall discuss the shareholder view of CSR using Milton Friedman’s perspective as my main thesis. In the second article next week, I will explore the stakeholder view of CSR using Peter Drucker’s argument to initiate an alternate set of core ideas. In the third article, I shall take an important long detour to consider economic underdevelopment in the Middle East to highlight what happens to politics and society when the development of the corporation is impeded. In the fourth article, I reconsider the role of CSR in today’s world.

The idea of CSR is to urge corporations to embrace not just the interests of shareholders, but also the interests of multiple stakeholders in the conduct of its activities. These stakeholders often include employees, suppliers, customers, and the local community in which the corporation conducts its business. CSR is a relatively new term although the idea that business has social and moral responsibilities beyond maximizing profit is much older. The term has only gained common currency since the late 1960s and the early 1970s, when the global reach of multinational corporations expanded as international trade and investment flows grew.

Since then public debate over the role of business in society has been most vociferous in respect to the supposed social and environmental costs of economic globalization. Concerns like third world development, poverty, the environment and employment – once the remit of anti-globalization protestors – are now being echoed by large numbers of ordinary citizens worldwide. More recently, a heightened sense of international insecurity has added urgency to the questions surrounding the role of business in society.

Proponents of CSR argue that corporations make more long-term profits by operating with a CSR perspective, while critics maintain that CSR detracts from the economic role of businesses. Others contend that CSR is merely window-dressing, or an attempt to pre-empt the role of governments, the media, and advocacy groups as watchdogs over powerful multinational corporations. The skeptics have noted that CSR has morphed into a multi-billion dollar public relations specialty.

Government Recognizes CSR Influence

Today CSR is a “buzz” word. All sorts of corporate actions, advocacy politics, and public policies are conducted in its name. In October 2010 the Hong Kong government proposed the establishment of a $10 billion Community Care Fund to support the underprivileged in our society – implicit recognition, indeed, of the influence of the CSR idea. Under the plan, the government and the business community will each contribute HK$5 billion to the Fund. It was intended that this would promote a culture of social responsibility and philanthropy within the business community.

In the 18th century the economist and philosopher Adam Smith suggested that the needs and desires of society could best be met by the free interaction of individuals and organizations in the marketplace. By acting in a self-interested manner, individuals would produce and deliver the goods and services that would earn them a profit, but also meet the needs of others. Smith’s insight is notable because it claims that when a corporation maximizes private profit it simultaneously maximizes the value for the customer – who is a stakeholder, not a shareholder.

Around the beginning of the 20th century a backlash against large corporations began to gain momentum in America. Big business was condemned for being too powerful and for practicing antisocial and anticompetitive practices. Laws and regulations were enacted to rein in the large corporations and to protect employees, consumers, and society at large.

In the 1960s and 1970s the civil rights movement, consumerism, environmentalism, and globalization informed society’s expectations of business. New legal mandates were imposed to ensure equal employment opportunities, product safety, worker safety, and environmental protection. Society began to expect business to voluntarily participate in solving societal problems whether they had caused those problems or not. This was based on the view that corporations should go beyond their economic and legal obligations and accept responsibilities related to the betterment of society. Gradually the business world began to respond.

Socialism at Its Core

Against this background Milton Friedman published an article entitled, “The Social Responsibility of Business is to Increase its Profits” in the New York Times Magazine on 13 September 1970. In it he admonished businessmen for their remarkable shortsightedness and muddle headedness in succumbing to pressure to adopt the ideas promoted by CSR. Ideas he considered detrimental to the survival of business in general. He wrote:

“The businessmen believe that they are defending free enterprise when they declaim that business is not concerned ‘merely’ with profit but also with promoting desirable ‘social’ ends; that business has a ‘social conscience’ and takes seriously its responsibilities for providing employment, eliminating discrimination, avoiding pollution and whatever else may be the catchwords of the contemporary crop of reformers. In fact they are – or would be if they or anyone else took them seriously – preaching pure and unadulterated socialism. Businessmen who talk this way are unwitting puppets of the intellectual forces that have been undermining the basis of a free society these past decades.”

For Friedman, “In a free-enterprise, private-property system, a corporate executive is an employee of the owners of the business. He has direct responsibility to his employers. That responsibility is to conduct the business in accordance with their desires…while conforming to the basic rules of the society, both those embodied in law and those embodied in ethical custom (my emphasis).” It is worth noting that Friedman included in the basic rules of society the reference to ethical custom; a condition that critics of his views have often failed to acknowledge. For Friedman, the proper behavior of corporations maximizing profit is to respect the ethical norms and social customs inherent in the communities where they conduct their business.

In both profit and non-profit oriented corporations, the corporate executive is the agent of the individuals who own the corporation. And his primary responsibility is to them. In a for-profit corporation the objective would be to make as much money as possible. In a non-profit oriented corporation there may be a different objective with eleemosynary purposes – for example, a hospital or a school.

Friedman recognizes that as a person, the corporate executive may have many other responsibilities that he acknowledges or assumes voluntarily – to his family, his conscience, his feelings of charity, his church, his city, his country. He may feel impelled by these responsibilities to devote part of his income to causes he regards as worthy, to refuse to work for particular corporations, even to leave his job, for example, to join his church’s ministry. Some of these responsibilities may legitimately be regarded as “social responsibilities.” But in these respects the corporate executive is acting as a principal, not an agent; he is spending his own money or time or energy, not the money of his employers or the time or energy he has contracted to devote to their purposes. If these are “social responsibilities” they are the social responsibilities of individuals, not of the corporation.

Friedman’s View of Social Responsibility

Friedman next asks “What does it mean to say that a corporate executive has a ‘social responsibility’ in his capacity as a businessman?” He writes, “If this statement is not pure rhetoric, it must mean that he is to act in some way that is not in the interest of his employers. For example, that he is to refrain from increasing the price of the product in order to contribute to the social objective of preventing inflation, even though a price increase would be in the best interests of the corporation. Or that he is to make expenditures on reducing pollution beyond the amount that is in the best interests of the corporation or that is required by law in order to contribute to the social objective of improving the environment. Or that, at the expense of corporate profits, he is to hire ‘hardcore’ unemployed instead of better qualified available workmen to contribute to the social objective of reducing poverty.”

Political Principles and Consequences

Friedman concludes, “In each of these cases, the corporate executive would be spending someone else’s money for a general social interest. Insofar as his actions in accord with his ‘social responsibility’ reduce returns to stockholders, he is spending their money. Insofar as his actions raise the price to customers, he is spending the customers’ money. Insofar as his actions lower the wages of some employees, he is spending their money.”

For Friedman this process raises political questions on two levels: principle and consequences. On the level of political principle, the imposition of taxes and the expenditure of tax proceeds are governmental functions. Here the corporate executive, as an agent of shareholders, acts as if he were simultaneously the legislator, executive, and jurist. He is to decide whom to tax by how much and for what purpose, and he is to spend the proceeds – all this guided only by general exhortations to restrain price inflation, improve the environment, fight poverty, and so on, and on.

The whole justification for permitting the corporate executive to be selected by the shareholders is that the executive is an agent serving the interests of his principal. This justification disappears when the corporate executive imposes taxes and spends the proceeds for “social” purposes. He becomes, in effect, a public employee, a civil servant; even though he remains in name an employee of a private enterprise.

On grounds of political principle, it is intolerable that such civil servants – insofar as their actions in the name of social responsibility are real and not just window-dressing – should be selected as they are now. If they are to be civil servants, then they must be selected or elected through a political process. If they are to impose taxes and make expenditures to foster “social” objectives, then political machinery must be set up to make the assessment of taxes and to determine through a political process the objectives to be served. This forms the basis for Friedman’s argument that CSR is wrong. First, it involves the acceptance of relying on political mechanisms, not market mechanisms, as the appropriate way to determine the allocation of scarce resources to alternative uses. Second, the corporate executive is not a properly appointed public employee and therefore not politically accountable.

On the grounds of consequences, it is not evident that the corporate executive can properly discharge his alleged “social responsibilities” He is presumably an expert in running his company. But nothing about his selection makes him an expert on inflation, improving the environment, fighting poverty, and so on. Even if he happens to be an expert on these subjects, how much cost is he justified in imposing on his shareholders, customers and employees for this social purpose? What is his appropriate share and what is the appropriate share of others? These are political questions that he is not empowered to decide upon for the public interest.

And, whether he wants to or not, can he get away with spending his shareholders’, customers’ or employees’ money? Might not the shareholders fire him? His customers and his employees can desert him for other producers and employers less scrupulous in exercising their social responsibilities.

Friedman Quoted Out of Context

Although the exercise of social responsibility by businessmen is a quicker and surer way to solve pressing current problems than the slow course of political processes, such expediency must still be rejected on grounds of political principle. Friedman points out that what this amounts to is the freedom for those who favor the taxes and expenditures in question to now have their own way without resorting to securing the support their fellow citizens through the proper political channels. They now have the easy alterative of approaching businessmen and persuading them to exercise their social responsibilities.

Friedman also points out that the same argument applies when advocates of “social” causes call upon shareholders to demand that corporations exercise “social responsibility”. In most of these cases, what in effect happens is that some shareholders attempt to persuade other shareholders (or customers or employees) to contribute against their will to favored “social” causes. Insofar as they succeed, they are again imposing taxes and spending the proceeds.

Friedman considers the situation of the individual proprietor to be somewhat different. If he acts to reduce the returns of his enterprise in order to exercise his “social responsibility,” he is spending his own money, not someone else’s. If he wishes to squander his earnings on such causes, that is his right.

Friedman’s most well known and often cited passage is his claim that “In a free society…there is one and only one social responsibility of business – to use it resources and engage in activities designed to increase its profits so long as it stays within the rules of the game, which is to say, engages in open and free competition without deception or fraud.” This passage has often been quoted out of context to mean that Friedman only urged businesses to maximize profit and not to be concerned about the interests of other stakeholders.

This is incorrect. Friedman recognizes that taking into account the interests of employees, suppliers, customers, and the local community can well be justified in the long term interest of the shareholder. He writes, “It may well be in the long run interest of a corporation that is a major employer in a local community to devote resources to providing amenities to that community or to improving its government.” Friedman criticism of CSR is not founded on urging corporations to maximize short term profits to the detriment of long term shareholder value.

Even Friedman’s claim that corporations should be concerned with maximizing long term profits is predicated on the presumption that the business is operating in a free society under a free enterprise system. In many developing nations, the multinationals face an environment where the rule of law, a free enterprise system, and representative government are often absent. Institutionalized corruption and rent extraction by public authorities are often the cause of a pre-existing condition of general economic and social malaise; and where deception and fraud often become the name of the game. The effects of globalization can sometimes exacerbate these initial conditions. This worsening effect can be blamed either on the “barbarians at the gate” that precipitated the “fall”, or on a “decline” that had already been impelled by “internal decay”. This is a subject on which Friedman, no doubt, has much to say, but it is not found in the context of his criticism of the CSR idea.

Hypocritical Window-Dressing

Friedman is aware that corporations often present their long-term investments in building stakeholder values as an exercise of “social responsibility”. For him some, if not all, of these actions are nothing more than hypocritical window-dressing. He realizes in the prevailing climate of opinion, with its widespread aversion to “capitalism”, “profits”, the “soulless corporation” and so on, this is one way for a corporation to generate goodwill as a by-product of expenditures that are entirely justified in its own self-interest.

Although Friedman does not blame businessmen for using hypocritical window dressing to justify their actions, and for the nonsense spoken in its name by influential and prestigious businesspeople, he nevertheless believes their attempt to rationalize their actions clearly harms the foundations of a free society. The speeches by businessmen on CSR may gain them kudos in the short run. But it helps to strengthen the already too prevalent view that the pursuit of profits is wicked and immoral and must be curbed and controlled by external forces. Once this view is adopted, the external forces that curb the market will not be social consciences, however highly developed, of the pontificating executives; it will be the iron fist of government bureaucrats.

For Friedman the CSR doctrine, taken seriously, would extend the scope of the political mechanism to every human activity. It does not differ in philosophy from the most explicitly collectivist doctrine. It differs only by professing to believe that collectivist ends can be attained without collectivist means. That is why Friedman called it a “fundamentally subversive doctrine” in a free society.

References

Milton Friedman, Capitalism and Freedom, The University of Chicago Press, 1962

Milton Friedman, “The Social Responsibility of Business is to Increase its Profits”, The New York Times Magazine, 13 September 1970

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