Share buybacks have been soaring in the wake of the 2018 tax cuts, which has pleased many investors. But it has also raised the ire of many influential people who see buybacks as the cause of a number of social ills.
In a Feb. 3 op-ed, Senator Bernie Sanders of Vermont and Senator Charles Schumer of New York announced their intention to introduce legislation that would bar companies from buying back shares unless they meet a number of conditions first.
By declaring war on share buybacks, Sanders and Schumer are making a political ploy, but their justification is suspect and their promised outcome highly dubious. Still, when powerful politicians talk about major changes to capital market regulation, it is worth listening.
An immodest proposal
The Sanders-Schumer proposal was scant on details, but those it did provide were troubling in the extreme:
“Our bill will prohibit a corporation from buying back its own stock unless it invests in workers and communities first, including things like paying all workers at least $15 an hour, providing seven days of paid sick leave, and offering decent pensions and more reliable health benefits. In other words, our legislation would set minimum requirements for corporate investment in workers and the long-term strength of the company as a precondition for a corporation entering into a share buyback plan.”
That seems pretty radical. More concerning at first glance, however, is just how nebulous the proposal is. Sure, the final legislation will set out more exact specifications, but the nebulousness of what would constitute “appropriate” spending would always the subject of political debate. Sanders and Schumer list spending on research and development as acceptable, but what about mergers and acquisitions? These are rules that could have significant impacts on financial markets and the way corporations behave, yet they seem to have little or no regard for such matters. That is very worrying.
Same old tune
Since they were legalized in 1982, the same basic arguments against share buybacks have been in play. Sanders and Schumer fall back on two of the most popular as their principal justifications for their policy proposal:
“First, stock buybacks don’t benefit the vast majority of Americans. That’s because large stockholders tend to be wealthier. Nearly 85 percent of all stocks owned by Americans belong to the wealthiest 10 percent of households. Of course, many corporate executives are compensated through stock-based pay. So when a company buys back its stock, boosting its value, the benefits go overwhelmingly to shareholders and executives, not workers.
Second, when corporations direct resources to buy back shares on this scale, they restrain their capacity to reinvest profits more meaningfully in the company in terms of R&D, equipment, higher wages, paid medical leave, retirement benefits and worker retraining.”
In other words, stock buybacks serve to further the short-term interests of corporate executives and the stock-owning class at the expense of both workers and long-term investment in growth.
Sanders and Schumer also repeat the common refrain that buybacks have contributed to a more avaricious corporate culture that only cares about maximizing shareholder value. They see the $4 trillion spent on share buybacks by S&P 500 companies between 2008 and 2017 as “corporate self-indulgence” and decry the fact that 93% of corporate profits were spent on buybacks (53%) or distributed as dividends (40%). They lay additional blame at the feet of President Donald Trump and the Republican party's Tax Cuts and Jobs Act, which helped spur more than $1 trillion in buybacks during 2018.
Crying wolf
It is undoubtedly true the scale of buybacks has been significant in recent years, but are they really as damaging as Sanders and Schumer say? The evidence suggests otherwise. For one thing, the reinvestment rate by American companies has been moderately stable over the past three decades.
While Sanders and Schumer describe the distribution of 93% of corporate profits during the past decade as somehow divergent from the historical norm, reviewing buybacks and dividends year-by-year shows far greater stability than they suggest.
A faulty premise
Sanders and Schumer are not factually wrong when they point out that reinvestment rates were higher in decades past. However, harkening back to the years following World War II, an era in which the United States had unprecedented global economic sway and a rapidly growing economy, is an extremely disingenuous. The economy is far more mature now and has settled into a slower growth pattern, as is to be expected by anyone with even a cursory understanding of developmental economics.
Furthermore, last year’s spike in buybacks was perfectly natural in light of the windfall companies received from tax reform. But those impacts are likely to be short term, with a return to the usual stability certain to follow. That is especially true in this case, when we recognize that much of the 2018 surge came as a result of the one-off windfall from the law’s foreign tax holiday, which allowed companies to bring home huge amounts of cash parked overseas.
Overall, the senators fail to make any compelling argument in favor of their proposed restrictions.
Next time
It should be clear at this point that Sanders and Schumer present a highly skewed historical perspective in order to serve a particular narrative. What will become clear in our next entry is that the proposal, even if made law, would be totally ineffective in achieving their stated goals.
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