This post is a follow-up and elaboration upon my earlier post: Risk, Profit, Wealth and the Money Flow Mistake.
In his book, Science and the Modern World, Alfred North Whitehead coins the phrase “fallacy of misplaced concreteness” to identify the instances in which we take an abstraction and treat it as more concrete than the concrete thing upon which it is an abstraction. In science, this is done when atoms are treated as the “real” building blocks of reality and the everyday objects are considered as “mostly space,” therefore, somehow not as “real.” This gives rise to an inherent inconsistency and paradox within science since the “reality” of the atoms can only be determined if the scientist uses the everyday tools that are later considered “unreal” such as pencils, paper, microscopes, and the like; creating the dubious claim that the reality of the atoms is a function of tools that are deemed unreal. This inversion of concreteness has an analog in the world of finance and it concerns the idea of profit. Let me be clear at the outset that I am not arguing against profit or against the legitimacy of making a profit; rather, I am arguing that the role that profit currently plays in finance is a role that assigns to it a position of concreteness to which it is not entitled; therefore, I argue that its proper role be reinstated.
The nature of profit has changed significantly in the modern age from something that allowed someone to “make a living” to something that is more nearly akin to robbery. In current parlance, profit occurs only after all of a company’s financial obligations have been discharged and funding allowance has been made for research and development in order to accommodate the company’s growth. This means that profit only occurs after all compensation has been paid. For a sole proprietorship, this compensation is probably quite modest and flexible since dedicated business owners will forgo their own compensation in order to keep the business “alive.” However, in the realm of “C” corporations and the like, executive compensation is decided by contract and the board of directors. In this case, the “profit” of the company is not connected to regular compensation and only distantly to bonuses. What this means is that what was once considered a “fair” profit, i.e., enough of a markup to allow the owner to pay his or her personal bills and “make a living,” is no longer an adequate measure since the executive “makes a living” based on pre-profit dollars, that is, executive salaries, which are the way executives “make a living,” do not come out of profits but are paid before the amount of profit is calculated; thus, by the “old” measure, not fair. Even if it were argued that the executive is not the one that has to “make a living,” rather, it is the corporation itself that has to survive, the point still remains because “making a living,” when unpacked in terms appropriate to a corporation, simply means that it has the ability to “better its lot” in the corporate world. However, this is done by means of research and development, which, as noted above, is funded before profit is calculated. So, again, when profit is understood in this new modern way it stacks up as grossly unfair when compared to the older standard. Indeed, it is precisely this insight that fuels the rage in the OWS movement.
This might be framed as the question: what is a fair profit? but to so frame it would be a red herring…and not the one that refers to the prospectus, either. It is a red herring precisely because it leads one to adopt a line of argument against a position that is, more or less, irrelevant. The question is not whether the profit is entirely fair or not; the question, rather, the questions, concern the source of the profit and the use to which the profit is put, since it is already taken for granted that the profit is not fair. In this regard, I must lay the blame for any misuse of profits at the feet of the way that companies are legally organized and the source of much of that profit at the feet of the government.
As far as things stand right now, and to the best of my knowledge, businesses may legally organize in only one of two ways, either for profit or not for profit. In either case, the company is legally bound to comply with the strictures of whatever way it has been organized. Thus, if “for profit,” then it is legally bound to make all decisions in the best interests of the shareholders and are legally prevented from spending that money for, say, good social causes such as feeding the poor and the like.
This was made painfully clear to the owners of Ben and Jerry’s Ice Cream after they went public. Since it was in the best interests of the shareholders, the owners were forced to accept a buyout offer from a company that they did not want to accept–a company which did not share their concern for social causes. Accordingly, the company they founded was taken away from them and the social causes that had been the beneficiaries of their generosity suffered. As a result of this case, a movement has begun to allow for a different way to legally organize a business, “for benefit,” so that the “excess” money made by a company can be funneled to the social causes identified within their organizational papers or charter.
Still, this does not address, perhaps, one of the most egregious aspects of profit and that is the source of the “profit” that is provided to a company by taxpayer monies. This comes about because the ability to tax is also the ability to promote or prohibit any particular corporate behavior; for instance, to promote a certain behavior the government gives it a “tax advantage” and to prohibit any particular behavior, the government simply increases taxes on that behavior. As a result, behaviors that are “tax advantaged” are indulged in “for free” by corporations, since they receive a tax benefit for indulging in them. Take, for example, the fact that government wants to encourage certain business practices and, as a result, allows business to “write off” the cost of those practices. In effect, the business is reimbursed for those expenses which means that instead of using the money it earns to pay for those expenses, the same amount, taken from what it earns, can be channeled into other areas of the company, usually executive compensation.
The implications of this include the unavoidable conclusion that what has passed for “earnings” in the corporate world is nothing but the redistribution of tax dollars and not earnings at all. Unless a company can meet all its obligations without tax relief from the government, then it is not profitable; and if it is not profitable, it should close its doors. However, let me draw upon a broader wisdom to add that if it is not making enough money, then it is because it is not giving enough and should reorganize as a “for benefit” company.
I began by citing Whitehead’s phrase “fallacy of misplaced concreteness” as a way of highlighting what I think has gone awry with our understanding of “profit” and now I would like to return to the concept of “misplaced concreteness” to tie everything up. “Business as usual” means that we charge “what the market will bear” for goods and services; or, to put it another way, the cost of production has little, if anything, to do with the amount charged the public. This strategy is usually defended by appealing to “the law of supply and demand,” which states that the price varies with the demand. This might seem perfectly reasonable until we realize that the corporations themselves control supply, thereby, controlling price. The American Medical Association has complete control over how many students are admitted into medical school each year, thus, controlling the “scarcity” of doctors and supporting the hefty fees that can be charged once the students get their degree. In manufacturing, the manufacturer simply stops producing so as to keep supply limited, thus, keeping the price high. In the service arena, the provider pads the costs of labor to be offer justification for price increases. As I mentioned above, I am not arguing against either making a profit or the legitimacy of profiting; I am arguing against the fact that profit, per se, has insinuated itself into a position of concreteness where it does not belong.
This “misplaced concreteness” is illustrated by the fact that every decision in business is made by determining whether the chosen course will “make a profit.” Remember, “profit” only comes after all other financial obligations are met; all the workers and executives are “making a living” and the corporation, itself, has provided for its future growth and development. It is this centrality of profit in the deliberations of corporate strategy that is misplaced concreteness because, as with the paradox in science, it treats profit as more valuable than what produces it. Additionally, it demands that “what the market will bear” is the final arbiter in determining the price paid by the consumer. Although this outlines the common practice, as I mentioned in my previous post, this is self-destructive because it treats the business and consumer as essentially fragments of the economy, such that, the behavior of either one has no affect upon the other.
The real locus of concreteness is the whole economy and not any particular participant or group of participants; thus, each participant has the obligation to evaluate every transaction on the basis of whether it will advance the economy as a whole or not. Each participant can get a general sense of what is needed by evaluating the gap between the most advantaged individual in the society and the least advantaged individual in society; the narrower the gap, the more balanced and healthy the economy because the widening of the gap means that there is a blockage to the flow of capital in the economy, thus, destructive to the economy.
Let me briefly say a word to those who are members of the corporate “elite” in this country: the health of the economy is not about you and how wealthy you are; it’s about how wealthy we all are as a nation; and as long as there is even one person living in poverty, you lose.