Friedman Doctrine

What is the Friedman Doctrine?

The Friedman Doctrine asserts that a corporation's primary responsibility is to maximize shareholder value through profit generation while adhering to legal and ethical boundaries. It argues against corporate social responsibility, emphasizing economic efficiency as the sole objective.

Friedman Doctrine came into existence in 1970. It is also called the Shareholder Theory. American economist Milton Friedman theorized it. He stated, "An entity's greatest responsibility lies in the satisfaction of the shareholders."

The first school of thought is that any business organization has a moral obligation to elevate the society around it in return for the society's resources being used by the organization. Another school of thought is more normative and capitalistic, along the doctrine's lines.

It says that business has no obligation towards its society. Instead, a business's sole focus should be profit maximization to provide larger returns to its shareholders.

According to him, any business organization should only run around its shareholders and for their interests.

Any executive or employee is only a just subordinate to the shareholders. Therefore, it becomes an unsaid norm for everyone working in the organization to work to satisfy the shareholders. If shareholders want profit-maximization, then that is all the business entity should focus on.

According to him, even activities related to Corporate Social Responsibility (CSR) require resources that would otherwise be used for business operations and development. 

Therefore, it becomes a key decision that requires investment but does not promise any direct or monetarily quantifiable return.

According to him, any such decisions should only be handled by the shareholders. If they believe that they want to contribute to the betterment of society, then only the business funds should be used for it. It should not be an obligation or responsibility of the business entity itself.

Friedman Doctrine Influence

Milton Freidman from the 1960s was the flagbearer of the primacy of the shareholder. He was a firm believer in the thought that shareholders or the stockholders are the most important stakeholders of any business. His essays reflected upon his capitalist nature.

"The business of business is business."

He also believed that prioritizing shareholders before anyone is also the concept that formed the basis for American capitalism. Unfortunately, his influence cannot be quantified. 

However, Milton Friedman was an advisor to US President Ronald Reagan and should be an excellent testament to his influence.

Soon after publishing his infamous article, he became the precursor to an era of extreme capitalism in the financial and corporate world. 

The American economy saw hostile takeovers, extortion by corporate raiders, and junk bond financing. Job security for employees in the lower levels of management was also a big issue.

Friedman Doctrine spread like a wild forest fire because it catered to man's ulterior motives rather than focusing on developing and prospering with the society as one unit. As a result, shareholders started considering themselves to be powerful monolithic creatures.

Unfortunately, the theory made its way to the business schools and entered the youth's minds. 

People stopped looking at the larger picture and wanted to focus on actions that provided them returns almost immediately. Milton Friedman became one of the founding fathers of short-termism. The whole finance community latently started following the Friedman Doctrine.

Friedman Doctrine had received its fair share of criticism. Still, its many followers spoke volumes about its effect and influence on people. However, it all changed after the Financial Crisis of 2008.

Application of the Friedman Doctrine 

After World War II and Globalization, most business people understood that working for the betterment of society is essential. 

Some would fulfill their Corporate Social Responsibility (CSR) because they were concerned and sensitive towards the issue their organization was working towards.

Few incorporated such practices only to enjoy the by-products of a better reputation awarded because of such acts. Businesses' involvement in the activities contributing to the development of society had gotten the push it needed in the 1970s.

Still, Friedman's Doctrine managed to enter the minds of the corporations. The government and international associations enforced organizations with or without their will to work for society. They managed to find subtle ways to keep the shareholders at the top of the food chain.

Stock buybacks became a phenomenon that the corporate organization heavily backed. Repurchasing their own on the open market to jack up their stock's share prices is one of the essential extensions of the Friedman Doctrine in real life.

The influence of Milton Freidman until the crisis of 08 was such that there was a 60% decline in the labor share between 1970 and 2008. The shareholders pocketed most of the money earned by an organization, and only the leftover was distributed among the other stakeholders.

Shareholder Theory is working as a poison and is widening the gap between the rich and poor. This can be seen through the inverse relationship between shareholders' payments and the employee's wages. 

The total wages, irrespective of the industries, have only decreased as a percentage share of total assets.

Organizations understand the importance of CSR and consciously take steps to thrive in that direction. However, organizations are clever enough to keep the shareholders on top of other stakeholders cutting corners without making it visible. 

Criticism of the Friedman Doctrine

Friedman Doctrine found its followers. However, harsh and rightful critiques came along with it.

The theory was criticized for various reasons:

1. Individualistic

The Doctrine solely revolves around the shareholders. It neglects all the other stakeholders of any business. It is entirely ignorant of society. 

This practice is deemed wrong because it is considered that every business has a moral and ethical obligation to give back to society. 

The relationship exists as any business without society’s resources and the community that lives in it. No business can ever see the light of the day.

2. Restricted Scope

Milton Friedman based his theory on prioritizing shareholders’ interests. However, by “interests,” he essentially meant money or increased revenues. 

On the other hand, revolutionaries from different sectors have stated how the shareholders’ interest is not just in earning more money.

Some shareholders want to achieve what they have envisioned for their enterprise. Therefore, shareholders’ interests vary from organization to organization and person to person.

3. Negative Side Effects

Milton Friedman once said:

“In a free-enterprise, private-property system, a corporate executive is an employee of the business owners. Accordingly, he has direct responsibility to his employers.

That responsibility is to conduct the business following their desires, which generally will be to make as much money as possible while conforming to their basic rules of the society, both those embodied in law and ethical custom.”

Although Milton Friedman clarified that business should be conducted while abiding by all the rules and laws. Economists believe the Doctrine can still influence people to push the limits and bend laws to achieve the materialistic or greedy goals they have set for themselves.

People can also get so lost on their way to maximizing returns that they could stop respecting other people’s and society’s interests. It increases social evils like racial inequality, economic inequality, climate change, etc.

4. Excessive Pressure on the Management

According to Freidman, a business enterprise’s and its employees’ primary goal should be catering to the interests of the shareholders.

The constant hustle to maximize productivity in business operations can take a toll on top-tier management. Shareholders’ interests in maximized returns can be like a well that never gets filled. The hunt can be endless.

Friedman Doctrine Vs. Social Responsibility

The term Corporate Social Responsibility (CSR) has been practiced for a long time without any definitions. However, the term was coined in 1953 by American Economist Howard Bowen for the first time. Therefore, he is considered the father of CSR.

Corporate Social Responsibility (CSR) stands completely parallel to what Milton Freidman stated in his Doctrine. 

Corporate Social Responsibility implies that organizations have a very apparent moral obligation to give back to society by using their resources and people in the first place. This is opposed to Friedman’s belief that businesses were only profit maximizing. 

Additionally, Friedman’s doctrine only considers the opinions and interests of their stakeholders (business partners). CSR recognizes a wide range of stakeholders that aren’t only profit-related, like social advocates, communities, labor unions, and the environment.  

Another major difference between the two is their opinion on the level of government interventions:

1. Friedman believed that any intervention of the government would drive business to create for the social good, and would hence operate inefficiently.
2. The concept of Corporate Social Responsibility argues that government interventions are beneficial as it’s important to serve the social good, and would ensure that no exploitation occurs. 

In an economic sense:

1. Friedman’s doctrine highly only prioritizes short-run profits over long-run profits.
2. Corporate Social Responsibility however prioritizes the long-run goals. It identifies the crucial importance and implications of issues like global warming, sustainability, and other social issues.

Does Corporate Social Responsibility (CSR) work? 

The surprising realization that has dawned upon people through the years is that even to maximize businesses’ profitability, catering to the interests of society should be the priority. Shareholders can not be the most important stakeholders for all their selfish reasons.

Statistically, the companies that devoted time and money to CSR have been rewarded with monetary benefits by society itself. 77% of consumers will likely choose companies working towards a specific purpose. 

Contributing to a cause that the organization genuinely feels for is essential. 66% of consumers consider the company’s purpose while deciding to purchase that company’s product. 

The social contract of companies even becomes more prominent and apparent at the time of any crisis.

Take the War in Ukraine, for instance. Russia saw a mass exodus of companies, including Apple, Sony, Toyota, and Netflix. By choosing not to extend their service to Russia till the time the war was on, companies made a strong political statement condemning the country’s actions. 

All these companies could easily choose to continue their operations in Russia to maximize their returns. However, they stopped as they realized such issues were bigger than a regular course of business.

It is also a testimony that although business entities are not real human beings, they can have a social conscience. 

In times like these, their actions also influence young minds. Therefore, companies consciously choosing to make decisions that promote a good message in the environment is very important for kids to adopt correct things from the environment. 

Friedman Doctrine and Modern World

It is essential to realize that the Doctrine was formulated 50 years ago, in 1970. The market used to function very differently back then. Therefore, it becomes imperative to test the theory in modern times again.

First, Friedman never said anything about not having any social conscience at all. He just said that it might not be every shareholder’s preference.  Therefore, shareholders interested in sharing their wealth for the betterment of society should do it out of their own pockets.

The following are the factors that led to the re-evaluation of the Friedman Doctrine in the modern world :

1. More needs than money

According to him, any business entity’s role was to work for the shareholders and their monetary interests.

However, shareholders could want more things than just money, so, on that front, the Friedman Doctrine fails to cover other interests of the shareholder.

2. Symbiotic Relationship between Society and Capitalism

His beliefs fuel the fire of a capitalistic business environment. Since then, the constant fast-paced development has put extensive pressure on limited natural resources. 

It has come to a point where capitalism requires companies to be socially responsible. Companies must hold themselves accountable for harming the environment and maximizing their returns. 

3. Survival of the Business

If companies don’t want to do it for others, they will still have to be cautious for themselves and their business to survive. 

For instance, due to climate change, there will come a day when the coastal cities will drown, affecting the transport business drastically. Similarly, the agricultural industry is endangered due to many phenomena that directly or indirectly harm the farmlands.

4. Free Markets

During his time, governments controlled markets. Due to their constant involvement, they took care of other factors. So, companies could only think about maximizing their returns. 

However, there has been an inflow of excess financial resources, and companies have been given greater autonomy. Moreover, the market in today’s world is not accessible as not every company has equal opportunities for various reasons. 

Therefore, prices do not reflect the actual cost. Companies need to be held accountable for the damage caused to the environment during various business operations and somewhat compensate for it rather than just working like outlaws with ultimate autonomy.

The increase in the number of companies under the S&P 500 Index practicing CSR had gone to 86% in 2018 from under 20% in 2011, only goes on to say that companies are putting other stakeholders in an equal position compared to their shareholders for one reason or the other.

Conclusion

Friedman Doctrine might have influenced many people back in the day as it caters to the side of the people that they might not want to show in front of the public and their avarice. However, the business environment has changed drastically due to its dynamic nature. 

However, businesses have realized they have a moral obligation toward society due to all the harm caused to the environment by their business operations. 

Companies have grown to be a lot more enormous and, therefore, affect the people around them in more ways than just rendering the public goods or services. 

Since companies have such a significant social impact, they must be cautious. Therefore, it also becomes fundamental for them to preach what the company stands for. 

Companies affecting the lives of millions cannot be ignorant of the entire planet only to cater to a person or a group of persons called shareholders. 

Moreover, consumers are more educated and prefer companies that take this responsibility seriously. Therefore, companies must have a social conscience and not work just for monetary gains.

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