Corporate Political Speech, Rent-Seeking, and Political Extortion
Before I sign off, I’d like to thank Danielle et al. for their hospitality. I’m very glad to have had this opportunity to share some of my thoughts, and to get some great feedback. Let me finish up by offering an alternative rationale – grounded in public choice theory – for limited shareholder authority over corporate political spending.
Shareholder regulation of corporate political activity may not only decrease agency costs within the firm, it may improve overall societal welfare. First, diversified shareholders might be able to constrain the costs of rent-seeking behavior that merely redistributes wealth between portfolio firms. Second, all shareholders may want to reduce the possibility of political extortion by removing from management the final say on certain kinds of political expenditures. Allowing shareholders to regulate corporate political activity could limit these social welfare-decreasing activities, and channel corporate resources to more productive uses. I sketch these arguments in more detail below.
The economic theory of regulation posits that there is a market for laws. Private actors, including corporations, compete for legislative and regulatory ‘rents’ created by governmental action. From the perspective of corporations, some of these benefits are unavailable via other means; others are simply more cheaply available through governmental action than in a competitive product market. The unifying theme is that this governmental action involves transferring wealth from one group to another, rather than creating new wealth through voluntary transactions.
Undiversified, purely profit-seeking investors would encourage their firms to rent-seek as long as the net return on lobbying outweighed the opportunity cost of investing those resources in other projects. Managers’ interests (given their substantial firm-specific capital and high-powered incentives to increase profitability) are aligned, in large part. However, if they obtain private benefits from political expenditures they might choose to engage in such activity even if it meant foregoing other, more valuable corporate opportunities. Either way, behavior of this sort reduces overall societal welfare because rent-seeking entails deadweight losses (i.e., pure losses that are not offset by resulting gains).
Diversified investors, who make up a significant majority of the public equities market, would rationally oppose at least some of this rent-seeking. Corporations must incur lobbying expenses in order to obtain rents. If such rents are merely intra-portfolio transfers, the diversified shareholder gains nothing, but suffers a loss in the amount of the lobbying costs. These losses are exacerbated when you consider the fact that both (or multiple) parties to the transfer are likely lobbying at the same time. Thus, both the winners and losers incur lobbying costs, multiplying diversified shareholders’ intra-portfolio losses. If this activity occurs with any frequency, it could constitute a significant drag on the economy generally, and on diversified investors’ returns specifically. Granting shareholders the authority to regulate corporate political activity may mitigate some of these harms.
Additionally, governmental actors are not passive suppliers of rents. To the contrary, they are active participants in the market for laws insofar as they, too, can extract rents from private actors by threatening to impose costs through regulation. In other words, they can engage in reverse rent-seeking, or political extortion. As with rent seeking, there are both transfer and social costs associated with this activity. Firms lose resources that might otherwise have been used to pay dividends, pay employees, or invest in research and development. Moreover, the prospect of future extortion may reduce the expected value of innovation and specific capital investments. Accordingly, at the margins, we might expect less of each, or simply shifting business strategies from potentially more valuable, but vulnerable, investments to less valuable endeavors that are also less likely candidates for regulation.
Public corporations are prime targets for political extortion due to their deep pockets and centralized management. All else being equal, well-organized groups in control of large surpluses are more attractive targets than groups in which the decision-makers that control the surplus are more diffuse. For corporations whose management is fully in control of political activity, the consequence is plain: rent extractors can negotiate directly and quietly with a unitary executive, who then either acts alone or seeks board approval for the payoff transaction.
Delegating some decision-making authority over corporate political activity to shareholders may thus insulate corporations from many of these concerns. Forcing a rent extractor to negotiate with multiple, diffuse parties makes such transactions more costly and uncertain. In this context, shareholders need not take full control over corporate political activity. Ratification rights for transactions over a certain size, or even prophylactic provisions requiring shareholder votes in the event that management is approached by a governmental actor concerning political contributions, might suffice to deter a substantial amount of political extortion.