Panvesting is not just about the next year, so you will not hear any 2020 predictions in this last Arcus for 2019. Instead, panvesting is about the next decade, if not longer. Today, I hope to share with you how 240 years of economic theory and practice based on Adam Smith’s invisible hand is going to be replaced in the next decade. While others see a possible tragedy of the horizons for all to suffer, we see an opportunity.
Adam Smith is often accused of being the original evil designer of the capitalist system that is now being questioned. His Wealth of Nations (1776) with its theory of an invisible hand which operates the market and efficiently allocates capital to deliver the highest possible wealth for nations has survived 240 years. This invisible hand, whether or not guilty of bringing out the worst of capitalism is finally being removed. That, which has motivated neo-classical economists (like Milton Friedman) and neo-liberal policy makers for almost two and half centuries is being replaced. Who will cut off Adam Smith’s invisible hand? What is coming in its place? Let me start with the potential amputators… in no particular order:
In his 1776 book, The Wealth of Nations, Smith apparently mentions the famous invisible hand only once in the entire 1000 pages as follows:
“By preferring the support of domestic to that of foreign industry, the entrepreneur intends only his own security, and by directing that industry in such a manner as its produce may be of the greatest value, he intends only his own gain, and his is in this, as in many other cases, led by an invisible hand to promote an end which he was no part of. By pursuing his own interest he frequently promotes that of the society more effectually than when he really intends to promote it.” (Smith 1776, 572)
China It seems that the Chinese state learnt from Smith, and took the role of the invisible hand to manage the capital allocation at all levels of the economy whilst taking charge of social interests. In China, the state has become the invisible hand. This may not have been the invisible hand envisaged in the Wealth of Nations, but it was fine while it stayed in China. Since China arrived on the international trade scene with GATT observer status in 1986 and WTO 2001, through economic osmosis, the state being the invisible hand has become a global phenomena. Now, like China, governments around the world are replacing Smith’s invisible hand through, not only, trade but also regulations and taxes. Will the 2020s see the invisible handreplaced by many visible hands, to promote an end which we were no part of? Externalities
“If you're in a system where you must make profit in order to survive. You are compelled to ignore negative externalities, effects on others” Noam Chomsky
Chomsky must have realised how the invisible hand was supposed to deal with these externalities. Joseph Stiglitz, the 2001 Nobel Prize winner, on the other hand (excuse the pun) states that the realities of externalities will undo this claim; that an unfettered market will inadvertently benefit those outside the economic system, including society and the environment. Negative externalities unsurprisingly are external to the economic models of firms and the market, with negative effects on a third-party not directly involved in the activity, such as the health effects of pollution breathed in by a community, unemployment from automation, intergenerational inequities, etc. The current economic system has largely allowed corporates to externalize these effects, leaving the invisible hand through governments, environment and society with the burden and clean up. The 2020s will see increased internalisation of such negative externalities, either through public pressures, litigation and even legislation. Smith’s Invisible hand may become redundant if externalities are internalised for a fairer and sustainable outcome. Mark Carney
“A classic problem in environmental economics is the tragedy of the commons…. Climate change is the Tragedy of the Horizon….In other words, once climate change becomes a defining issue for financial stability, it may already be too late.” Mark Carney, BOE, 2015 Lloyds.
When the Bank of England Governor and Head of the Financial Stability Board in the UK, informed the insurance industry even before the 2015 Paris Agreement that risk and its pricing in business models had to change, the rest of the world should have taken notice. Carney’s comments were not limited to climate change but also referred to social changes. Regulators and supervisors are ahead of the companies it seems, for once. Climate change was identified as one such externality that may be hard (for now) to measure in magnitude and time, thus making it the Tragedy of the Horizons, but could not be ignored for long. The Tragedy he referred to meant that climate change and many other externalities have their impact extend beyond the company and business cycle, the political cycle, and the horizon of technocratic authorities. For many, this makes it someone else’s problem at least until the information around this issue is available. Luckily for the planet, climate change and other environmental metrics are getting quantified and standardised. Similarly, metrics on human and social investments as opportunities for differentiation are also gaining traction and due attention in visionary business models. With more information, environmental, social and human capital issues will no longer remain the tragedy of the horizons, but these will become opportunities for those who are willing to act now, unlike those who stare into the horizon awaiting the tragedy. B Corporation
“So this (cheaper syndicated loans) is basically recognizing the fact the credit rating of Danone is better as a B-Corp than not being a B-Corp…you suddenly understand that it can have a major impact on the risk and return aspects of a business model”
Emmanuel Faber, CEO of Danone
Since the famous Berle-Dodd dialogue of the 1930s, shareholder primacy has infused not only our legal conception around a corporation, but also driven corporates themselves to act only for shareholders as owners of financial capital. All of this is in compliance whilst abetting Adam Smith’s invisible hand and its machinations. Legally, directors of companies have been forced to act only for shareholders, even if other stakeholders’ interests made business sense to address and provide opportunities with future value creation. Again, the tragedy of the horizons. Shareholder primacy as an accomplice of the invisible hand is being threatened by a new breed of companies called, B Corporations. A non-profit, B-Lab grants B-Corporation status, where a “Benefit Corporation” is a legal recognition in 40 US states and a few other countries. Being a B Corporation indicates that the company’s operations include benefits to society and employees, in addition to increasing shareholder value, as part of its goals. Given proposed or passed legislation acknowledging B Corporations, directors now have discretion to sacrifice profits to enlarge aggregate shareholder welfare and value. This discretion to focus on all stakeholders enables the firm to engage in dealings that generate trust, and exchanges that are not conditioned upon discrete transaction advantage. It can be argued that this social understanding that companies are likely to comply with social and moral norms leads to a social reciprocity that is profit maximising for each stakeholder, including shareholders. What will be the role of the invisible hand with shareholder primacy being replaced with stakeholder value creation models like B Corporation. B Corporations are the Panvesting companies of the 2020s and beyond. 2020s and Beyond The optimist in me believes that the coming decade will be remembered for how it saw us avoid the various tragedies of the horizons. In doing so there will be some hard questions needing answers, especially around traditional economic and financial models at a macro level and corporate risk and return frameworks at a micro level. As panvestors we may not have a say in the macro model evolution but we can definitely choose the partners we want to be with through this transition to a more sustainable developmental model. Tragedy of the horizons will be avoided with companies that are innovative and flexible, with a profit purpose which incorporates all forms of capital: Human, Social, Environmental and Financial. Happy Panvesting in the 2020s... Munib Madni, Founding Panvestor