Essay on Workers' Capitalism

The World Turned Upside Down

Things are seldom what they seem,
Skim milk masquerades as cream.

W. S. Gilbert, HMS Pinafore, Act 2 (1878)

The Federal Reserve flow-of-funds accounts show that corporations were the powerful buyers that drove stock prices upwards during the Great Bubble of the 1990s.

Company executives, Wall Street brokers, fund managers, and market experts claimed that stock buybacks were good for investors.

By and large, long-term shareholders – the relatively few that were even aware that stock buybacks were going on – agreed with and supported the idea that companies should repurchase their own shares whenever possible.

Just as buying stocks on margin drove stock prices upwards in the 1920s, equity buybacks fueled the Great Bubble of the 1990s.

The difference, however, was that unlike the Crash of 1929 when margin excesses were identified and quickly corrected, the link between buybacks and the Crash of 2000 went generally unperceived.

Buybacks are deeply imbedded in Wall Street culture.

Buybacks had become so deeply imbedded in Wall Street culture that the practice continued to be praised and defended, rather than condemned.

Long-term investors had been misled by corporate management, stockbrokers, and fund managers, lulled by shallow arguments that buybacks were in their interest and good for the country.

This great misleading was the logical result of the triumph of popular capitalism over half a century and the entrenched hegemony of mutual fund managers and hired-professional corporate executives.

Because stock buybacks had become an integral part of capitalist culture – an endemic sociological phenomenon, rather than a short-term anomaly – to understand capital flows we must exam the roots of this robust movement, the arguments advanced by its proponents, and the reasons why investors quietly accepted the misuse of their funds.

The essays, "The Great Misleading" and "A Simple Fable" deal with the justification of buybacks. In this essay we look into the roots of the movement, going back to the early years of popular capitalism.

The Rise of Popular Capitalism

In 1954, the New York Stock Exchange began a campaign to promote equity ownership with the slogan, 'Own a Share of America.'

This campaign urged the public to buy shares not only for their retirement and for the education of their children, but also as a patriotic duty.

When the New York Stock Exchange launched this campaign, few Americans owned stock.

In 1952, the Brookings Institution estimated that only 4.2% of the population held equity. The New York Stock Exchange’s 1954 survey counted only 7.5 million American shareholders.

By mid-twentieth century, America was becoming less entrepreneurial. Far fewer Americans were in business for themselves in the 1950s than in the 1850s.

There are less and less capitalists in the greatest capitalist nation.

Less than one in twenty households owned shares of public companies. There were less and less capitalists in the greatest of all capitalist nations.

However, the Red Scare of the 1920s and the New Deal had shaken business leaders.

With the outbreak of the Cold War, Wall Street decided that something must be done.

It became fashionable to believe that when workers owned shares of the factories where they toiled, the country would be inoculated against the germ of communism.

It was time to resell capitalism to a people that seemed to have forgotten their free market roots.

The NYSE's Mechanical Dolls

The NYSE stock promotion campaign featured an exhibition just off the visitors’ gallery designed to show the public that Wall Street worked in partnership with Main Street for the good of the nation.

Prominent among the exhibits was an automated display with little mechanical dolls that ran on tracks.

A doll, representing investors, brought money from Main Street through members of the Exchange to Wall Street to buy 'a share in America.'

Invest in Corporate America and build a factory in your community.

The clockwork display then had corporations send the money back to build factories near the investor’s home.

The point was simple: invest in Corporate America and you will not only build a sound future for your family but you will be financing a factory in your community that will give you a job.

Throughout the fifties and sixties, many firms promoted equity mutual funds through door-to-door sales, covering heavy marketing costs with front-load commissions.

Merrill Lynch, the largest retail broker, although it shunned mutual funds for decades, had its own 'shareholder democracy' campaign, seeking to bring 'Wall Street to Main Street.'

Capitalism Ballyhooed

Over two generations, persistent marketing convinced seventy million Americans to buy shares.

The Investment Company Institute and the Securities Industry Association’s 1999 shareholder census showed that half of American households and over seventy-eight million investors owned stock.

By the millennium, equity ownership was common and shareholder democracy resonated in Washington, although most Americans had portfolios worth less than twenty-five thousand dollars with fewer than seven stocks.

For more than a generation, stock prices increased faster than inflation.

Until the first quarter of 2000, the advice of experts had proved correct and investors were happy.

Government economists celebrated extraordinary good times, citing constantly increasing productivity, innovation, and wise investment in an information-driven, global economy.

The typical American investor’s idea of the capital market matched the New York Stock Exchange’s tabletop model of the 1950s.

Most thought that they were sending their savings to Wall Street to help build productive enterprises. However, by the year 2000, the way the market worked was far different from what the public imagined.

The sophistication of the average shareholder fell drastically.

The logical outcome of having the number of investors increase from less than five percent of the population to over fifty percent was that the sophistication of the average shareholder fell drastically.

Tens of millions of people, instead of relying on commonsense, trusted their investment dollars to Wall Street brokers, mutual fund managers, and the hired executives that ran public corporations.

They believed unconditionally in the Common Stock Legend and in Workers’ Capitalism.

The Way We Saw The World

The idea that capital raised by selling stock was necessary for economic progress was considered self-evident in mid-century America.

The 1956 edition of the Financial Handbook (1) opened with the declaration,

'Investment or capital funds are essential to the establishment, maintenance, and expansion of modern industry.'

College textbooks in the 1960s echoed the common wisdom of the critical role of the stock market in capital formation:

"In a free economy, the demands for expansion of privately owned plant capacity and for more working capital cannot be overemphasized. The planners of a controlled economy state, such as Russia, can direct a predetermined portion of national income into investment channels. The non-controlled private enterprise economy must rely on businessmen, motivated by the desire for profit, to accumulate capital and raise the nation’s productive potential (2)".

Even in the 1990s, most people still thought that American progress, innovation, and success were the fruit of money raised by Wall Street and wisely applied to productive ends by an Invisible Hand, guided by the self-interest of corporate leaders.

Truth In Arcane Statistics

Few looked to the Federal Reserve's flow-of-funds accounts to check the workings of the capital market.

One reason for this is that the tables were not that easy to read.

Economists had modified the format over the years, from a simple layout based on social accounting, derived from commercial bookkeeping, to a Keynesian outline that mirrored the national income accounts, decipherable by experts.

Federal Reserve flow-of-funds Table F.213 (Corporate Equities) includes a line for net issues and redemptions of company shares.

When examining this table, it is easy to fail to note the minus sign on stock issues or to miss its significance.

Some might even assume that the data is incorrect, since Wall Street rarely trumpets that issuers are buying back and canceling more shares than are sold through new issues.

Tables Easily Misread

One might easily misread flow of funds tables.

Although corporations still sold new equity throughout the 1980s and 1990s, the volume of share buybacks exceeded new capital raised, resulting in a net outflow of funds from corporations.

The normal flow in the equity accounts had flip-flopped, with capital now going from companies to investors.

Capital Flows Turned Topsy-Turvy

To understand the Great Bubble of the 1990s, it is necessary to examine the flow of equities between issuers and investors, and the role of foreign issuers.

Net Flows of Corporate Equity – U.S. Market – 5-year Periods – $ Billions

U.S. Issuers
Foreign Issuers
Age of Oldest Baby Boomers

The table shows that by the 1980s, American corporate finance had turned topsy-turvy, with companies retiring huge amounts of capital (in red).

In some years, the volume of stock canceled surpassed the Gross Domestic Product of countries like Malaysia, Australia, and Argentina.

If the New York Stock Exchange were to update the tabletop model of the 1950s, it would now need to show the little dolls running backwards, carrying money from factories and business (the users) through Wall Street and back to the public (the source).

It would also have to show money flowing from Hometown America to companies overseas, to build factories to employ citizens of other countries.

Financing Employment Overseas

For many years, the U.S. equity market provided capital both to foreign issuers and to the domestic economy.

By the 1980s, on balance, Wall Street was supplying capital to other countries, rather than to the United States.

By the 1980s, Wall Street, on balance, supplied capital to other countries, rather than to the United States.

Sometime during the late 1970s, companies vigorously began to repurchase their own stock.

Shareholders sold their holdings to issuers and companies withdrew the stock from circulation.

Because buybacks forced up stock prices and made everyone happy, politicians were ready to view equity investment and capital formation as less essential to national progress than in the 1950s.

Few seemed worried about the long-run implications of stock repurchases exceeding new issues.

The World Turned Upside Down

Until the 1980s, annual net new equity issues averaged less than ten billion dollars.

However, in the 1980s and 1990s, there was a violent reversal in net flows, with buybacks running eight to ten times higher than net new issues in prior decades.

American corporations redeemed and retired over one trillion dollars of stock in the 1980s and 1990s.

While this was going on, foreign issuers increased new stock offerings on Wall Street, transferring abroad a net six hundred eighteen billion dollars.

Over the period 1955-1999, American corporations used one trillion dollars of profits to return capital to investors, who reinvested much of this money in foreign corporations.

This was a dramatic change in the natural order. Unlike the surrender of Cornwallis at Yorktown, however, there was no fixed date for the event, no ceremony, and no band playing 'The World Turned Upside Down.'

In fact, the New York Stock Exchange continued to promote the 'Own a Share of America' program into the millennium, as if nothing had changed.

The aging marketing campaign, renamed 'Own Your Share of America,' continued under an NYSE affiliate, the National Association of Investors Corporation.

In December 1997, the Exchange boasted that the market was now global, announcing new listings that month of APT Satellite Holdings Limited (Hong Kong), Brovail Corporation International ( Canada), Altos Hornos de Mexico ( Mexico), Groupe AB (France), Grupo INSA ( Mexico), IPSCO Inc. ( Canada), Banco Santiago ( Chile), Doncaster PLC ( England), and Mavesa SA ( Venezuela).

However, the NYSE did not publicize the massive net redemptions of the stock of domestic companies.

Chairman Greenspan Misreads The Market

In 1996, Chairman Greenspan’s 'irrational exuberance' statement implied that the backward flow of equity funds was not a concern at the highest levels of the Federal Reserve.

The speech caused a stir because of the implication that stocks were being over-priced by speculators – not that there was something fundamentally out of whack in the direction of equity flows in the American capital market.

August 5, 2020


(1) “Financial Handbook”, J.I. Bogen, Editor, Third Edition, Revised, The Ronald Press Company, New York, 1956.

(2) "Investments - Principles, Practices, Analysis", 2nd Edition, South-Western Publishing Company, Cincinnati, Ohio, 1966.

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