Stock markets: dial Kay for capitalism

http://www.guardian.co.uk/commentisfree/2012/jul/23/stock-markets-capitalism

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Can the rhetorical vogue for "responsible capitalism" be made to mean something in practice? In the wake of the financial crisis there are few more important questions for the credibility of an alternative economic vision. The issue haunts the report which the business secretary, Vince Cable, commissioned from Professor John Kay last year. If the answer to that question were to be no, then it is hard to see where the non-socialist progressive project to which Mr Cable and so many other UK politicians are committed now stands. On Monday Mr Kay came up with his findings – in the shape of a 40,000-word review of UK equity markets and their impact on the performance and governance of UK quoted companies. In essence his answer is, yes, responsible capitalism can work, but equity markets will have to change big-time if it is to happen.

Mr Kay thinks the markets suffer from a number of interrelated structural failures. At the heart of them is short-termism, which has meant that executives have succumbed to a groupthink that encourages them to maximise shareholder value through strategies which focus on restructuring and mergers rather than investment and product development. The equity markets are central to this, since they encourage the sale of shares over the stewardship of good companies, and because they are now so thoroughly globalised, thus reducing the connection and engagement between shareholders and executives.

This has spawned and been characterised by a second problem which Mr Kay calls "an explosion of intermediation", in which transactional toll collectors have inserted themselves into the old relationship between investors and executives, taking large personal profits out of the investment in the process. The list of these transactional professionals now includes nominees, fund managers, fund of fund managers, insurance companies, pension fund trustees, retail platforms, independent financial advisers and more. The longer the chain, the weaker the relationship between investor and company executive. The result is lots of transactions but very little in the way of long-term relationships.

What to do about all this? Mr Kay has plenty of good suggestions. They range from stopping the need for companies to report quarterly, and banning short-term, performance-related bonuses, through EU-wide obligations to act prudently in clients' interests and encouraging asset managers to run more focused portfolios and use their power against rogue companies. Mr Cable rightly promises early action, but the real question is whether British business can be given sticks and carrots to change the cultural habits of a lifetime. It is hard to be optimistic. But if it does not happen, responsible capitalism will remain a phrase, not a reality.