Alternative PK microeconomic
foundations
The firm: Objectives and
constraints
Realistic features
• The modern firm operates in oligopolistic industries.
• Oligopolies are dominated by megacorps, i.e., Galbraith's
technostructure, usually of the M-type, with multidivisional
structures.
• Unit costs are NOT U-shaped.
• Cost-plus pricing is a pervasive phenomenon.
• Prices set by firms in the short run are not market-clearing prices,
i.e., prices are not such that they equate demand to supply.
Different approaches to pricing and markets
Post-Keynesian Theory
Neoclassical Theory
Kalecki (1971)
Cost-determined prices
Finished and industrial
goods
Demand-determined prices
Raw materials, agriculture
Means (1936)
Inflexible prices
Flexible prices
Administered prices
Market-clearing prices
Firm-determined prices
Market-determined prices
Long-term strategic prices
Short-term prices
Price maker
Price taker
Price-tag markets
Auction-market prices
Hicks (1974)
Fix-price markets
Flex-price markets
Chandler (1977)
Visible hand of management
Invisible hand of markets
Sraffians
Reproducible goods
Non-reproducible goods
Author
Sawyer (1995)
Okun (1981)
Power through growth
• "The basic goal of those in charge of the firm is to cause
sales revenue to grow as rapidly as possible.... But I do not
agree with Marris that this pattern of behaviour is caused
by the separation of ownership from control. Instead, I
believe it to reflect the fact that (in so far as the two conflict)
the urge for power is stronger than the urge for money. As
a result, growth maximisation is a phenomenon which is to
be observed in (all except the smallest) unincorporated
firms and in closely owned companies as well as in large
quoted companies with widely dispersed ownership" [Wood
1975 p.8].
Kalecki’s principle of increasing risk
• «...The expansion of the firm depends on its accumulation of capital
out of current profits. This will enable the firm to undertake new
investments without encountering the obstacles of the limited capital
markets or `increasing risk'. Not only can saving out of current
profits be directly invested in the business, but this increase in the
firm's capital will make it possible to contract new loans » [Kalecki
1971].
• "Finance raised externally -- whether in the form of loans or of equity
capital -- is complementary to, not a substitute for, retained
earnings'(Kaldor 1978).
Managerial capitalism vs
finance capitalism
• Managerial capitalism is sometimes said to be
over.
• However, there has always been a finance
constraint on firms.
• Managers still rule: they set their salaries and
they defraud small shareholders.
• But profitability is now more likely to be obtained
by pressuring down costs (wage costs) instead
of raising prices.
What is managerial capitalism?
Main authors
•
•
•
•
•
Berle and Means 1933
Galbraith 1967 The Industrial State
Marris 1964
Chandler 1977
(Veblen 1899, 1904) Absentee Ownership
What is managerial capitalism?
• There has arisen a new class, the managers, who are
neither owners nor ordinary workers They are the white
collars : managers, but also engineers,
• They constitute the Technostructure, a going concern
(collective will), (cadrisme)
• They have strong ties with the firm: tradition, working
rules, dividend policy, etc.
• Long-run survival, permanence, long-term objectives
• Large institutional shareholders are passive, and rarely
attempt to modify the behaviour of management
What is financial capitalism ?
•
•
•
•
More hostile take-overs
Target rates of return on equity (ROE), often set at 15%
Share value maximization
Pay schemes to encourage managers to achieve the goals of
high stock market prices and high ROE
• Managers have no loyalty to fellow workers or their clients:
their only loyalty ought to be to the owners – the shareholders.
• Part of the old Technostructure is deprived of its former
participation; core management at headquarters takes over:
high remuneration and even fraud.
• Short-terminism: short-term goals take precedence over longterm goals since many of today’s owners will not be owners in
the future.
The constraints on growth
Profit rate
R

r
i
Finance Frontier
G

Expansion Frontier
1/(1+)
g
Growth rate
The expansion frontier
• The expansion frontier relates the maximum profit rate firms can
hope to reach for each growth rate. These frontiers must be
thought of as constraints operating on firms and their long-term
prospects. It has a bell shape.
• The growth of an institution can carry both positive and negative
effects. When rates of growth are weak, positive effects outweigh
the negative effects. When firms invest a lot, they are better able to
integrate the latest technologies and therefore reduce their costs of
production and increase their profit rate.
• However, with ever faster growth, it becomes more difficult to
familiarize employees with the philosophy and the management
techniques of the firm. This is the Penrose effect (1959).
• Moreover, rapid growth often implies diversifying towards less
familiar lines of products, engaging into important marketing
expenses, or reducing profit margins. All of these are bound to
reduce the maximum attainable profit rate, thus explaining the
downward-sloping part of the expansion frontier.
The finance frontier
• The finance frontier (Marris, 1971; Sylos Labini,
1971) defines the minimum profit rate, r, that a
firm must get in order to grow at g, when the
average interest and dividend rate are equal to i.
• The finance frontier explains the internal and
external financing opportunities of the firm.
Investment can be financed internally (selffinanced) or externally, through debt, by either
borrowing from banks or turning to financial
markets by issuing shares. We assume
borrowed funds are a multiple, ρ, of retained
earnings.
The constraints on growth
I = (P – iK)+ (P – iK)
retained earnings + new loans
Profit rate
R

r
i
1/(1+)
gr
r = i + g /(1+)
Finance Frontier
G

Expansion Frontier
gg
Growth rate
Alternative formulation
•
•
•
•
I + f.I = sf(P + ifF– idD)+ (P + ifF– idD) + x.I
I + f.I - x.I = sf(P + ifF– idD)+ (P + ifF– idD)
(1+ f – x) I/M = (sf + )(P + ifF– idD)/M
(1+ f – x) g = (sf + ){r + (ifF– idD)/M}
• f = proportion of financial investment
• x = proportion of share issues
• M = stock of tangible capital (machines)
Managerial vs finance capitalism
• “Among the manifestations of this lack of
control over management were the pursuit
of market share and growth at the
expense of profitability” (OCDE 1998, in
Stockhammer 2003).
The constraints on growth:
Impact of higher interest rates or dividend rate
Profit rate
R

r
r = i + g /(1+)
Finance Frontier
G

i’
i
Expansion Frontier
1/(1+)
g
Growth rate
The constraints on growth:
Impact of weaker labour unions
Profit rate
R

r

R’
r = i + g /(1+)
Finance Frontier
G


i’
i
Expansion Frontier
1/(1+)
g
g’ Growth rate
What has happened to the new
capitalism? Financialization
• With their excess profits, firms purchase
financial assets, i.e., they purchase the
shares of other firms and they lend to
households
• Excess profits are taken over by
managers, whose income skyrockets
Managerial income has gone up
Consequences of financialization
• Financialization has not given more control to
small shareholders.
• Managers earn more: payment schemes yield
huge bonuses and separation pays.
• New payment schemes have induced managers
to defraud their own companies or to report fake
profits
• In some way, managerial control at the top is
greater than ever.
Financialization and growth
• According to Stockhammer (2003),
financialization has led to a situation of
slower growth, which was only temporarily
hidden by the stock market boom of the
late 1990s that drove fast consumption.
The constraints on growth
Utility function of managers with financialization
Profit rate
R

Finance Frontier


G
r
i
U
Expansion Frontier
1/(1+)
g
Growth rate