The Profit Paradox | Book review | Ruffer

WELCOME TO RUFFER

All-weather investing

Seeking consistent positive returns.

Come rain or shine.

Ruffer provides investment management services for institutions, pension funds, charities, financial planners and individual investors.

London

Ruffer LLP
80 Victoria Street
London SW1E 5JL

Directions | Map +44 (0)20 7963 8100

Paris

Ruffer S.A.
103 boulevard Haussmann
75008 Paris, France

Directions | Map +33 (0)1 88 45 02 54

New York

Ruffer LLC
300 Park Avenue
New York NY 10022

Directions | Map +1 917 947 3003

Edinburgh

Ruffer LLP
31 Charlotte Square
Edinburgh EH2 4ET

Directions | Map +44 (0)131 202 1602

David Ballance

Investment Director*

13 June 2022

Jan Eeckhout is a research professor; fortunately, he doesn't write like one.

Despite the serious subject matter of The Profit Paradox his style is engaging and conversational, and the book is light on its feet and commendably free of jargon.

The overarching theme is the abuse of market power and the implications for investors and society at large. Eeckhout’s central argument is that the epochal surge in technology, combined with lax controls on industrial behaviour, has fostered a financial system that is pro-business but not pro-market. With merger and acquisition activity virtually unbridled and regulators serving the businesses they regulate more than the interests of the public, some firms – notably the technology behemoths – nowadays act as quasi-monopolies. As a result, their output is lower and their prices higher than economic models would suggest, fewer consumers can afford their products, and wages in general are lower than they would be in an economy with greater competition.

WINNERS ARE FEW

One obvious outcome of this oligopolistic behaviour is the surge in income and wage inequalities in Western economies over the last four decades, as well-documented by Thomas Picketty and others.¹ But Eeckhout highlights several other malign consequences which are less well known. For example, the United States now has fewer startups (businesses less than one year old) than it did 40 years ago, as nascent entrepreneurs have concluded the odds are stacked too heavily against them.²

For Eeckhout, the profit paradox is that success increasingly breeds success for a handful of participants, while the market economy fails to work for the vast majority. “The problem with competitions is that somebody wins them,” as he approvingly quotes from George Orwell. In short, the technology giants hold all the cards, and their high returns go disproportionately to their owners rather than to their employees or society more broadly. He argues that a continuation of these trends would further undermine people’s faith in capitalism as the best, or least bad, economic system.

Success increasingly breeds success for a handful of participants, while the market economy fails to work for the vast majority.

Eeckhout is certainly no anti-capitalist. He devotes a whole chapter called ‘Plenty of Reasons to be Optimistic’ to the many benefits capitalism has brought, lifting millions worldwide out of poverty while widening access to adequate food and housing. And, he contends, no one wants to return to the pre-capitalist world of heavy and often dangerous manual work. In addition, capitalism has reduced inequality between nations (even as inequality has generally risen within countries).

REMEDIES TO HAND

To heal a system which he believes is sowing the seeds of its own destruction, Eeckhout prescribes four main remedies. Firstly, given the control of data is crucial, he recommends making data freely available as a public good. Secondly, he argues for greater interoperability across all platforms and devices, which would reduce businesses’ stranglehold on the value chain. Thirdly, he believes the patent system needs far-reaching reform, as it is too open to abuse and gaming and currently gives incumbents an undeservedly large share of the benefits. Finally, he calls for a major overhaul of the competition framework, so the partners in any proposed merger would have to prove that it would bring positive benefits, rather than simply doing no harm.

His list of remedies has some interesting omissions. For example, he makes no mention of raising taxes, presumably fearing that oligopolies would use their market power to pass them on to customers. Nor does he suggest breaking up the technology giants, preferring instead to press for greater competition.

AN APPETITE FOR CHANGE

This book leaves us with two main questions to ponder. Firstly, what are the chances that any or all of Eeckhout’s proposals will be enacted? Data becoming a public good feels a long shot, but his other proposals have considerable resonance with the zeitgeist. Certainly, it seems plausible that the criteria for judging mergers could be broadened. And the political appetite for a redrawing of the share of profits between capital and labour is growing worldwide. To hear a British Conservative Prime Minister berating industry for not paying its employees sufficiently is just one example of the abandonment of traditional party lines, presaging a change in regime.

Secondly, if these changes are enacted, what will that mean for investors? Many of the accepted norms of the last 40 years are currently coming under greater challenge and scrutiny. As we at Ruffer have written on several occasions, this change in regime is going to make investing much harder.

Your privacy matters

Book review – The Profit Paradox