Does America Still Work?

Interview with Stephen Roach, Morgan-Stanley's Chief Economist.

Once a downsizing advocate, now he has his doubts.

photo of Stephen Roach


Q: In many ways the problems in the economy are being laid at the feet of corporate leaders. How much of that is accurate?

Roach: It's hard to say how much of this populist rhetoric is perception versus reality, but it's happening. And my sense is, it will continue to build over the next several months and years. It is deeply rooted in the new economics of the 1990's, economics that are putting significant pressure on workers through the twin forces of layoffs and real wage stagnation.

And it's a pretty pervasive issue that workers have become increasingly conscious of, not just through their own economic issues, but through the rhetoric on the campaign trail and the attention that has occurred in the arena of public opinion.

Q: You call it the "new economics of the 90's." What do you mean by that?

Roach: Well, the new economics of the 90's, as I see it, is all about corporate survival through boosting productivity in an effort to regain and recapture our competitive prowess. The good news is, we've done it. America is back on the top of the global competitive sweepstakes in a fashion that we have not seen in the United States since the 1960's.

But the bad news is really how we've gone about doing it. There's obviously been a lot of inroads made in terms of bringing new technologies into the workplace: outsourcing, reengineering, reinventing corporations. But the plain fact of the matter is, there's also been a lot of pressure brought to bear on the lifestyles and the rewards that have been paid out to American workers. So we've had a rather paradoxical outcome of the new competition of the 1990's.

Shareholders have done really well, but the average worker has not. And I don't think that's sustainable for a long period of time.

Q: In other words, you're saying that at some point this will all trickle down to the workers?

Roach: Well, I think that our system is such that accountability is key. We cannot persist for a long period of time with one small slice of our society reaping all the rewards.

And, I think, the first half of the 90's was about rewarding shareholders. And, I think, the second half of this decade is going to be a clear discussion about how to ship some, but not all of those, rewards back to the average worker.

Q: Are companies going to voluntarily start paying more? Is it going to have to be done by legislation?

Roach: Well, I think the pendulum shifts because corporate leaders have brought to their attention the notion that they may have gone too far down the path of slash and burn cost cutting by squeezing labor. This awareness comes about, not so much because of their own innate brilliance, but again because of the threats of what's going on in the legislative arena in Washington, through legislation that would clearly raise the cost of doing business for corporate America.

And also, again, by being vilified in newspapers, magazines and on television programs.

Q: Do you think any of this legislation is worthwhile? Do you think it can be a healthy effort?

Roach: No, I think that re-regulatory initiatives would be an unmitigated disaster for corporate America, for the financial markets, and for the U.S. workers. That would really be deja vu 1970's. It would be altering the efficiency by which corporate America desperately needs to maintain its competitive edge.

However, it's the threat of those initiatives, and the possibility that we may be on the cusp of seeing some of these laws come to pass, I think, that will bring corporate America to its senses and begin to alter many of the restructuring practices that have caused this type of uproar across the land.

Q: Do you think there was ever a time when corporate leaders did have more of a sense of community, of what is being termed social responsibility? Is that for real or are we just being nostalgic?

Roach: I think that we're being overly nostalgic in sensing that the world has changed. The corporate leaders have gone away from the kind of benevolence of yesteryear and into the heartless, cruel world of the new global village of the 1990's. I think that corporate leaders have always done their best to have a profitable operation, and to maximize returns to shareholders.

The tactics by which they've gone about this have changed from time to time, as have the competitive stakes in the context of which these decisions are being made. There's undoubtedly a case that can be made that would certainly indicate that today's world is far more complex than it was 10 years ago, 20 years ago or 100 years ago.

So the tools that are at the disposal of corporate leaders have certainly altered dramatically and, in many cases, are making life a lot tougher for the American worker.

Q: What kinds of things are you talking about when you say the "tools" ?

Roach: I think that corporate decision-makers right now are bringing new elements to bear on many of the strategic decisions that have an impact on American workers, such as new technologies in the work place, outsourcing, shifting jobs that used to be in-house off to third party vendors.

There's been a lot of re-engineering which really involves a radical rethink of basic processes in both white collar and blue collar functions. These are new strategic tools that have not been in place in decades past. And in many cases, they're long overdue. They're removing the bloat. But they're putting a large class of American workers through an economic angst that they have not had to go through in the past. And this is new, and this is part of the pressure that's being brought to bear on workers who are feeling cut out of this prosperity of the 1990's.

Q: This idea that you have a duty to stockholders. For instance, all the analysts who follow Briggs & Stratton, and they say to me, "Briggs has a fiduciary responsibility first and foremost to the stockholders." Is this a law now?

Roach: The notion that the corporate managers are always seeking to maximize return for every minute of every day to shareholders, I think, is really being distorted. In theory, of course, that's what corporate leadership is all about.

But shareholders are in it for the long haul, not necessarily there to grab each short term tick of earnings performance. And over time, as best I can understand it, if workers are generating returns to shareholders, and are not getting paid for it, then eventually there will come a time when workers will not be delivering the returns that managers want to give to shareholders.

So there has to be an equitable distribution of the contribution of the workforce to both shareholders and rewarding the workers themselves. Otherwise, the entire system of corporate governance is up for grabs.

Q: So, the pressure from Wall Street on corporate leaders, is that newer than it used to be?

Roach: No, I don't think that Wall Street has all of a sudden changed the rules, and they've decided to reward blood, pain and layoffs with tremendous share price appreciation. I think the environment itself has really changed corporate behavior a lot in the past 15 years.

In the early 1980's corporate America had its back against the wall. We had a massive foreign trade deficit, a loss of market share at home and abroad. And companies had to figure out a new way to compete or in many cases they'd go out of business.

They thought long and hard, and what they came up with was largely a recipe that involved slashing labor costs, not surprisingly. Labor accounts for 70 percent of all production expenses in the U.S. And investors, when they figured out that corporations were serious about slashing labor costs, celebrated because this was the opportunity for expanded profit margins. And that is the stuff that makes for long-lasting bull markets.

But, ultimately, that type of strategy can only go for so long. If all you're doing is boosting profit margins by slashing labor, eventually you end up with no one working for you.

Q: A lot of corporate leaders are saying, "All that talk from economists, and mostly the media, is wrong. Wages are going up. Social mobility is great." Is all of that true?

Roach: I don't think so. I think that over the last ten years the numbers speak for themselves. Compensation per hour, which includes straight time wages, benefits, vacation leave, gain sharing, have risen an average of about half a point per year. That's probably one-fourth the pace of worker productivity gains. And far below the sharp increases in share prices and corporate profitability.

Q: What's going on here? Has corporate streamlining gone too far?

Roach: It's quite possible that it has. I think there are perfectly legitimate reasons why corporate America had to struggle for competitive survival a decade ago. Massive foreign trade deficit, loss of marketshare at home and abroad. We had to get our act together.

And corporate leaders went into this deep think and came up with a strategy that there were too many workers on payrolls and the bloat had to be eliminated. And, of course, in many cases those redundancies are legitimate. They had to go.

But, we haven't just had layoffs. Workers who have been victimized through no fault of their own, the survivors have been underpaid relative to the contribution they had been delivering over the past decade. And my sense is that we probably have now gone too far in squeezing labor and labor alone in an effort to boost our competitiveness.

Q: Why are so many CEO's saying it's just not true?

Roach: Well, I think, CEO's want to pretty much deflect the responsibility for squeezing labor to external conditions in the environment. -- whether it's the deregulation, globalization, cheap Third World labor, factors beyond their control that are forcing them to compete.

Q: How does the fact that wages are not going up for most workers affect the economy?

Roach: Wage stagnation means that, in general, consumers feel pretty shaky about their ability to stand on goods and services. And families really have to struggle to make ends meet. It means that if you want to boost your purchasing power, you have to work longer. And you probably have to ask your spouse to join the workforce. So, families are under tremendous pressure.

The net result is that overall purchasing power, real disposable personal income, continues to rise at roughly about a 3 percent annual rate, which is not a bad increase. But, in a stagnant, real-wage environment families have had to stretch a lot to get that type of income growth.

Q: In other words, spouses have had to go to work?

Roach: Spouses have gone to work. And the primary workers, the major breadwinner of the family, has had to extend his or her work day to extraordinary lengths.

Q: Is Wall Street at fault here, the pressure on corporate managers for short-term profits?

Roach: I think it's really a bit of an exaggeration to blame the financial markets. Investors are pretty agnostic as to how earnings are delivered. They don't have a preference for slashing labor or holding real wages constant. They pay just as much for a company if the corporate leaders can figure out new and different ways, say through technology, outsourcing, reengineering to generate earnings.

At the end of the day investors are paying for the discounted present value of an earnings stream, irrespective of how that is attained.

Q: When the economy is strong, stock prices go down. Why is that?

Roach: Wall Street and Main Street can diverge at times when investors have really formed overly optimistic expectations about the investing environment. At the start of this year, for example, investors were convinced that the economy was weak, interest rates were coming down and inflation was dead. Those, in retrospect, were assumptions that were all wrong, and they were far too optimistic.

And, as the economy has shown some signs of coming back and some of our commodity prices have risen, and interest rates have moved up, investors have had to rethink those expectations. And it's that "rethink" that makes markets move very sharply. It doesn't necessarily mean good news is bad news; it just means that we've gotten too hopeful in thinking the good news would continue forever.

Q: So, you don't think Wall Street and Main Street are at odds with each other?

Roach: Look, from time to time Wall Street and Main Street can go down different paths and diverge. At the end of the day, they must end up at the same destination. And, I think, that's what the new economics of the 1990s are all about. The first half of the decade has been glorious for Wall Street. The second half may be a lot better for Main Street.

Q: Is there any way that Wall Street can reward social responsibility, or at least a return to giving workers a fair shake?

Roach: I think at the end of the day, Wall Street and the workers are in it together. Because if corporate leaders figure out competitive strategies that also give workers an equitable reward, then I think the productivity gains that have first been uncovered through restructuring will be sustained, and earnings performance will ultimately end up exceeding investor expectations over the longer haul.

There may be a period, though, a transitional period where if workers get more, earnings will get hit on a short term basis and the markets will respond. That's inevitable. Markets go up and down. It's been a one-way bull market for a long, long time.

Q: So you think corporations should be paying workers more, not necessarily for the workers' benefit, for their own benefit?

Roach: Absolutely. Corporations cannot sustain their long term performance and their market share with disgruntled, disenfranchised, underpaid workers. There is absolutely no way that that is a strategy for long-term competitive success.

Q: What would you advise Secretary Reich to do?

Roach: Look, I think that all public leaders, the Secretary of Labor included, really serve the useful purpose of stirring up the debate. And Labor Secretary Reich, you may not agree with his point of view, but he has raised many key issues that the corporate leaders are now having to come to grips with, as are investment managers and advisors.

The debate is a healthy one. It's long overdue. I think it's very important to raise the flag as to where the stresses and strains of America's competitive strategies are going.



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