Finance

The Origins of the Profit Constraint

Fifty years ago, Milton Friedman published his landmark work The Social Responsibility Of Business Is to Increase Its Profits in The New York Times Magazine. [0] A reaction against the surging support for social justice in 1970, the essay would go on to influence the course of economics and corporate governance for the next half century.

Friedman’s argument is rather simple. In a business, decisions are made by managers employed by the owners of the business. Managers thus have a contract to run the business consistent with the objectives of its owners. In some cases, a business may be established by its owners for social, environmental, or other charitable purposes. For non-charitable businesses, according to Friedman, the owners want the business to make as much money as possible. The power of Friedman’s argument is it gives managers a simple model for decisions: maximize profit.

This optimization model lies at the heart of the modern corporation. It is the pacemaker of shareholder capitalism. New insights from the science of complexity, however, are showing this pacemaker has a flaw.

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