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McDonnell’s profit sharing would put Britain on the path to socialist ruin John McDonnell's recipe for economic disaster

The Economist

On yesterday’s Sunday Politics, John McDonnell explained his party’s policy on profit sharing. He proposed that businesses should be required to share profits with workers either in the form of bonuses or share distributions.

He said he wants to “transform the economy” in a way that “radically challenges the system as it now is”. Indeed, he says the “overthrow of Capitalism” is now his “job”. He said his message to investors is “You’ll get a fair rate of return, but we’re not going to be ripped off anymore — simple as that.”

Rates of return are already (to some extent) restricted across a number of economically important sectors — airports, mobile phones, electricity, gas, water, to name just a few. But the restrictions on pricing in those sectors exist because the firms involved are monopolists (or at least have significant market power).

What about if we applied the principle more widely across the economy, as McDonnell seems to want to, restricting profits and prices in all sectors, so investors can make a “fair rate of return” but no more, instead having either to distribute profits to workers or pay excess profit taxes to the state? What would be the economic effects?

Many firms already pay bonuses to staff if the they make higher-than-expected profits, and other firms offer key staff bonuses in the form of shares. Sometimes firms are bought by their workers, either in the form of management buy-outs or sometimes through purchases by the wider workforce. Other firms are automatically owned by their staff. Some are even owned by their consumers.

In a diverse economy there is nothing wrong with having some staff be part-owners of companies or otherwise sharing in the company’s profits. But problems arise if one mandates that all firms should be run that way or attempts to cap returns at some state-set “fair” level.

Capitalism is, by definition, a system with capitalists that are not the managers of enterprises. That investment capital is provided by those not involved in running firms means that firms can secure investment even when none of those seeking to create and run the business has any money of their own. The essential definitive feature of capitalism is that it is a system of opportunity for those without money to have their projects funded.

To object to capitalism is — by definition — to insist that only those who already have money are permitted to start businesses. If all external investment — i.e. investment by those that do not work in a business — is by the state, we call it “state Capitalism”. If all property is held in common and all investment is by The People in common, then The People already have money.

If we do not forbid external investors from putting money into companies (i.e. if we do not “overthrow Capitalism”) but, instead, merely cap their rates of return to a “fair” level, that will not end all investment. But it will mean that only certain sorts of investment occur. In particular, it means an end to high risk investment, where very high rates of return when a project is successful make up for all the losses in other less successful ventures when projects are not successful.

The two most obvious types of high-risk venture are investment in start-ups and investment in failing businesses. If McDonnell’s scheme of restricting all investor profits to a “fair rate of return” were introduced, the automatic result would be less investment in start-ups and failing firms.

That would have fairly clear implications for the sort of economy the UK would have. Over time, the technologies we created domestically would become more and more obsolete. New technologies and new products would come in gradually, but only from abroad and only later than other countries had them. At the same time, it would become rare for investors to seek to turn around failing firms. They would tend simply to be allowed to go bust.

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