Seth Wenig/AP Photo
Larry Fink, CEO of BlackRock, which manages $9.1 trillion in assets
This article appears in the August 2023 issue of The American Prospect magazine. Subscribe here.
The Problem of Twelve: When a Few Financial Institutions Control Everything
By John Coates
Columbia Global Reports
Our Lives in Their Portfolios: Why Asset Managers Own the World
By Brett Christophers
Verso
Over the last couple of decades, asset managers have become core to the global financial system, rolling up vast wealth portfolios of perhaps $100 trillion in total. Passive investment firms like BlackRock, Vanguard, and State Street have grown explosively over the last 20 years and account for most of the increase. Then there are actively managed firms like Blackstone, KKR, or The Carlyle Group. There is some overlap, as most passive firms have active divisions.
Two new books—The Problem of Twelve: When a Few Financial Institutions Control Everything, by John Coates, and Our Lives in Their Portfolios: Why Asset Managers Own the World, by Brett Christophers—take a hard look at the world of asset managers. They assemble a convincing case that actively managed firms are socially toxic, but leave aside the most interesting questions about passive ones.
The point of passive investing, of course, is to do nothing with your investment. One typical strategy is to buy a representative sample of a stock exchange like the S&P 500 (hence the name “index fund”) and just sit on it indefinitely. That allows the investor to collect dividends and benefit from appreciation. Index funds’ transparent structure and rock-bottom fees—there’s almost no overhead in buying and holding a whole exchange—have attracted stupendous quantities of capital.
Active investors, by contrast, take direct control of the assets they buy. Both books present convincing arguments that such investments, especially in the form of private equity, tend to be horrible.
Coates’s “problem of twelve” refers to a situation “when a small number of actors acquire the means to exert outsized influence over the politics and economy of a nation.” In private equity’s case, this involves using mostly borrowed money to buy out companies and load them up with debt, forcing subsequent cost-cutting through mass layoffs or quality degradation. The business’s success or failure is immaterial as long as the fund managers extract maximum value. The government is a willing conspirator, granting tax benefits to debt finance and allowing private equity to accept institutional investment without transparency and disclosures that would be mandatory for public companies.
Christophers focuses on asset manager ownership of physical assets like houses, roads, water and gas utilities, and wind and solar farms, because these bear directly on “the question of who owns the homes we live in and the infrastructures we depend upon to go about our daily lives.” Water systems in New Jersey and Montana, a metro line in Korea, and the city of Chicago’s parking meters are among the horror stories of investor control.
Both books are on less firm ground when it comes to passive funds. Coates argues plausibly that index fund firms could exert potentially decisive control over every publicly traded company in the country. Since most shareholders don’t vote, a minority activist investor can have a lot of influence. But there is little evidence of index fund companies actually doing this in a serious way. Coates’s few examples include some pushes from BlackRock toward “environmental, social, and governance” investing, meaning things like green energy, and new expectations for diversity, and gender fairness. Elsewhere, State Street told companies in which it had invested that it expected at least 30 percent of their board members to be women—a flexing of corporate power but not exactly a crisis.
That this is the best evidence Coates could muster suggests that index funds only rarely fuss with their assets, and when they do, it is as much a half-hearted branding exercise as anything else. This is hardly surprising—the whole point of index funds is to scoop up capital income as cheaply as possible. Detailed oversight of such a vast investment pool would be expensive and probably impossible at current staffing levels; BlackRock has only about 19,500 workers to manage $9.1 trillion in assets. If the investment were divided up equally, each employee would oversee a portfolio of about $470 million, in addition to all their current responsibilities.
The fact that a small minority of people control most of the national wealth is its own problem of twelve.
For his part, Christophers largely ignores index funds in favor of his story about infrastructure, which is indeed quite interesting and important. Yet saying this adds up to a novel “asset manager society” is a bit of a stretch. On housing, for instance, KKR might be a bad landlord, but two-thirds of Americans are still homeowners. And while Blackstone and its ilk have come up with new ways to obscure their ownership structure and avoid paying taxes, bloodsucking financiers have been around for centuries. Leveraged buyout operations were doing similar stuff in the 1980s; Jim Fisk and Jay Gould were doing even worse things in the 1860s.
However, index funds are something new. As Coates describes usefully, nothing like BlackRock existed until the 1970s, and the sector only reached its current enormous size in the last decade. I find them both more interesting and more objectionable than either Coates or Christophers does. BlackRock’s CEO Larry Fink might not be a ruthless sociopath like Gould was, but the best-case argument for his business is still a pure example of economic parasitism. BlackRock and Vanguard are excellent investment options for retail investors precisely because they allow someone with money to collect a return without lifting a finger.
CAPITALISM HAS ALWAYS CREATED INEQUALITY. Economist Thomas Piketty has collected data showing that by the late 19th century, belle époque France was more unequal than it had been before the revolution of 1789. A principal reason for this inequality was capital income. Those who own wealth typically collect a return, which they invariably reinvest into even more wealth rather than spending it. Absent countervailing taxes on capital or inheritances, this process snowballs into giant fortunes for a tiny minority, and little or nothing for everyone else.
The same process can be seen today. In the modern United States, capital gains are taxed far less than normal income, if at all—ProPublica reported that in 2011 Jeff Bezos qualified for the Child Tax Credit because he made so little traditional income—and those gains are heavily concentrated at the top. The top 0.01 percent of households make something like three-quarters of their income from capital.
Capitalists originally justified this benefit because they operated their own businesses and took on substantial risk. But index fund investors don’t choose what to invest in, let alone make operational decisions. And as far as risk, it is clear in modern times that should markets run into serious trouble, the government will be there with a bailout, seen most recently with Silicon Valley Bank.
The fact that a small minority of people control most of the national wealth—which has been true for all of American history, even during the height of the New Deal—is its own problem of twelve. The evident fact that a large and growing share of that wealth can be piled up in a giant heap using deliberately brainless tactics without causing much economic disruption suggests that wealth inequality is not only pointless, but also could be ameliorated quite easily. All that is needed is a state-owned index fund, as Matt Bruenig has proposed.
It sounds utopian, but there is a working example of this right here in the United States: the Alaska Permanent Fund, which owns about $76 billion in various assets, and pays out the resulting dividend to every Alaskan resident. This dividend has ranged between about $1,000 and $3,300 in recent years; that payment is the main reason Alaska has the lowest income inequality of any state in the country. An even more aggressive example can be found in Norway, where the government owns about three-quarters of all national wealth, excluding owner-occupied homes.
Neither of these asset management institutions is mentioned in either book. While interesting in their own rights, Coates and Christophers have missed a central aspect of the asset management story.
For the problems he does document, Coates suggests a few “cautious and provisional” reforms, mainly about transparency and disclosure. These ideas are certainly worth trying, but won’t touch wealth inequality. Christophers seems to have no hope that the situation can be ameliorated, painting a grim portrait of a post-pandemic government that is “not a state newly persuaded of the merits of public ownership of critical infrastructures of socioeconomic reproduction.”
This pessimism might be responsible for one serious error. President Biden’s climate bill, the Inflation Reduction Act, “does not tackle the climate crisis by pledging the U.S. government to build, own and operate wind and solar farms,” Christophers writes. This is simply false. The IRA contains a “direct pay” provision that makes public and nonprofit entities, including federally owned institutions like the Tennessee Valley Authority and the Bonneville Power Administration, eligible for green-energy tax credits in the form of grants for the first time. This could grow into the largest investment in public power in decades. (Christophers does acknowledge this, but only in an endnote.) Outside the federal level, New York state recently passed a bill creating a new public power agency to explicitly take advantage of this funding.
At any rate, both authors leave passive income untouched. Yet we don’t have to live in a world where a tiny minority of rich people collect trillions in nearly tax-free capital income while sitting on their backsides. The government can do that on behalf of everyone.
