Stock Buybacks Don’t Hinder Investment Spending

June 19, 2018

Critics of the Tax Cuts and Jobs Act (TCJA) have rushed to the conclusion that an uptick in stock buybacks means the law is not working as intended. Their argument: stock buybacks simply line the pockets of shareholders, at the expense of long-term, productivity-enhancing investments that would boost wages and output. This argument is shortsighted and ignores that economic changes don’t happen within a vacuum. Stock buybacks do not preclude extensive long-term investment spending.

Earlier this year, Sen. Tammy Baldwin (D-WI) proposed that Congress pass legislation prohibiting stock buybacks on the open market, charging that stock buybacks are “hurting economic growth and shared prosperity for workers.”

A recent Harvard Business Review article shows that this view is misguided. The authors concluded:

There is little evidence that buybacks and dividends by the S&P 500 are hurting the economy by depriving firms of capital they would otherwise use for investment and paying workers. Far from being starved of resources, S&P 500 companies are at near-peak levels of investment and have huge stockpiles of cash available for even more. Our analysis shows that the proportion of income available for investment that went to shareholders of the 500 over the past 10 years was a modest 41.5%—less than half the amount claimed by critics. One must also recognize that some of the capital flowing to S&P 500 shareholders is then reinvested in smaller public companies and private firms, fueling growth and employment outside the S&P 500.

As the article makes clear, stock buybacks are not at the expense of capital investments, which benefit lower- and middle-income households, but rather as a supplement. The new lower corporate income tax rate freed up cash for many firms, leading some firms to have large cash balances. Firms without sufficient places to invest that maximizes shareholder value and increases a firms’ long-term viabilities would logically offer some of their shareholders the option of a return of their initial investment. 

Shareholders will then most likely redirect their funds to newer firms that have high growth potential: firms that more than proportionately contribute to the nation’s overall capital stock relative to their initial size. Investments in firms like these are what cause accelerated wage growth and output across the economy, which benefit workers and the middle class more than anyone.

The critiques against increasingly large stock buybacks are largely overblown. Most critics look at the initial action, the buyback, and ignore the greater context. Stock buybacks transfer capital from old established firms to new and innovative ones that need capital to meet their potential. Stock buybacks, in the long run, benefit everyone, including the middle class.

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