CSR: Does it make economic sense?

Bala RamasamyProfessor of Economics

China Europe International Business SchoolShanghai. P.R. China

The business of business is business

• The businessmen believe that they are defending free enterprise when they declaim that business is not concerned "merely" with profit but also with promoting desirable "social" ends; that business has a "social conscience" and takes seriously its responsibilities for providing employment, eliminating discrimination, avoiding pollution and whatever else may be the catchwords of the contemporary crop of reformers. In fact they are preaching pure and unadulterated socialism. Businessmen who talk this way are unwitting puppets of the intellectual forces that have been undermining the basis of a free society these past decades.

• In a free-enterprise, private-property system, a corporate executive is an employee of the owners of the business. He has direct responsibility to his employers. That responsibility is to conduct the business in accordance with their desires, which generally will be to make as much money as possible while conforming to the basic rules of the society, both those embodied in law and those embodied in ethical custom

• Milton Friedman, The New York Times Magazine, September 13, 1970

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More recently, Karnani (2010)

• “Companies have a responsibility to their shareholders to do well; individual people as citizens have a responsibility to do good”

• “Berkshire Hathaway does well; Warren Buffet does good”,

• “Microsoft does well; Gates does good”• Karnani, A. 2010. Doing well by doing good: The grand illusion, University of Michigan,

Ross School of Business working paper No. 1141.

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CSR: Good or Bad from a welfare perspective

CSR can be effective social policy instrument:• Companies with most acceptable

practices will have more satisfied customers, employees, owners, and will hence ‘thrive’

• Companies have more expertise than individuals and governments to tailor products and services to serve particular aims

• They have a better understanding of trade-offs, technologies and trends in society, and can act in a more rational and realistic way than government

• They can more easily engage in ‘experimentation’ than government and NGOs (entrepreneurship/ innovation)

CSR not socially optimal, firms have a different role:• CSR is not the purpose of firms; they

should optimize their business; any rents should go to individuals who can then decide about the purpose

• Companies may skew societal standards to their own needs (regulatory capture, direct/indirect political influence & CSR used as barrier to entry)

• Companies tend to be socially conservative by nature, will only experiment if there is a clear profit

• They are not democratically elected, it should be up to government to delivery social services and be accountable for this

• Companies are not experienced in evaluating social benefits; they may not choose the best approach

Kolk, A., Multinationals and CSR, Politeia, forthcoming

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What is Corporate Social Responsibility (CSR)?

• EU’s Definition:– “a concept whereby companies integrate social and environmental

concerns in their business operations and in their interaction with their stakeholders on a voluntary basis” as they are increasingly aware that responsible behavior leads to sustainable business success.

• Business for Social Responsibility’s Definition:– “operating a business in a manner that meets or exceeds the ethical, legal,

commercial, and public expectations that society has of business.”

• CSR is about how you earn your money and NOT about how you spend your money (As a social investment)

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The Responsibility Pyramid (Carroll)

Legal Responsibilities

Ethical Responsibilities

Philanthropic Responsibilities

Economic Responsibilities

It is important to perform in a mannerconsistent with expectations of societalmores and ethical norms.

It is important to perform in a mannerconsistent with the philanthropic andcharitable expectations of society.

It is important to perform in a mannerconsistent with maximizing earnings pershare

It is important to perform in a mannerconsistent with expectations of governmentand law.

“make as much money as possible while conforming to the basic rules of the society, both those embodied in law and those embodied in ethical custom” MF

CSR in Developing Countries

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CSR in Developing Countries

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CSR and National Competitive Advantage

• National competitive advantage is based on firm’s competitive advantage (Porter 1980, 1985).

• CSR and positioning strategies (cost reduction and/or differentiation). – CSR embedded in a cost leadership strategy can be used at the national level in ways that lead to

cost reductions, and thus directly affect national productivity. – Eg. more efficient and effective utilization of resources, such as raw materials and energy, or even

more productive use of labor can lead to cost reductions.– CSR practices that promote open communications with stakeholders and transparency which can

lead to greater trust in business and increase social capital; hence facilitate the self regulation of industry. Self-regulation significantly reduces the costs of state-enforced.

– CSR embedded in a national differentiation strategy can be used to enhance the reputation of the country, boost exports and attract investments. Countries can leverage CSR to promote a responsible reputation, hence engender and improve competitive advantages.

– Nations can employ a niche strategy and focus on increasing their market share in specific market opportunities (e.g.low carbon technologies).

• CSR and entry deterrence strategies. – CSR might be used as a strategic trade policy and create “non-tariff-barriers” to trade. – For example, countries promoting a responsible reputation might raise their businesses’ CSR levels

so high that they act as “non-tariff-barriers” to trade with other countries.

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Why CSR?• Gratitude

– Society provides the company with its resources – human capital, legal systems, infrastructure, health facilities etc. In many cases, the tax they pay does not match the benefits they get from the resources offered to them. As a matter of gratitude, a company needs to share its bounties with the rest of society.

• Citizenship– Even if it pays a considerable amount of corporate tax, it is duty bound to play

its role as a corporate citizen since it is a legal entity within the community. – After all, “business and organizations have a privilege denied to ordinary

mortals … they don’t have to die … this makes them especially responsible.” (Handy)

• Responsibility to power– Companies are larger than individuals, with greater access to the resources

and power that they wield in the community. With power comes responsibility. In this regard, companies act as stewards of world resources, utilizing them in a way that will benefit both this and latter generations.

• Firms report that they are socially responsible because:– Managers think it’s the right thing to do– Managers believe that it enhances financial performance– Stakeholders pressure firms to behave socially

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A more pressing need for CSR:For the survival of Capitalism

• How much confidence do you have in:

• the Government? • Major Companies?

FranceGreat

BritainUnited States Japan

South Africa Brazil India China

Russian Federation Germany

Yes 39.50% 36.60% 26.60% 41.20% 67.10% 57.50% 51.40% 56.10% 35.60% 26.70%No 60.50% 63.50% 73.40% 58.80% 33.00% 42.50% 48.60% 43.90% 64.40% 73.30%

FranceGreat

BritainUnited States Japan

South Africa Brazil India China

Russian Federation Germany

Yes 29.20% 33.70% 38.20% 31.10% 70.80% 46.20% 54.90% 92.70% 45.30% 23.50%No 70.80% 66.20% 61.80% 69.00% 29.30% 53.70% 45.10% 7.30% 54.80% 76.60%

Trust in Government

Trust in Major Companies

• How much confidence do you have in:

• the Government? • Major Companies?

The Great Recession and the surge in public antagonism have exacerbated the friction between business and society.Governments feel compelled to reach ever deeper inside businesses to exert control and prevent another crisis.

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For Capitalism to survive:

• Dominick Barton, MD McKinsey, HBR March 2011• Business and finance must jettison their short term

orientation and revamp incentives and structures in order to focus their organizations on the long term.

• Managers must infuse their organizations with the perspective that serving the interests of all stakeholders(employees, suppliers, customers, creditors, communities, the planet) is not at odds with the goal of maximizing corporate value.

• Public companies must cure the ills stemming from dispersed and disengaged ownership by bolstering board’s ability to govern like owners.

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RisksCustomer de-selectionPreemptive regulationLoss of market shareReputation damage

Fines, penalties

OpportunitiesEnhanced reputation

Product differentiationMotivated employees

Reduced costsEntry into new markets

Shareholder Value

Stakeholder Value

Unsustainable(Value Transfer)

SustainableValue

Unsustainable(Lose/Lose)

Unsustainable(Value Transfer)

Managing in two dimensions represents a fundamental shift in how managers must think about business performance

ExampleLeaded paint

Toxic additives in toysRace to the bottom activities

(Environment, Worker exploitation)

ExampleGenetically modified products

RisksValue is destroyed for both

shareholders and stakeholdersRisks

Viability of the company is questioned

ExampleAvoiding offshore outsourcing

like Keep Jobs in America Campaign

Unfocused philanthropy

ExampleMengniu and cattle farmers

Reliance and mobile services

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Summary

• The assumptions of Friedman and Karnani are from reality – markets are not completely free, markets do fail, resources are in the hands of a few, governments are incapable to tackling social issues.

• CSR is not merely philanthropy. It is how you go about making your profits.

• In developing countries, legal and ethical responsibilities are lacking.

• Businesses need to earn their license to operate, failing which, more regulations would emerge.

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