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Enhancing stakeholder happiness: A new corporate objective for a new era?

In modern American market capitalism, the shareholder is king. Take care of shareholders, conventional wisdom assures us, and society at large will benefit.

That used to be true, argues Thomas Jones, the Boeing Company Endowed Professor in Business Management at the University of Washington Foster School of Business. In the days when Adam Smith was envisioning the “invisible hand” of capitalism, self-interest was credibly linked to society’s interest.

But our economy has evolved enormously. And Jones believes that the modern corporation’s singular focus on profit maximization no longer serves the best interests of the society in which it operates.

“The modern economy is light years away from the way things were in the 18th century,” he says. “We need to think about tweaking the system we’ve got.”

In a pair of papers recently published in Business Ethics Quarterly, Jones and co-author (and Foster grad) Will Felps of the University of New South Wales demonstrate the utilitarian shortcomings of the modern corporate objective and offer a viable alternative: shifting the focus from maximizing the wealth of shareholders to enhancing the happiness of stakeholders—shareholders, yes, but also employees, customers, suppliers and communities.

Outdated doctrine

“Greed… is good,” declared the fictional Gordon Gekko in the 1987 movie “Wall Street.” Written as a provocation, the statement nevertheless describes the driving force behind American market capitalism.

It’s also a variation on a theme first introduced by Adam Smith. Thinkers at least as far back as the iconic Scottish economist have considered advancing social welfare—the overall standard of living—to be the primary function of the economic system.

In 1776, when Smith published “The Wealth of Nations,” our fledgling nation needed his archetypal butcher, baker and brewer to pursue their own interests in order to promote the economic interests of society most effectively—albeit unintentionally.

Jones believes this notion was initially useful. The profit motive was essential to creating not only incentives for the production of goods and services but also, more broadly, efficient markets for the exchange of capital, goods and services.

But the scarcity and simplicity of early market capitalism have given way to a far more complicated economy. Corporations now perform the functions that were once the métier of merchants operating through straightforward market exchanges.

Yet in an American economy that bears little resemblance to the economy of Smith’s days, his notion of virtuous self-interest has become corporate dogma, rarely called into question by contemporary managers or even scholars.

Situation: critical

Jones believes that it should be questioned.

For much of the rise of the American economy, self-interested capitalism was instrumental in achieving an advanced standard of living enjoyed by much of the population. But he notes that the trajectory has changed in recent decades. “This rising tide is no longer lifting all ships,” he says.

In “Shareholder Wealth Maximization and Social Welfare: A Utilitarian Critique,” Jones and Felps outline a litany of ways that the singular quest for profit has failed the American economy of late. The most spectacular recent exhibit is the subprime mortgage debacle that led to a global financial crisis, a classic case of Wall Street greed resulting in Main Street need.

But the more insidious effect of corporate self-interest, Jones says, is in the growing chasm between rich and poor over the past 30 years in America, and the well-documented shrinking of the middle class.

“People will argue, ‘But the system is working.’ And it is working well enough for many of us—and fabulously well for those at the top,” he says. “But companies can’t keep laying off employees, shaving pay and benefits, squeezing suppliers, and cutting back on customer service forever. It saves money and increases profits in the short term, but over the long term, this behavior is damaging the social welfare of the nation.”

Why might this be the case? Jones and Felps examine the apparent logic behind the argument that shareholder wealth maximization leads to maximal social welfare, and find it deficient in several ways. First, the competitive markets assumption on which the argument is based is not realistic. Second, self-interested behavior is not always the best way to pursue economic efficiency. Third, efficient markets do not always lead to economic welfare. Fourth, economic welfare and social welfare may not be closely linked.

“The exposure of serious weaknesses in each link of this logical chain leads to the conclusion that there may be a better way to pursue social welfare,” Jones says.

A measure of happiness

If the first paper argues that the system’s broke, the second shows how to fix it.

In “Stakeholder Happiness Enhancement: A Neo-Utilitarian Objective for the Modern Corporation,” Jones and Felps propose that corporations replace the profit motive as the driving force behind economic activity with the direct pursuit of social welfare. This would be executed through a corporate objective they call “stakeholder happiness enhancement.”

Why happiness? Jones says it is a far more accurate indicator of social welfare than economic wealth alone (and, indeed, happiness was widely regarded to be the appropriate measure until the mid-20th century).

“Social welfare ought to be seen in terms of human happiness rather than simply equated to economic welfare,” he charges. “From this perspective, economic welfare is simply the means to the end—human happiness—sought through the economic system.”

Of course, equating social welfare to economic welfare did have the advantage of making economic analysis more tractable. However, thanks to recent advances in the social sciences, we have a far better handle on what leads to happiness, and how to measure it.

Getting specific

Measurement, Jones says, is what makes stakeholder happiness enhancement a viable alternative to business-as-usual.

No corporate objective will ever be as simple to follow as profit maximization. But stakeholder happiness enhancement, he argues, presents a specific, single-valued objective to managers—a significant improvement over existing efforts to retrofit corporate incentives to a modern economy based on utilitarian principles.

The new understanding of what makes people happy or unhappy in different degrees enables a kind of simple equation to guide corporate decision making.

For example, say a company considers laying off 1,000 employees in order to boost profits. The result would be a small increase in the firm’s stock price, making principal shareholders and senior executives a little wealthier. This would translate to a modest bump in their happiness.

On the other side of the ledger, however, is a different story. The 1,000 newly unemployed would be terribly unhappy. Their malaise would extend to families and friends. Their communities would take a residual financial hit. Even the firm’s employees fortunate enough to have kept their jobs would have to work harder and experience less security than before.

The sum is a major hit of unhappiness.

The aggregate of happiness lost can be balanced against happiness gained for any prospective business decision. And this information provides a straightforward guide for the utilitarian manager to act in ways that best serve the welfare of the company’s entire social system.

Jones notes that the interests of various stakeholders serve as checks-and-balances for each other, creating a corporate governance system ruled by principled trade-offs and, one hopes, a spirit of compromise.

And to those who worry that the pursuit of stakeholder happiness would jeopardize the economic viability of a firm, he points out that failed companies make all of their stakeholders unhappy. Healthy companies are in everyone’s best interest.

Evolution, not revolution

If an economy-wide shift to stakeholder happiness enhancement sounds impractical, Jones harbors no illusions.

He acknowledges that American market capitalism is not going anywhere, nor should it. By harnessing our innate self-interest, capitalism became a powerful and positive force for the creation of widespread wealth for much of the American era.

By adding a degree of balance, fairness and long-term perspective, Jones charges, capitalism will, once again, be a force for social good in an era when wealth and welfare are becoming decreasingly widespread.

A paradigm shift in the corporate objective from profits to people? Maybe not. But Jones and Felps hope to spark a substantive discussion. And their papers offer a usable framework to managers who would act in the social interest, to maximize aggregate happiness across the range of stakeholders.

“Our realistic intent is to get a broader conversation going,” Jones says. “Are we going to continue down the current path and become like the game of Monopoly where one player owns Boardwalk and Park Place, and the rest eventually go bankrupt? Or are we going to think about better ways of pursuing welfare for society as a whole?

“We want people to quit thinking that maximizing shareholder wealth is magically making a better world. It’s not. There might be a better way motivate the capitalist system.”