In praise of short termism

The often used quote from Keynes (‘in the long run we’re all dead’) is usually invoked to attack the view that if we wait long enough, things will get back to normal (i.e. markets will equilibrate). The problem is, we might be waiting a long time. Action may well be needed to speed things along.But the widespread view is that it’s always best to be planning for the long term. Conventional wisdom says that firms that focus on the short term are misguided. Yet a recent article has received attention because it argues that a short term world view isn’t always so unwise.

According to The Economist, it’s widely believed that firms will enjoy sustained growth if they favour the interests of long-term shareholders over traders who hold shares for briefer periods. Policymakers around the world take this seriously, and there are several plans in Europe and America to advantage those who have held shares in a company for a long time, rather than those who happen to own them at any given moment. Repeated financial-market crises, including the one in 2007-08, have reinforced a view that short-term traders are nothing but trouble.

But, according to the author, long-termism is no guarantee of success. In the 1980s fans of Japan’s economic model argued that it would pull ahead of America because its firms preferred slow consensus-building and could rely on their core shareholders, the banks, to stand by them for the long term. But between 1990 and 2013 the American economy grew by 75% in real terms, whereas Japan’s only managed 24%.

In 1994 two management pundits, praised long-termism in “Built to Last”. The book describes 18 companies whose shares had consistently outperformed stock market indices over decades, in large part because they invested heavily in such things as research and training, and set goals that were also measured in decades, not quarters. But a follow-up study five years later discovered that only eight of them had kept on outperforming the market. Today many of them are struggling for survival.

Long-termism can be an excuse for failing to grasp difficult problems head on (Nokia is used as an example). Some firms like Kodak could see long term problems ahead, but failed to handle them. Short-term demands such as quarterly reporting schedules can force problems out in the open, the quicker to get them fixed. Tesco’s accounting fiasco might still be hidden if the British grocer did not have to update investors on its performance every few months. More important, short-termism can allow “creative destruction” to work its magic. According to this ‘Invisible boot’ idea, the United States has been better than other countries at producing world-beating start-ups because it is better at shifting capital quickly to new opportunities.

Perhaps even the recent practice of firms buying their own shares is driven by short term thinking, but it is as a way of benefiting their long-term holders at the expense of those who sell in the short term.

The closing thought is that long-termism works well in stable industries that reward incremental, step-by-step innovation. But it is a recipe for failure in such businesses as social media, where firms are constantly forced to abandon their plans and “pivot” to a new strategy, in markets that can change in the blink of an eye.

Interesting viewpoints. The economy clearly does have a problem determining the right level of long term business investment.