Just when we thought high-frequency trading couldn’t get any faster, a US communications company is developing a high-speed laser network between the New Jersey data centres of the New York Stock Exchange and the NASDAQ stock exchange, to shave an additional few nanoseconds off high-frequency trading times. When you consider that the average speed of order execution on the New York Stock Exchange has fallen from 20 seconds a decade ago to under one second today, reducing high-frequency trading speed by nanoseconds is yet another example of the frenetic pace and endemic short-termism that pervades today’s financial markets. From 1975 to 2010, the average period for holdings on the Exchange dropped from six years to nearly six months.
As trading frequencies have accelerated, business incentives have also shifted to a shorter-term focus as increasing weight is attached to mark-to-market accounting, quarterly returns, and short-term incentive bonuses. The short-term incentives and competitive pressures in global markets have led companies and business leaders to seek safety in swift returns on investment, with the speed and unpredictability of change making it easier to justify a short-term focus. As Haldane and Davies (2011) argue, there is ample evidence to suggest that a shorter-term focus currently pervades the corporate sector.
The Oxford Martin Commission for Future Generations, convened by the Oxford Martin School at the University of Oxford, brought together a group of international leaders concerned about the gridlock that undermines action on many of today’s global challenges and the increasing short-termism which pervades governments and business cultures. Our report, Now for the Long Term, outlines a number of principles and recommendations to advance the interests of future generations and promote resilient, inclusive, and sustainable growth. One of our key messages is that it is not only governments that need to take the longer-term view. Businesses must also shoulder greater responsibility. It identifies ways to overcome today’s impasse in key economic, climate, trade, security, and other negotiations. Since the release of the report in October 2013, it has been downloaded over 800,000 times.
The effects of short-term performance metrics
As the world recovers from the global financial crisis, the private sector remains the largest source of jobs and provides a key path to growth. It is certainly true that quarterly success can be a pointer to sustainable growth, and no one can deny that some of these short-term metrics help keep staff and shareholders informed regarding performance, and enable adjustments to the ever changing landscape. Yet short-termism in business can also perpetuate instability and risk. In its current form, ‘business as usual’ will leave a damaging legacy. Performance metrics of CEOs based on share prices encourage a focus on short-term stock prices and encourage excessive risk taking, rather than long-term value creation. Meanwhile, rewards are skewed heavily to investors who want to make a quick return, and who have little concern for a company’s long-term prosperity.
An increasing number of companies and commentators are pressing for a shift towards the long term. The Kay Review of UK Equity Markets and Long-Term Decision Making proposed that we “reduce the pressures for short-term decision-making that arise from excessively frequent reporting of financial and investment performance (including quarterly reporting by companies), and from excessive reliance on particular metrics and models for measuring performance, assessing risk and valuing assets.” Dominic Barton, the Managing Director of McKinsey & Company, has been a vocal critic of increasing short-termism within corporations. He, along with Mark Wiseman, President and CEO of Canada Pension Plan Investment Board, have sought to influence the buy-side by encouraging institutional investors and corporate directors to steer capital towards long-term value creation. The Chartered Institute of Management Accountants, meanwhile, has reported an increasing interest in moving away from shareholder value and exploring alternative corporate models.
Focusing on longer-term sustainability
As well as encouraging a focus on long-term rather than short-term value creation, the Oxford Martin Commission contends that the private sector can no longer operate with a mind-set that focuses purely on short-term returns at the expense of longer-term sustainability. It is time to reassess the relationship between shareholder and societal value and rewire business for the long term. Again, the signs are positive; the work of the World Business Council for Sustainable Development is helping to galvanise the global business community towards sustainable ends, whilst The B-Team, founded by Sir Richard Branson and Jochen Zeitz, is among the most recent private sector responses to short-termism, calling on businesses to rank people and planet alongside profit.
At an institutional level, progress is also being made. The UN Global Compact, for example, works with companies to enhance commitment to principles in the areas of human rights, labour, the environment, and anti-corruption. The World Bank has instituted procedures, through a Compliance Advisor/Ombudsman, to provide an independent, ‘bottom-up’ accountability mechanism that, amongst other things, works to ensure compliance with social and environmental safeguards.
Tax and regulatory compliance in a globalised world
Such examples are heartening. But it is our belief that the vast majority of businesses are failing to show leadership and grasp responsibility on the scale required. Some global firms have proved adept at transcending national jurisdictions, particularly in tax. In a globalised commercial world, ensuring compliance requires coordination between countries that often are competing for investment. Several of the Commission’s recommendations address these issues. Our proposal for “innovative, open and reinvigorated institutions” fit for this century includes a call for a Voluntary World Taxation and Regulatory Exchange. This Exchange will raise pressure on companies to disclose their tax planning and transfer pricing arrangements and, through peer pressure, encourage governments to reveal preferential tax rulings.
Collectively, we need to rethink corporate governance so that owners and boards embrace their responsibilities to society at large, as well as to future generations. The Commission calls for companies and financial systems to give greater priority to long-term ‘health’ and look beyond daily or quarterly reporting cycles. This will require smarter regulation, remuneration tied to long-term performance, and voting structures that reward long-term growth. Most of all, we need business leaders prepared to stake their significant ingenuity, imagination, resources, and capital on long-term value creation and sustainability. Their reward will be in the sustainability of the planet and their firms.
Haldane, Andrew G and Richard Davies (2011), “The Short Long”, paper presented at the 29th SUERF Colloquium, Brussels, 11 May.
Kay, John (2012), The Kay Review of UK Equity Markets and Long-Term Decision Making, Department for Business, Innovation and Skills, July.
Oxford Martin Commission for Future Generations (2013), Now for the Long Term: The Report of the Oxford Martin Commission for Future Generations, Oxford Martin School, University of Oxford, October.