The April issue of NENA Journal included an interview with Andrew Leigh, Shadow Assistant Treasurer. Alan Greig, a Board member of Employee Ownership Australia, and Duncan Wallace, NENA Journal Editor, respond below to comments Leigh made on the risks he perceives in expanding employee ownership. To quote:
Andrew Leigh: “[B]eing more open to employee share ownership could be interesting. You want to make sure there that you’re not causing an ‘all the eggs in one basket’ kind of problem. My read of the literature -- and there’s a good series of papers that Richard Freeman did a while back -- is that employee share ownership boosts productivity but it may create excessive risk for employees because you now have your life savings in the same risk basket as your job. So you face the problem that Enron employees had: when Enron went bankrupt and they lost not only their jobs, but also their life savings.”
Andrew Leigh has highlighted an important issue regarding employee ownership. He is right about the evidence favouring employee ownership, and he is also right that we want to avoid an ‘eggs in one basket’ problem.
So what can we do to get the benefits of employee ownership, while guarding against “excessive risk”? Leigh identifies Harvard economist Richard Freeman as the authority in this area. The following is a summary of his latest work, ‘Broad-based employee stock ownership and profit sharing: History, evidence, and policy implications’, published last year and co-authored with Joseph Blasi and Douglas Kruse.
 A reminder of the benefits of employee ownership
As has been highlighted by many, and is the key finding of Thomas Piketty’s work, an important driver of inequality is income from capital. Most people derive income from wages, and while wage differentials have been growing, what creates the steep and growing inequality we see today (though this is by no means new) is the income derived from assets, including property, shares, bonds etc. A good part of this differential, in Australia in particular, is due to unequal ownership of housing stock. A Georgist critique is appropriate for this. But the differential is also due to disparities in corporate ownership (traditionally known as ownership of the means of production) amongst the population. If we are to pursue an economy not subject to self-reinforcing forces of inequality, we must distribute this ownership more appropriately. Employee ownership of the workplace is a good place to start.
What do we lose by pursuing this policy? Certainly, those few people who currently dominate corporate ownership in Australia will lose some of their power, and they will fight a political battle to stop this from occurring. But other than those few who will experience a relative decline in power, the evidence suggests that, both as a society and for us individually, the benefits are impressive.
Firstly, as indicated, inequality would be reduced. Of course, employee ownership would have to be widespread for inequality to be reduced for Australia as a whole, but there is evidence that pay and wealth is already more equal for employees in employee-owned firms than other firms.
Second, business performance and productive efficiency are positively related with employee ownership. There have been lots of studies on this, all consistent with the findings of a field experiment in which several fast food outlets were randomly assigned profit sharing plans and had improved performance and lower employee turnover compared to outlets in the control group. Other studies find employee owners have more company pride and loyalty, greater willingness to work hard and make more suggestions to improve performance. Further, studies in the UK and Australia show public companies with some employee ownership perform better than their non-employee owned counterparts.
Third, employee ownership creates better job security, in the sense of, first, fewer cutbacks in recessionary periods and higher employment growth during growth periods; and, second, higher business survival rates.
All of this also entails positive ‘externalities’ emanate out of employee ownership: consumer purchasing power would increase, with a concomitant higher aggregate demand, helping smooth recessionary periods; government spending on unemployment and retirement benefits would decrease, along with a widening of the tax base, so improving government finances; an increase in social capital would occur, carrying with it better social and health outcomes; and, finally, employee ownership would mean that profits which once went to financial centers would now go to employees, who would be more likely to spend it in their local community, so creating a local community “multiplier effect”.
 When is there “excessive risk”?
Leigh is right that we want to avoid situations where employees have all their eggs in one basket. It is imperative employees have good wages and a diversified savings plan, and that employee ownership shouldn’t come at the expense of either. While there is no clear-cut boundary between employee ownership plans which do come at the expense of either good wages or diversified savings plans, and those that don’t, there is nevertheless an important difference between the two, as highlighted by Freeman et al. The former we can call ‘substitutive’ employee ownership. The latter we can call ‘supplementary’.
‘Substitutive’ employee ownership acts, essentially, as a subsidy from the employee to the employer, with the employer receiving investment in exchange for lower wages or instead of diversified retirement plans. This is highly risky for the employee and reduces risk for the employer. There are cases, like a family-run business or a worker co-operative – in which the employee ostensibly is the employer – where the risk may be justified or even necessary. In other substitutive cases, there exists the ‘excessive risk’ Leigh highlights.
‘Supplementary’ employee ownership involves workers accumulating stock as an add-on to normal wages and diversified savings plans – it supplements, rather than substitutes. We do not have all our eggs in one basket, and there is no subsidy from employee to employer – the subsidy, in fact, goes in the other direction.
Looking at America, where evidence is the most comprehensive, the vast majority of ESOPs (Employee Stock Ownership Plans) function in the second way – as an add-on to existing pay. To understand this properly, we need to briefly visit the retirement plan landscape in America. There are generally two types of retirement plan: the first is the 401(k) plan, where employees use a portion of their wages to invest for their retirement, often with matching payments from the employer. In many ways this is like a self-managed super fund and tends to be diversified. The second is the ESOP, which receives tax benefits when set up as a retirement plan. Retirement plans are not mandatory, and around a third of workers have no plan at all.
Where ESOPs constitute the only retirement plan available in a particular workplace, life savings and their risks are consolidated in the employer. The evidence shows, however, that ESOP companies are more likely to have a 401(k) plan (in addition to the ESOP) than comparable companies without an ESOP. Given employees at ESOP firms are thus more likely to have a diversified savings plan than non-ESOP firm employees, this means, empirically, that ESOP companies reduce risk for employees, rather than increasing it. In Australia, the situation is the same due to the Universal Superannuation Guarantee, which ensures employee retirement savings are diversified across industries and asset classes. ESOP plans in Australia are, therefore, by definition (and not just in practice), of the supplement rather than substitute variety.
Cases where employees have experienced significant loss from investing in their employer are rare, but when they occur are accorded widespread attention. There is little attempt in the discourse to differentiate between supplementary and substitution ESOPs. Enron, mentioned by Leigh, is a case in point. There, workers were cajoled in various ways into using their wages to invest in Enron shares as part of their 401(k) retirement plan. The 401(k) plan for Enron employees had 62% of its assets in Enron shares, with employees purchasing 89% of these shares with their normal wages. A classic substitution scenario. This was part of one of the largest corporate frauds in history – and the Enron employee ownership plan should be seen in this light: as a fraud.
The other major employee ownership failures often mentioned are United Airlines, Worldcom and Tribune. All were cases of substitution rather than supplement, and all were related to ulterior motives. For a look at this in some detail, see Walter and Corley, “Mitigating Risk to Maximize the Benefits of Employee Ownership”.
 What can government do?
The history of government ESOP policy in the US is informative. In the 1920s, if there was employee ownership, it tended to be the substitution-type. As would be expected, employees under this arrangement experienced significant risk.
The ESOP was developed in the 1970s by a law professor and investment banker. It consciously addressed the substitution-type risk seen in the 1920s and introduced a company credit arrangement, under which employers purchase shares in the firm for employees on credit. The employer sets up an employee benefit trust, loans money to the trust for the purchase of shares, the performance of the shares then used to repay the loan. Once the loan is repaid, employees take a full interest in the shares. This arrangement is also used by employers who simply gift shares, rather than requiring their repayment. Tax advantages were designed to encourage ESOPs as a retirement plan option, and they quickly came to dominate employee ownership arrangements in US firms.
As soon as the late 1970s, however, this arrangement began to be undermined, with every Federal Government administration up until today implicated. For example, the introduction of 401(k) retirement plans – which are defined contribution plans paid for from employee wages – included incentives for companies to move away from supplementary ESOPs to substitution employee ownership via 401(k)s, as in the case of Enron. Ironically, the pullback in government support for ESOPs, though it encouraged the move from supplement to substitution, was done due to the notion that stock ownership is a risky substitute for employee pay.
Australia doesn’t have a significant history of employee ownership, in part because union strength and the industrial relations system in place until the 1980s secured relatively impressive worker welfare. That system has more or less fallen now, however, with wage stagnation, worker casualisation and rise of the gig economy a result. It may be necessary to reconstitute the ‘adversarial’ industrial system we once had, but we should also look at ‘constitutional’ approaches – ways of bringing employer policy in line with employee needs, and vice versa, within a business, rather than from outside of it. Employee ownership would effectively facilitate this.
We can follow the US approach from the 1970s of incentivising supplementary-style ESOPs through tax breaks. In addition, we can make employee ownership a matter of corporate law, as proposed by the UK Labour Party. Under their policy, every company in the UK with more than 250 staff would set up an “Inclusive Ownership Fund”, and every year would have to transfer at least 1 percent of their ownership into the fund, up to a maximum stake of 10 per cent.
 Competition policy
Leigh noted, in the NENA interview, that market concentration, and particularly concentration of corporate ownership, was one of the forces behind Australia’s growing inequality. However, he suggested a technocratic solution, based on ACCC administrative powers, whose effects for normal people would only be indirect. We know from the recent election that Labor’s prospects were damaged by a focus on technocratic policies, difficult to communicate and easy for a rightwing media to undermine. If a competition policy fostered shared ownership through employee ownership mechanisms, lessening the effect of market concentration on inequality, people would be able to understand a straightforward link between the policy and a direct benefit to themselves.
It is this kind of vision we need if we are to move from “I’ll vote for Labor because they’re better than the liberals” to “I’ll vote for Labor because I’m excited by their vision for Australia!”
-  Blasi; Kruse; Freeman, 'Broad-based employee stock ownership and profit sharing: History, evidence, and policy implications' (2018) 1(1) Journal of Participation and Employee Ownership 48-9.
-  Bernstein, Employee Ownership, ESOPs, Wealth, and Wages, Employee-Owned S Corporations of America (2016); Buchele, Kruse, Rodgers; Scharf, “Show me the money: does shared capitalism share the wealth?”, in Kruse; Freeman; Blasi (Eds), Shared Capitalism at Work: Employee Ownership, Profit and Gain Sharing, and Broad-Based Stock Options (University of Chicago Press, 2010) 351-376.
-  Peterson; Luthans, ‘The impact of financial and nonfinancial incentives on business-unit outcomes over time’ (2006) 91:1 Journal of Applied Psychology 156-165.
-  Freeman; Kruse; Blasi, ‘Worker responses to shirking under shared capitalism’, in Kruse; Freeman; Blasi (Eds), Shared Capitalism at Work: Employee Ownership, Profit and Gain Sharing, and Broad-Based Stock Options, (University of Chicago Press, 2010) 77-103.
-  Brill, An Analysis of the Benefits S ESOPs Provide the U.S. Economy and Workforce, Matrix Global Advisors (2016); Kurtulus; Kruse, How Did Employee Ownership Firms Weather the Past Two Recessions? (Upjohn Institute for Employment Research, 2016).
-  Blasi, Kruse and Freeman, above n 1, 50.
-  Ibid 47-8.
-  Ibid.
-  Ibid.
-  See also ibid 54.
-  Ibid 41.
-  Ibid 42.
-  Ibid 43-4.
- Bernstein, Employee Ownership, ESOPs, Wealth, and Wages, Employee-Owned S Corporations of America (2016)
- Blasi; Kruse; Freeman, 'Broad-based employee stock ownership and profit sharing: History, evidence, and policy implications' (2018) 1(1) Journal of Participation and Employee Ownership 38
- Brill, An Analysis of the Benefits S ESOPs Provide the U.S. Economy and Workforce, Matrix Global Advisors (2016)
- Kruse; Freeman; Blasi (Eds), Shared Capitalism at Work: Employee Ownership, Profit and Gain Sharing, and Broad-Based Stock Options (University of Chicago Press, 2010)
- Kurtulus; Kruse, How Did Employee Ownership Firms Weather the Past Two Recessions? (Upjohn Institute for Employment Research, 2016)
- Peterson; Luthans, ‘The impact of financial and nonfinancial incentives on business-unit outcomes over time’ (2006) 91:1 Journal of Applied Psychology 156