Maximizing shareholder value through stock buybacks has become an economic religion in the U.S., and corporate executives and board members are its chief acolytes.

Europeans have always been wary of the ideology that business corporations should be run to "maximize shareholder value." In advance of a public lecture that I am giving in Madrid on the financialization of the U.S. corporation, one of the city's financial papers, Expansión, sent me a string of questions on the subject and published my answers.

1. Why do companies think of their shareholders only?

Until the mid-1980s, top executives in the U.S. did not espouse the ideology that corporations should be run to "maximize shareholder value." (MSV) During the 1980s, however, financial economists working at politically conservative business schools at universities such as Chicago and Rochester developed the ideology out of free-market economic theory, and then imported it into more liberal business schools such as Harvard and Wharton.

Underlying this new orientation toward corporate governance was the shift of Wall Street in the 1970s from investing to trading and the growing dependence of U.S. households as savers on stock market returns. Top executives of established corporations embraced the new MSV ideology; it gave them a free hand to do large-scale employee layoffs in response to foreign competition, underperforming conglomerates, and hostile takeovers. As advocated by the academic proponents of MSV, an increasing proportion of the remuneration of corporate executives took the form of stock-based compensation, particularly stock options. Now these executives had a direct personal interest in boosting stock prices.

Legitimizing the focus on shareholder value as a measure of superior economic performance was the rise of "New Economy" startups in the 1970s and 1980s that used stock options to lure managers and engineers from what was then secure career employment with Old Economy companies to inherently insecure employment. In addition, the existence of NASDAQ (launched in 1971) lured investment capital to high-tech startups through venture capital (which itself emerged as a major actor only in the 1970s), thus associating innovation with stock-market returns.

And indeed, driven in part by innovation but increasingly by speculation and manipulation, from 1982 to 2000 the U.S. stock market had its longest "bull run" in history. For the financially trained business analysts who flocked to Wall Street during this period, MSV was a religion and the movement of a company's stock price the only measure of its economic performance.

2. What is the greatest danger if they go on behaving thus?

Over the past two decades U.S. companies have sought to generate returns to shareholders by not only distributing large portions of earnings as dividends but even more importantly by expending huge amounts of resources on buying back their own companies' outstanding stock. The purpose of these repurchases or buybacks is to manage earnings per share and boost stock prices -- or, put differently, to manipulate the stock market.

Over the past decade, the 500 companies in the S&P 500 Index, accounting for over 70 percent of the market capitalization of U.S. corporations, have wasted almost $3 trillion on stock buybacks. In allocating resources to buybacks, many companies forgo investment in innovation and high value-added job creation in the United States.  These same corporations and the exorbitantly compensated executives who run them also fight against paying taxes, thus undermining the ability of government to support innovative enterprise.

3. How did we reach this situation?

The three main drivers were:

• the ideology of free-market individualism that comes out of almost every economics department and business school;
• the greed of those who run the country's major corporations;
• the complicity of the SEC in permitting manipulation of the stock market through buybacks and the taking of "quick swing" profits by top corporate executives when exercising stock options.

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4. Is it the fault of the top officers of the companies that companies only think of shareholder value and top officers' earnings?

Yes. Top corporate executives in the United States have almost unconstrained power over the allocation of corporate resources. Any rising corporate manager who aspires to a top position will surely be eliminated from contention if he or she is critical of MSV.

5. How could this problem be solved?

The SEC could ban stock buybacks by large corporations, and it could demand that executive pay be based on real performance criteria related to innovation -- the generation of higher quality, lower cost products than had previously been available.

6. How should officers be remunerated?

NOT on the basis of stock-price performance. Stock prices are driven by innovation, speculation, or manipulation. Corporate executives should be rewarded ONLY for innovation, with the recognition that innovation is typically a highly collective and cumulative process involving the contributions of thousands of employees and extensive government (i.e., taxpayer) support.

7. And board members?

See the answer to question number six.

8. Some of these are supposed to be independent, but are they really?

No. Board members are almost always hand-picked by incumbent management. They sit on each other's boards. They are an exclusive club, to which the recitation of the MSV mantra is a necessary condition for membership.

9. Are there examples of companies that behave this way, that behave as they should, and that behave as they shouldn't?

Just look at the companies that are among the leaders in buybacks: IBM ($15.4 billion in 2010), Wal-Mart ($14.8 billion), Exxon Mobil ($13.1 billion), Microsoft ($11.3 billion), and HP ($11.0 billion). The list goes on. They are sacrificing the future of the U.S. economy for short-term manipulative boosts to their stock prices. An important exception is Apple, which has not done any buybacks for almost two decades after wasting $1.8 billion on them between 1986 and 1993. Then there are successful employee-owned companies (known as ESOPs) that do not engage in this stock-market behavior. A prime example is Nypro Inc., a high-end contract manufacturer based in Clinton, Massachusetts with 17,000 employees worldwide. In Spain, of course, for over a half century Mondragon Corporation has become the most famous example of employee ownership in action.

10. If not shareholders, what should be companies' main concern?

I'll quote Jack Welch, former CEO of General Electric, from a March 2009 interview in the Financial Times: "On the face of it, shareholder value is the dumbest idea in the world. Shareholder value is a result, not a strategy... your main constituencies are your employees, your customers and your products."

11. How would companies improve if they followed this alternative rule of behavior?

They would focus on generating higher quality, lower cost products, while distributing returns to taxpayers, workers, and financiers who contributed to the innovation process. This type of corporate behavior would provide a foundation for equitable and stable growth in the economy as a whole.

William Lazonick is director of the UMass Center for Industrial Competitiveness and president of The Academic-Industry Research Network. His book, Sustainable Prosperity in the New Economy? Business Organization and High-Tech Employment in the United States (Upjohn Institute 2009) was awarded the 2010 Schumpeter Prize.

The president needs to take on the ways corporations beef up stock prices instead of employing Americans.

With the unemployment rate still at over 9 percent and the U.S. economy facing a possible double-dip recession, President Obama's jobs plan can only help. If, however, the main point of the plan is to put the employment situation in decent shape by a year from now, I would not bet on its success. The U.S. jobs problem is deeply structural, and requires a transformative plan for a solution.

The dearth of jobs, even in an economic recovery, reflects the cumulative impact of three structural changes in the employment practices of U.S. industrial corporations. From the beginning of the 1980s, rationalization, characterized by plant closings, eliminated the jobs of blue-collar workers. From the beginning of the 1990s, marketization, characterized by the end of the norm of a career with one company, placed the job security of middle-aged and older white-collar workers in jeopardy. And from the 2000s globalization, characterized by the offshoring of employment, left all members of the U.S. labor force, even those with advanced educational credentials and substantial work experience, vulnerable to displacement.

The problem that these structural changes pose for the prosperity of the U.S. economy is evident in the history of employment at International Business Machines (IBM). From the 1920s through the 1980s, IBM's system of lifelong employment offered all personnel -- including clerical and production workers -- a career with one company. At the end of 1989, IBM employed 383,220 people worldwide. At the end of 1994, just five years later, that number had been reduced by 43 percent to 219,839. At first, IBM downsized by offering voluntary early retirement packages, thus clinging to the principle of lifelong employment. By 1993, however, with the recruitment from RJR Nabisco of Louis Gerstner as IBM's CEO, the company fired tens of thousands outright. By 1994, as a result of the marketization of the employment relation, lifelong employment was a relic of the past. A truly transformative jobs plan will crack down on the self-interested ways in which U.S. executives allocate corporate profits so that they can be used instead to employ American workers.

IBM's history goes back 100 years, but by 1980, when a microcomputer startup named Apple did its initial public offering, IBM -- number eight on the Fortune 500 list -- had $3.6 billion in profits and 341,729 employees. Relying on Intel's microprocessors and Microsoft's operating system, IBM moved quickly to become dominant in personal computers, defining the open-system architecture of the PC. In 1982, IBM's PC sales were $500 million, and just two years later they were 11 times that amount, more than triple the 1984 revenues of its nearest competitor, Apple, and about equal to the revenues of IBM's top eight rivals. Subsequently, however, IBM lost market share to lower-priced PC clones produced by companies such as Compaq, Gateway, and Dell.

In this open-systems environment, IBM shifted its business strategy from hardware to software and services. This change favored the employment of younger professionals whose higher education was up-to-date and who had work experience at other high-tech companies over older employees who had spent their careers working on proprietary technologies at IBM. It was this fundamental change in IBM's business strategy that underpinned the decision in the early 1990s to downsize its labor force dramatically, ridding the company of the once hallowed system of lifelong employment. Subsequently, it shed much of its manufacturing capacity.

IBM's rationalization of manufacturing employment is evident in data on the diversity of its U.S. labor force that the company posted on its website for 1996 through 2008 as part of its annual corporate responsibility reports. Blacks were particularly hard hit by the shift out of manufacturing. They represented 9.9 percent of IBM's 125,618 U.S. employees in 1996, but only 7.5 percent of 120,227 U.S. employees in 2008. On net, blacks had 3,439 fewer U.S. jobs at IBM in 2008 than in 1996, while Asians had 5,281 more jobs. The main reason for the decline of black employment at IBM was the elimination of manufacturing positions; in 2008 IBM employed only 78 black operatives in the United States, down from 3,474 in 1996.

Meanwhile, over the past decade globalization has rapidly eroded IBM's U.S. employment (USE), even as IBM's worldwide employment (WWE) has grown significantly. From 1996 to 2000, the final year of the Internet boom, as WWE increased from 240,615 to 316,303, USE rose by about 28,000 people, with USE as a proportion of WWE falling slightly from 52 percent to 49 percent. From 2000 to 2008, however, IBM employment outside the United States soared by 116,000 people while USE plunged by 33,000, and the share of USE fell to just 30 percent, with employees in BRIC countries, preponderantly in India, accounting for 28 percent of WWE in 2008.

IBM was highly profitable in 2008, with net income of $12.3 billion (up 18 percent from 2007) on revenues of $103.6 billion (up 5 percent from 2007). The company was particularly flush in the fourth quarter of 2008 (ending December 31), with net income of $4.4 billion on revenues of $27 billion. Yet in January 2009, as part of a process to transfer jobs to lower wage countries, IBM terminated the employment of about 4,600 people in the United States and Canada. It would cut another 5,000 a few months later.

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At the beginning of February 2009, IBM offered the first round of displaced workers "Project Match." As described in an internal document, the purpose of Project Match was to "help you locate potential job opportunities in growth markets where your skills are in demand." The document went on to say, "Should you accept a position in one of these countries, IBM offers financial assistance to offset moving costs, provides immigration support, such as visa assistance, and other support to help ease the transition of an international move." Eligible for Project Match were "satisfactory performers who have been notified of separation from IBM U.S. or Canada and are willing to work on local terms and conditions." That is, an eligible American worker laid off by IBM could apply to IBM for a job in, for example, India, and if rehired by IBM, would be paid the wages prevailing there.

So what proportion of its worldwide labor force does IBM now employ in the United States? We don't know, because as of 2009 IBM ceased to include its U.S. employment data in its corporate responsibility reports. It even removed the 1996-2008 employment data from its website. IBM clearly does not want the American public to know its U.S. employment record.

Is IBM investing in the United States? It has been highly profitable over the past decade, with net income of $96 billion on sales of $933 billion. But 84 percent of its profits -- almost $81 billion -- have been spent buying back its own stock. The buybacks account for 50 percent more than what it spent on R&D over the decade. Another 19 percent of its profits have been paid out as dividends, so that over the past decade it has given all of its profits and more to shareholders. In the first half of 2011 the beat went on: IBM wasted $8 billion on buybacks, equivalent to 123 percent of its net income and 254 percent of its R&D expenditures.

Why do I say "wasted"? The only purpose of these buybacks is to manipulate its stock price. Who gains? Over the past decade, IBM's CEO and other four highest paid executives have made a combined $271 million from exercising stock options. That includes $120 million to Gerstner in his last two years at the company in 2001-2002, and over $47 million to Samuel Palmisano, who became CEO in March 2002. In 2010, IBM's five highest paid executives raked in over $23 million exercising their options.

Unfortunately, among major U.S. corporations, IBM's financial behavior is not unique. In 2010, IBM was the biggest repurchaser of stock among U.S. companies, with $15.4 billion, followed by Wal-Mart with $14.8 billion, Exxon Mobil with $13.1 billion, Microsoft with $11.3 billion, and HP with $11 billion. In all, the 500 companies in the S&P 500 Index, which account for about 75 percent of the market capitalization of publicly listed companies in the United States, squandered $299 billion on buybacks in 2010. Over the past decade, S&P 500 companies have blown in excess of $2.5 trillion on buybacks.

Which takes us back to America's need for a transformative jobs plan. We cannot reverse the rationalization, marketization, and globalization of employment, all of which (as I have explained elsewhere) often have productive rationales. But we can eradicate the "financialization" of corporate resource allocation that places stock-price manipulation in the name of "shareholder value" ahead of job creation for the American labor force.

The transformative jobs plan that I advocate has four steps:

1. Ban stock buybacks. The U.S. Securities & Exchange Commission already views large corporate buybacks as a potential manipulation of the stock market, but back in 1982, under Rule 10b-18, it gave business corporations a safe harbor to do them anyway.

2. Give special tax credits for expanded U.S. employment. U.S. companies can be rewarded for year-to-year increases in the number of people employed at home as well as for investments in human capital that enhance the capabilities of the augmented labor force. Over the long run, the taxes that these workers pay on their incomes will provide a return on these government subsidies.

3. Revoke the tax deferral on U.S. corporate profits kept abroad. The existing tax code gives U.S. companies a totally unnecessary incentive to invest overseas while it deprives the U.S. government of much-needed tax revenues that can be used to support job creation in the United States.

4. Tie executive performance pay to real productivity rather than stock price. The stock market is driven by a combination of innovation, speculation, and manipulation. We want executives to be rewarded only for innovation: investments in real productive capabilities that can result in higher quality, lower cost goods and services.

Properly implemented, this jobs plan could be transformative. The only problem is that rich corporate executives will oppose the banning of buybacks, the elimination of overseas tax breaks, and restrictions on stock-based pay. And unfortunately we do not have a transformative president in the White House who is willing to take on these powerful interests.

William Lazonick is director of the UMass Center for Industrial Competitiveness and president of The Academic-Industry Research Network. His book, Sustainable Prosperity in the New Economy? Business Organization and High-Tech Employment in the United States (Upjohn Institute 2009) was awarded the 2010 Schumpeter Prize.