• Listen to Merryn talk to Jonathan Tepper about this on the MoneyWeek podcast.
There is something wrong with the way capitalism is working in the West at the moment. On that I think pretty much everyone is agreed. But what is wrong? Jonathan Tepper, author of The Myth of Capitalism: Monopolies and the Death of Competition might have the answer. It came, he says, from trying to figure out something all economists have been trying to figure out over the last few years – why wages just won’t rise. Tepper’s day job is as an economist at Variant Perspective, the global macroeconomic trading and research group he founded. There, “year after year,” he monitored all the leading indicators that usually tell us where wages are headed. They told him that the US labour market was tightening, and that wages should be rising. After all, as the supply of labour falls, so the price of that labour should rise as companies started to compete and bid up wages. But that never happened, something that had the puzzling consequence of preventing corporate profits from reverting to the mean (the wage bill is the average company’s biggest bill).
That mattered hugely to Tepper in his day job. Company profit margins have always reverted to the mean – ie returned to their long-term average – in the past (market guru Jeremy Grantham of US asset manager GMO calls them “the most mean-reverting series in finance”). But if they aren’t going to any more (and profits will be elevated forever) two questions arise. First, is there a new argument for paying higher earnings multiples for stocks than in the past? And second, can the death of mean reversion explain what’s wrong with capitalism?
Too few companies with too much power
It was in looking into the first question that Tepper found the answer to the second. “I realised that… particularly in the US… which is probably the most advanced in this trend, you’re seeing more and more industrial concentration.” There are fewer players in each industry than there used to be. That gives companies pricing power over the consumer (which investors such as Warren Buffett love to see). But “less discussed and understood is that they often have power over the worker”: they don’t have to bid against rivals for labour. They also gain huge power over the suppliers. The result is obvious: a small number of huge companies capturing very high profit margins.