Governments around the world, from Peru to France, have implemented mandatory profit-sharing schemes that require companies to distribute a portion of earnings to employees.
These controversial policies aim to motivate staff, enhance productivity, and redistribute income. However, evidence on whether they truly achieve those goals has been mixed.
While some studies have shown correlations between profit-sharing and productivity, concrete proof of causation remains elusive. And skeptics argue that such programs could negatively impact wages, investment, and job growth while increasing tax avoidance.
France’s long experience with mandatory profit-sharing sheds new light on the nuanced effects these schemes may have in practice.
Productivity Effects Remain Unclear
Profit-sharing has an intuitive logic: give workers a stake in their company’s success through bonuses tied to profits, and they will work harder, smarter, and more collaboratively to boost the bottom line. However, empirically demonstrating that logic has proven difficult.
One challenge is accounting for other factors that could drive productivity gains. Continental Airlines saw performance improve after implementing a company-wide bonus program in the 1990s.
But study authors attributed that to increased peer monitoring rather than financial incentives alone. In other contexts where monitoring is difficult, profit sharing’s impact could be negligible.
There is also the question of whether small productivity gains justify substantial government intervention. According to David Sraer, an economist at UC Berkeley, French reforms mandating profit-sharing at mid-sized companies in the early 1990s had no measurable effect on productivity.
“I was surprised to find that investment did not drop in the affected companies,” says Sraer. “Disappointingly, productivity didn’t rise either.”
While profit-sharing on its own may not dramatically move the needle, some experts argue it could augment other workforce policies. But so far, hard proof is lacking.
Modest Income Gains Concentrated Among Lower Earners
If profit-sharing’s productivity impacts are uncertain, what about its other central aim: raising worker incomes? Here, evidence from France is more encouraging. Sraer’s study found consistently higher pay in companies newly subject to mandated schemes, equivalent to one month’s salary per employee over five years.
Crucially, these gains did not come primarily at the expense of shareholders. Instead, 80% of the costs were absorbed through lower profits while 20% came through foregone corporate taxes.
That contradicts fears that profit-sharing necessarily harms investment by diverting funds from re-investment. Retained earnings in affected French companies were largely unaffected.
However, the benefits accrued overwhelmingly to lower and middle-income staff. Highly compensated employees saw no distinguishable change, likely due to France’s high minimum wage preventing managers from reducing salaries in response.
Hence, profit-sharing achieved a moderate redistributive effect from shareholders towards poorer workers. But it did not necessarily make the income spectrum more equal overall.
Perverse Incentives and Corporate Avoidance
Given its redistributive aims, France exempts small companies from profit-sharing requirements to avoid over-burdening them. But when they first applied only to firms with 100+ employees in the 1980s, that threshold created a conspicuous cluster of companies just below the cut-off. This suggests the policy incentivized small companies to stay small to avoid the mandate.
Such distortions highlight profit-sharing’s potential to produce perverse incentives if not carefully designed. Strict requirements can lead businesses to create loopholes rather than share genuinely.
In Mexico, for example, many large companies satisfy profit-sharing obligations by hiring workers through under-capitalized subsidiaries. Since the mandate applies only to parent companies, they protect profits while technically complying with the law. To combat that avoidance, Mexico recently banned subcontracting through insufficiently capitalized businesses.
Distortions and loopholes present a compliance problem for regulators. However, Sraer argues profit sharing offers a unique advantage: “It turns employees into corporation tax enforcement officers.”
In France’s case, workers often pay consultants to audit company profit numbers and ensure payouts reflect actual margins. Such monitoring discourages manipulative accounting intended to illegally minimize shared profits.
Essentially, the employees themselves police compliance due to their direct financial interest in accurate profit reporting. That both enhances enforcement and reduces the bureaucratic overhead otherwise required to regulate firm payouts.
But there is still room for abuse, especially under voluntary schemes. Recent research in France found that companies strategically time bonus announcements around annual pay negotiations. That dynamic, which does not occur under mandatory programs, appears designed to avoid raising total compensation.
In short, while profit-sharing may improve compliance through worker monitoring, it does not eliminate opportunities for corporations to game the system. Strict regulation is still necessary to prevent that.
Takeaways for Policymakers
So what guidance do France’s decades of experience offer to policymakers considering profit-sharing mandates elsewhere? A few key conclusions stand out:
- Don’t expect transformative gains: While income should rise moderately for lower-paid staff, gains for highly paid employees and economy-wide productivity improvements appear minimal under real-world programs.
- Absorbing costs is complicated: Shareholders only bore 80% of profit sharing’s costs in France, despite profits explicitly being the income source tapped. The remainder subtly dissipated through the tax system. Distributional impacts are therefore harder to predict and control than they first appear.
- Incentive distortions readily emerge: Experience in both France and Mexico shows companies actively structure operations to avoid profit sharing burdens, often in ways that technically meet the letter of the law while violating its spirit. Carefully drafted laws are essential.
- Worker monitoring aids compliance: However, while employees scrutinizing payouts deters outright fraud in France, more subtle gaming still occurs. Strict oversight remains vital.
- Beware voluntary schemes: Unlike mandatory programs applied economy-wide, France’s research shows voluntary profit-sharing frequently fails to raise worker incomes in practice due to corporate opportunism during implementation.
In total, France’s checkered experience indicates profit-sharing mandates have modest virtues while falling short of backers’ lofty hopes. They are not without merit but require care in design and monitoring to prevent distortions.
Most importantly, they provide no magic bullet for substantially raising incomes or productivity throughout advanced economies. Policymakers should scale expectations accordingly.