viun i" New Y;nk Mm k I «< lunge "Share ownership," various editions.

the retirement of current retirees. This system worked fine as long as there were relatively few retirees in relation to contributing workers. This is changing.

In 1990, for example, there were almost two workers in Germany to support one retiree. By 2035, this number will drop to one retiree per worker. As a consequence, the average contribution rate for a German worker to the mandatory public pension system will rise to 34.1 percent of gross wages in 2035 if no actions are taken, compared with 19.7 percent in 1996. This is the stuff of which revolutions are made.

Although avoiding a pension crisis is possible, there are no easy fixes. Most analysts agree that these countries have no choice but to move to some form of funded pension system, where at least a part of the premiums that workers pay are actually set aside for their retirement. The challenge is how to make it through the transition from pure pay-as-you-go to partially or wholly funded. While there are several variations of funded pensions systems, they all lead to the same conclusion—there is no solution unless the savings in the funded part of the system generate attractive returns.

With this in mind, one solution would be to increase premiums by a sufficient amount to build a surplus that can be reinvested, with the combination of premiums and investment returns covering the future shortfall. Here is a simplified example of how this might work in Germany. If the additional premiums were invested in German government bonds, which historically have yielded real returns of about 4 percent, the necessary incremental premium would amount to 3,103 marks, a 13 percent reduction in disposable income. If, on the other hand, these savings were invested in Germany's private sector, where real long-term returns between 1974 and 1993 have averaged 7.4 percent, these premiums would drop to 2,068 marks. If the German private sector were as successful as its U.S. equivalent, which generated real long-term returns in the same period of 9.1 percent, the annual premiums would drop to 1,706 marks, a reduction in disposable income of just 7 percent.

Thus, in combination with measures such as gradually increasing the retirement age, the burden can be reduced to a level where political consensus becomes feasible, if the investment funds generate good returns. Defusing the pension fund bomb dictates that the private sector be held to a standard where generating high returns on invested capital and creating opportunities to invest additional capital at high returns is of paramount importance. It is not coincidental that California's public employee retirement fund is one of the most vocal advocates of creating shareholder value in the United States, and has made it clear that it expects shareholder value to be a priority in other markets.

If the funded plans are to work and intergenerational competition is to be avoided—whether in Germany or other developed nations—then there must be steady pressure on companies to generate shareholder value.

Shareholder-Oriented Economies Perform Better

We doubt that the strong economic performance of the United States since the mid-1980s would have taken place without the discipline of shareholder capitalism and an increasingly sharp eye by many participants in its economy on creating shareholder value.

The U.S. corporate focus on shareholder value tends to limit investment in outdated strategies—even encourage divestment—well before any competing governance model would. Schumpeter's ''creative destruction" is fostered by a bottom-line focus. Moreover, it is hard to claim (as many have at times, albeit often managers of poorly performing companies) that the capital markets are shortsighted compared with other corporate governors—the high number and value of technology and internet companies going public in recent years attests to this. Foolish maybe, but shortsighted? Certainly not.

But what about actual economic performance? Economists widely agree that the dominant measure of an economy's success is GDP per capita. As Exhibit 1.4 shows, the United States—the world's most capitalist, shareholder friendly economy—has a lead of more than 20 percent over other major countries. Up to 1975 other countries were catching up, but this convergence has since stopped. If anything, the lead of the United States has been widening.

Exhibit 1.4 GDP per Capita

From 1994 to 1997, the McKinsey Global Institute carried out a series of research projects to analyze the differences in GDP per capita between the United States and other countries. The research, which focused on the United States, Germany, and Japan, attributed the U.S. advantage to much higher factor productivity, especially capital productivity (see Exhibit 1.5). How can the United States be outperforming other countries with a savings rate that is often deplored as wholly inadequate? The answer is what happens to those savings. In the United States they are invested in more productive (i.e., economically profitable or value creating) projects than in either Germany or Japan. As shown in Exhibit 1.6, financial returns in the corporate sector in the United States between 1974 and 1993 were dramatically higher than in Germany or Japan.

This is not to say that the shareholder value system is always perceived as fair. Job losses from restructuring disrupt lives. At the same time, one can argue that an economy's ability to create jobs, or its lack thereof, is the better measure of fairness. On that score, the track record of the United States compared with the other countries speaks for itself.

Exhibit 1.5 Sources of Differences in Market Sector GDP per Capita index: U S. (1990-1993 average] = 1U0

Capital per capita-1

GDP per capita1

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