23 Aug 2006  Op-Ed

The Real Wal-Mart Effect

Critics are lining up to take shots at Wal-Mart's treatment of workers and a host of other alleged knocks against society. But the critics miss one big point, says Pankaj Ghemawat: Wal-Mart's overall impact benefits the economy and lower-income consumers. Key concepts include:

  • While Wal-Mart has many problems, the company's overall economic impact is positive both for the overall economy and for low-income consumers.
  • The real Wal-Mart conflict isn't between capital and labor. It is a battle involving consumers and cost-efficient producers against traditional retailers, organized labor, and community activists.

 

Editor's Note— This opinion piece, first published in the New York Times in August 2005, has been updated by Pankaj Ghemawat for HBS Working Knowledge.

Mighty Wal-Mart's headquarters in Bentonville, Arkansas, must feel less like a hotbed of retailing and more like a war room.

There is a groundswell of criticism of the world's largest company, primarily focused on its treatment of workers. The recent spate of books on the company is no exception. Some are overtly critical, for example Anthony Bianco's The Bully of Bentonville: How the High Cost of Wal-Mart's Everyday Low Prices is Hurting America. But even books that purport to be balanced and coolly analytical raise questions about the company's economic impact. A case in point is Charles Fishman's The Wal-Mart Effect, which describes the company as having a "decidedly mixed economic impact" largely on the basis of a study claiming that the retailer destroyed more jobs in 2005 than it created.

Indeed, from low wages to limited healthcare coverage, the company has a number of employee-related issues to tackle, as well as many nonmarket ones. (Wal-Mart announced August 8 an increase in starting wages at a third of its stores and wage caps at all stores.) But questioning whether Wal-Mart's overall economic impact has been positive or negative reflects a failure to engage properly with the data.

More for everyone

First, there is hard evidence that Wal-Mart has grown the economic pie available to be divided among its various stakeholders, instead of just slicing up a fixed pie in a way that favors one group over another. Consider, for example, the conclusions of the McKinsey Global Institute's study of U.S. labor productivity growth between 1995 and 2000. In the words of Robert Solow, a Nobel laureate in economics and an adviser to the study, "By far the most important factor in that [growth] is Wal-Mart."

There is hard evidence that Wal-Mart has grown the economic pie available to be divided among its various stakeholders.

Second, most of the value created by the company is actually pocketed by its customers in the form of lower prices. There is general agreement that Wal-Mart prices are significantly lower than its competitors. Assuming that the company's prices are 8 percent lower—at the low end of the estimates from various studies summarized in a recent report by Global Insight—and applying that to Wal-Mart's domestic sales volume, U.S. consumers save on the order of $18 billion per year. And because Wal-Mart forces its competitors to charge lower prices as well, this figure is a fraction of the company's real impact.

These kinds of savings to customers far exceed the costs that Wal-Mart allegedly imposes on society by securing subsidies, driving employees toward public welfare systems, creating urban sprawl, and destroying jobs in competing operations. Thus, juxtaposing these customer savings against the estimate cited by Fishman and others that Wal-Mart destroyed 2,500 jobs (on a net basis) in 2005 yields customer savings of more than $7 million per year for each job lost. (Fishman actually works with higher numbers for customer savings, so if he had done this calculation, he would have come out in the $12–$60 million range.)

The savings to Wal-Mart customers also appear large in relation to the surplus that it passes on to stockholders. In recent years, the retailer has netted just 1.5 to 2 percent of revenues as income for its shareholders—compared with 8-plus percent for its customers. It is worth adding that shareholder surplus—over and above the cost of the capital employed in the business—would be completely wiped out if Wal-Mart's million-plus employees were to receive a $2-per-hour pay increase, modest though that sounds. And since such a scenario would be unacceptable to Wal-Mart's shareholders, the millions of Americans who shop at Wal-Mart would likely end up paying higher prices.

In The Wal-Mart Effect, Charles Fishman raises another specter: Wal-Mart as giant boa constrictor, squeezing the life out of capitalism through sheer market dominance. This seems far-fetched. Wal-Mart still accounts for less than 10 percent of total nonautomotive retail sales in the United States, and its growth rate in the last twenty years has steadily declined from 30-plus percent to below the 10 percent mark in 2006. Wal-Mart has also been slowed by rapid increases in particular cost elements such as healthcare, pressure on its stock price, and a move to reposition the company to be "more like Target"—that is, more differentiated—even though this move doesn't fit particularly well with Wal-Mart's existing locations or capabilities.

Lessons from the past

History also provides perspective on the current clamor around Wal-Mart. When catalog pioneers Sears and Montgomery Ward seemingly threatened small-town retailers with extinction in the nineteenth century, those retailers mounted an energetic counterattack. The rise of chain stores in the 1920s also provoked outcries from independent dealers and whole communities, resulting in thirteen states passing anti-chain-store tax laws. The lesson for Wal-Mart is that successful new retailing formats tend to provoke vigorous reactions—in the nonmarket as well as the market sphere.

Savings to customers far exceed the costs that Wal-Mart allegedly imposes on society.

This all suggests that the debate around Wal-Mart isn't really about a Marxist conflict between capital and labor. Instead, it is a conflict pitting consumers and efficiency-oriented intermediaries such as Wal-Mart against a combination of old-line retailers and labor, community, and development activists. Particularly in retailing, policies in the United States favor consumers and offer fewer protections to other interests than is par for the course elsewhere. Is such proconsumerism a good thing?

The answer, at least in relation to Wal-Mart, depends on the identity of these "consumers"—the ones getting most of the benefits from the company's low prices. Wal-Mart operates 2-1/2 times as much selling space per inhabitant in the poorest one-third of states as in the richest one-third. And within these states, it focuses on poorer districts and consumers. Without Wal-Mart, therefore, the rural poor in particular would pay several percentage points more for the food and nonfood merchandise that—after housing—is their second-largest household expense.

So in the debate about what to do about Wal-Mart, let's keep in mind who's reaping the benefits of "everyday low prices"—and, by extension, where the real conflict resides.

About the authors

Pankaj Ghemawat is a professor at Harvard Business School. His publications include Commitment (Free Press, 1991), Games Businesses Play (MIT Press, 1997), Strategy and the Business Landscape (Addison Wesley Longman, 1999), and Strategy and the Business Landscape, 2nd Edition (Pearson Prentice Hall, 2006).

Ken A. Mark is a business consultant in Toronto.