By Bradley Lipton

The Trump administration is pushing to open “alternative” investments such as private equity to retail investors. Before that happens, it’s worth asking where that money will actually go. New research from the Roosevelt Institute, where I work, has an answer. Today, private equity investment doesn’t go to the “corporate raiding” made famous by Richard Gere in Pretty Woman; it goes to buying your dentist, veterinarian, and kids’ soccer league.

Our research shows that, more than previously realized, private equity dollars now largely buy “Main Street” businesses and drive consolidation by rolling existing businesses into chains and selling companies to larger firms. Do we want ruthless profit maximization and less choice in these areas?

As many have pointed out, the administration’s effort to push savers into alternative assets poses significant risks for working Americans, who have one precious chance to save for retirement. A somewhat underemphasized concern, however, is what private equity will actually do with those extra dollars. More private equity investment will increase private equity’s role in our communities.

Private equity is part of so-called “shadow banking”—financial activity outside the more regulated and transparent public markets, such as traditional banks and stock and bond exchanges. Under existing rules, private equity firms provide minimal disclosure about their investing activity, making it difficult to know what they are doing with people’s money.

PitchBook, a database of financial transactions, does report on a significant number of (albeit far from all) private equity deals. A group of scholars led by Charlie Eaton at the University of California, Merced used this data and sophisticated statistical methods to draw some conclusions for Roosevelt about private equity’s activity from 1985 to 2019, when even the PitchBook data went dark.

The Roosevelt Institute research shows that “private market” firms control almost 15% of American nonfinancial business value. Other studies have found that private equity owners employ about 10% of American nonfarm workers.

What is particularly striking about our new study is what it shows about private equity’s evolution over the last several decades. After Richard Gere, Michael Jensen’s famous 1989 Harvard Business Review article is the best-known description of private equity. In Jensen’s telling, private equity’s primary virtue is solving what the article referred to as “the struggle between owners and managers,” or what social scientists call the “principal-agent problem”: publicly traded companies are owned by shareholders. But they are run by executives, who may not have the shareholders’ best interests at heart. Private equity was thought to solve that problem by taking over and running public companies. Under the famous “2 and 20” structure by which private equity firms get paid, the firms collect fees (the 2 percent) to cover their expenses, but in theory only profit from their share of investor profits (the 20 percent).

That model bears little resemblance to how private equity operates today. Roosevelt’s research shows that, while more than 70% of private equity’s dollars went to buyouts of publicly traded companies in the 1980s, less than 20% did so in the 2010s. Instead, private equity shifted to Main Street, “often acquiring locally owned enterprises in sectors with high proportions of nonprofit entities, municipal ownership, partnerships, and family-owned businesses,” as the report says.

Previous scholarship likely systematically underreported this change because deals for these businesses are less likely to appear in outlets such as PitchBook. These businesses, often literally operated by their owners, typically do not have the mismatch between shareholder and executive incentives that private equity once prided itself on solving.

Part of the story is probably that private equity was a victim of its own success. As private firms took over more “underperforming” public companies, public companies themselves became more ruthlessly efficient about putting shareholder profits above anything else. Private equity simply ran out of principal-agent problems to solve. (Indeed, as private equity investments have ballooned in size, the fees that the firms collect are plenty profitable, regardless of whether investors get a good return on their investment.) As Eaton and his co-authors point out, private equity’s transformation also increasingly brings the pitiless logic of profit maximization to businesses such as doctor’s offices that once also had other goals, like treating patients well.

Perhaps even more striking is the way that private equity buyouts now create consolidation, which hurts consumer choice. The Roosevelt research found that, by 2018, more than 70% of private equity purchases were to add new businesses to an existing business line. (Have you noticed that all the car washes now seem to be chains?) Further, private equity increasingly sets the stage for public companies to dominate markets. More than 90% of private equity-owned companies that reach public markets now get there by being sold to incumbents, not going public themselves.

Another canard is that private equity diversifies a portfolio during downturns. Because private equity invests in a range of companies across the economy, it doesn’t make sense to think of it as a distinct “asset class.” On the whole, private equity is subject to similar market-wide forces as other investments.

The evolution of private equity presents some important challenges for policymakers. Now that we know how much private equity contributes to consolidating small companies that typically fly under the radar, we should tighten the rules for industry roll-ups. The federal government has raised the threshold for reporting mergers several times, and a hostile court struck down the Biden FTC’s attempts to require combining firms to disclose more information.

Moreover, as valuable as this new research is, figuring out what private equity is doing should not be that hard. We shouldn’t allow so much of American economic activity to live in the shadows. Private investment firms and large companies should be required to disclose more.

Now that we know that private equity dollars are mostly buying Main Street businesses, we should reconsider whether we want to pump up that market with retail investors’ savings. Your retirement fund could be used to create a crappy chain of dentists and, without better disclosure, you might not even know it.

Brad Lipton is the director of the corporate power and financial regulation program at the Roosevelt Institute. Brad previously served for more than a decade at the Consumer Financial Protection Bureau (CFPB), most recently as senior advisor to the general counsel.