On the Old Yarn About How Back in the Old Days Government Intervention Wasn't Evil

On Crooked Timber they're reviewing Hacker and Pierson's new book, American Amnesia.  Their thesis, as I understand it, is that the government has relinquished its role as both a guide for and countervailing power against the free market.  And they explore why.

I think it might be fruitful to flesh out these two ideas with some empirics. 

In the post-war years, the expansion of mega-size public corporations (which, by definition, are not attributes commonly associated with the “Adam Smith” style free market — Ronald Coase recognized this decades ago) were accepted, finally, as a necessary — if not evil — compromise if we wanted to pursue a certain level of economic growth. They survived the trust-busting of late-19th century and matured into a settled part of our economic landscape after the New Deal. 

But then the 1970s came. For whatever reason (history of course is overdetermined!) — free trade, overseas competition, etc. — our corporations were seen to have become less profitable. They weren’t pulling their weight, weren’t justifying their existence by serving as the motors of our national wealth. But at the same time, CEOs were seen as power-grabbers, merging and growing and gobbling up the market to aggrandize personal ambition.

And so government stepped in to act like the countervailing power it has always been. It empowered finance to hold corporations accountable, to serve their social purpose, viz., to generate economic growth. Here, Katharina Pistor’s legal theory of finance is particularly instructive, but anyone familiar with the discourse surrounding the hostile takeovers of the 1980s will be familiar. Who better to make CEOs and boards accountable and responsible than the shareholders who elect them?

The solution, while pragmatic, is of course in hindsight drastically flawed. Quis custodiet ipsos custodes?

At the same time, government is fulfilling its “guide” role by encouraging the development of a comparative advantage in a service industry (finance). Like it subsidized and encouraged railroads. Like it created a national central bank back in post-revolutionary days.

My own question remains: what makes people think that “finance,” an essentially *legal* phenomenon, is an example of a “free market”? And why do people anthropomorphize the giant corporation, pretending it really *is* the black box that neoclassical economics only pretend that it is? 

Scott Bowman has a wonderful history of intellectual thought on the corporation, and I also recommend Dalia Tsuk Mitchell’s work on this.

Shareholder Activism and Procedural Democratic Party Politics

Recently, a bipartisan Congress deigned to roast Bill Ackman, the silver fox of Pershing Square Capital, on the evils of ostensibly short-termist hedge-fund activism. The consequences of such activism, presuming they're true, are indeed the stuff of ire. For if their behavior destroyed the town of Brokaw, or extorted hospitals and patients by hiking up drug prices, they seem to present a net minus on the success of contemporary corporate capitalism. All this, despite their rhetorical flourishes of "shareholder democracy" against tyrannical "management entrenchment." 

Maybe.  I want to argue that these guys are doing exactly what they're supposed to do. What is mucking things up is not so much their involvement in governance, but the generally undemocratic governance structure of corporations in general. Ironically, the more activist they get, the worse this democratic deficit becomes.

If we can, for a moment, analogize the corporation with the state (Landemore & Ferreras 2015), we can see these activists representing a certain "political" constituency, one that shares certain material interests. Here, that material interest is, arguably, short term shareholder value. Or, stated more simply, an interest in corporate activity that raises earnings per share, dividends per share, or other such desiderata that increase stock price -- like hiking up drug prices and liquidating company towns.  

It is no surprise that shareholders actually do desire such things, and that they would form a coalition, or - still analogizing - a party to pursue this material interest. Classic sociological accounts of party formation in political science literature routinely analyze regular politics this way (e.g., Lipset & Rokkan 1967). They find class and ethnic cleavages and then map them onto political groups and actors. For example, workers form and join labor parties. Catholics join Catholic parties. Capitalists (shareholders?) join business friendly parties. More recent institutionalist literature (e.g., Przeworski and Sprague 1986) focuses instead upon the role of entrepreneuring elites mobilizing a (shareholder?) constituency by appealing to these same interests. 

This is Ackman (and dare I say, Larry Fink?) par excellence -- an elite party leader mobilizing shareholder support with appeals and policy recommendations to form a powerful intra-corporate political organization. (I shall set aside the question, for now, of their actual responsiveness to voters shareholder beneficiaries). The campaign motto runs as follows: "Support me! I'll put more money in your pockets!"  I dare anyone to find a politician who does not make the same appeal.

The point is that the mobilization of activists is not, at face value, a terrible thing for corporations or corporate democracy. They are doing what parties are supposed to do, at least if one embraces a procedural theory of democracy. 

The problem is that they are the only game in town. The only "party," if you will.  As anyone familiar with a one-party state will realize immediately -- the outcomes tend not to turn out too well for most people involved. For notorious one-party states include the USSR, Syria, Mussolini's Italy... 

A party represents, by definition, partisan interests. The problem is that the stronger any single party grows, the more it dominates politics. And the more it dominates politics, the less democratic the polity becomes.  Herein lies the democratic deficit of shareholder activism.

What makes party democracy work is competition from other parties. This is how leaders are held accountable -- we can throw the bums out in favor of an alternative credible candidate. (Schumpeter 1934). Imagine Bill Ackman is successful in revamping a corporate board. Who is to hold these new folks to account? 

This is also how social choices better reflect a more diverse and complete array of citizen interests. (Dahl 1973) This is how we achieve centrist policies. This is the material from which we induce the widely-used spacial voting models that identity the politician's most valued prize, the "median voter." 

Perhaps most importantly, this is how we avoid tyranny and disruptive - violent? - changes that obey the laws of force and power rather than the laws of constitutional procedure. (Urbinati & Saffron 2013) Regularized power sharing, and realistic hope for change without drastic action, can stabilize the corporate polity. Without fear of strikes, liquidating takeovers, and other disruptive events, it can grow and invest and do all the things that we want it to do to keep our economy humming. 

But from what I can tell, the only group serving as a proxy for a competitive party is the board itself. They are tasked by corporate governance literature to man the bastion protecting stakeholder (non-shareholder) interests. This is a conceptual mistake. The board is the institution of power over which parties fight. It is like arguing that Pol Pot's legislature is meant to compete against Pol Pot's party. Of course it will become a tin-can legislature (Useem 1993), an instrument of the ruling party. And thus we see the seismic changes in organizational governance attributed to "shareholder value." (Id.) 

The problem with activists is therefore not that their interests are illegitimate, or evil, or Bad for America. The problem is that activists need an opposition party or two. 

A worker's party? A long-term shareholders' party? A creditor's party? A consumer's party? 

Of course, there are very important questions of efficiency to be handled. Can a corporation governing by an unwieldy, diverse array of interests make the kind of quick decisions necessary to compete in the market? There is, furthermore, a question of principal and agency. Is it fair to analogize the firm with the state, when the firm and its employees are popularly held to be the agents of shareholding principals? 

But if the corporation can be made to work for all these constituencies, it certainly would be playing its part to enhance our economic development. And it might also have a fighting chance of doing so with some kind of legitimacy.

Then we can really start to talk about "shareholder democracy" honestly, not rhetorically.