A Triadic Approach to Corporate Governance

Corporate Governance, Promises Kept, Promises Broken (Macey), could be best summarized as a critique to the policies and corporate governance regulations fostered by the administration with the goal of improving governance. Macey argues that the administration has given impulse to certain corporate governance mechanisms and institutions which are rather ineffective, restraining the adoption and improvement of others which do a better job in improving corporate governance and in achieving the ends pursued.
My contention is that the premises over which he builds his argument, even thought might be of general acceptance in the United States, are misleading, as they are incapable of assessing the nature of corporations’ interaction with stakeholders and society, as well as the function of property in it. Macey’s view of corporate governance is dyadic. I will call it the Dyadic Theory. This means that he sees corporate governance and its ends as a dual relationship between management (and directors) on one side, and shareholders on the other.
No other actor is involved in this relationship, in which the main purpose of corporate governance is to promote the implementation of the promises-contracts undertaken by management with corporation’s shareholders. This is a mistake that requires a strong critique, as this is one of the pillars over which Macey constructs his argument.
The author admits as a given fact the abovementioned dyadic relation. Even though he is aware of the different standpoint which other countries give to corporate governance and to the roles and persons to which agents-fiduciaries are actually obliged in this regard, in a particularly skeletal argument he devices such different position and admits his own (American) comprehension of the nature of corporate governance, without a broader justification.
By doing so, Macey neglects from apprehending the meaning that the Enron, WorldCom and lately, the Lehman Brothers, Fannie Mae, Freddie Mac, Merrill Lynch, and AIG(to mention a few examples) meltdowns’, has had over the way in which corporate America is seen, and is more likely to be seen, by shareholders and the society, in the present and future.
Such meltdown taught us a huge lesson: corporations and property (need to) comply with a social function. It is unrealistic to say that corporations only keep a relationship with their shareholders. The society also has interest vested in corporation, and has implicitly adopted certain promises which such corporation and vice versa. Society has adopted the compromise of allowing the peaceful and normal development of the company’s activities, and the company has admitted to undertake its social enterprise without generating negative effects and externalities over the society.
The society has, however, allowed the furtherance of such companies, under the assumption that such corporations, as well as the ownership rights which shareholders have over them, will be used in furtherance of the general welfare of society and not only of the shareholders alone. Subsequently, a different argument can be made, whereby corporations have duties and not only rights in regard to society, especially when the company’s social enterprise is likely to have (sooner or later) a negative or positive impact over people different from the shareholders.
Stakeholders, the government and the society, are by means of this argument included within the scope of the actors which would arguably need to play a role over the corporate governance of companies. I will call this, the Triadic Theory. Further, it may be argued that the bigger the corporation is, the larger the interest that stakeholders, government and society, have over its corporate governance mechanisms. The Dyadic Theory of corporate governance cannot be perpetually implemented at the expense of society’s general welfare.
This is particularly true when the corporation’s growth or failure is likely to have macroeconomic impacts over society (e.g. Citibank, Chrysler). If corporations expect that the government (this is, the people by means of the tax they (we) pay) passes bailout regulations and other type of aid to corporations in times of crisis, then it is true that corporate governance cannot be simply about management and shareholders, as it is true that the corporation has assumed certain additional (implicit) obligations, to pursue its activities in a lawful and beneficial way to its stakeholders and society.
When Citibank or AIG pay millions of dollars to its management, few days after the government has spent millions of dollars (of the people) in order to save those companies, than it cannot just be said, that corporate governance is just about shareholders and management. Further, arguably, the right of society over corporate governance does not simply arise in moments of crisis, but rather exists always, as it is apparent that corporations and property have a social function. This argument is thoroughly developed by Von Gierke and Jhering, correspondingly.
All things said, it is crystal clear that underlying Macey’s work, a challenging philosophical, economic, and political issue is at stake, this is: corporate governance is a matter of interest to only two parties (this is shareholders and management)? Or the society has a vested interest in the success of corporations (at least in many of them)? If we adopt the latter alternative, then which would be the mechanisms we should likely prefer?
As Macey puts it, several mechanisms have been implemented as means to fostering corporate governance. Some of them, in my view, respond more to the general interest of society in the company (this is, the Triadic Theory), and others respond more to the Dyadic theory. Thus, the relevant divisions of corporate governance mechanisms do not rely on the effectiveness of said mechanisms, but more in the underlying philosophical question with regard to the function of the state in connection with corporations under the Triadic Theory. The question then is if – under the Triadic Theory – the state should withdraw from exercising and fostering corporate governance mechanisms which do not simply leave to the market sphere the good (or bad) management of corporations.
Mechanisms such as the Securities and Exchange Commission and the Organized Stock Exchange, and the Accounting Rules and the Accounting Industry Regulations, should then be reformed in order to make them more effective, rather than being discarded under not evincing conclusions and arguments. The other mechanisms should be fostered also, but in a different way. This is, they should be fostered in achieving the purposes of Corporate Governance, under the Triadic Theory, with the implications that such approach has.
The first and foremost implication would be that the main end of the corporations and of corporate governance would not be necessarily to maximize the wealth of the shareholders. Rather, such end would be limited by an implicit social norm, according to which the shareholders accept in the moment of incorporation of the company that the maximization of wealth cannot be made at the expense of the society and of third parties. I will call this the Implicit General Welfare Agreement.
The aforesaid is particularly relevant, as its application would have a major impact over the ways in which shareholders, directors and management exercise their roles in certain social enterprises, which, say, generate damaging effects over environment, over health, economic stability, or which foster wars in the Middle East.
This general and rather philosophical assumption needs the support of actual and real mechanisms for this Triadic Theory level of corporate governance. For instance, and as a way of example, I believe that one possible way in which the strongly criticized capture of the boards of directors could be avoided or reduced, by periodically rotating such directors, in order to restrain strong relationships to arise between the latter and management. Further, such measure would solve the problem signaled by Macey, according to which the dual function of directors as advisors and monitors generate the impossibility of an effective control. The schizophrenia annotated by Macey, could also be reduced by adopting Europeans scheme of two types of directors, adding our proposal of rotation every certain period (i.e. one year).
Finally, I believe that creative ways can be found in order to correct the defects of many of corporate governance mechanisms, and they should not be discarded under Macey’s unconvincing critics, which, in addition, depart from a wrong comprehension of the present function that has been granted to corporations.