The Institutional Theory of the Firm: Embedded Autonomy 9780367142674, 9780429030994

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The Institutional Theory of the Firm

The Institutional Theory of the Firm examines recent and previous organization theory literature to advocate what Evans (1995) refers to as the “embedded autonomy” of the firm, as well as its role in being simultaneously anchored in, for example, corporate legislation and regulatory practices on the national, regional (i.e., within the European Union) and transnational levels, while at the same time being granted the right to operate with significant degrees of freedom within this legal-regulatory model. Seen in this view, the embedded autonomy of the corporation represents a theoretical view of the corporation that complements the market-based image of the corporation in economic theory. When advocating the institutional theory model, three forms of embedded autonomy are examined. First, the corporation is enacted as a legal entity sui juris—as a freestanding “legal person” in corporate law and within the regulatory framework that serves to enforce legislation in everyday life settings. Second, the corporation is embedded within what social theorists refer to as moral economies, the norms and values that regulate what are the socially acceptable and legitimate means for conducting business. Third and finally, the corporation is embedded in governance, a relatively complex economic concept that denotes legal and regulatory control on the societal and economic system levels, and on the level of the individual corporation. By combining the three forms of embeddedness, sanctioned by law, norms, and governance, the embedded autonomy of the firm is secured on the basis of a variety of social practices and resources. This book brings together a diverse literature including management studies, economic sociology, legal theory, finance theory, and mainstream economic theory to advance the argument that the corporation is best understood as what is embedded in a social and economic context, yet best serving its defined and stipulated ends by assuming considerable degrees of freedom to operate in isolation from various stakeholders. It will be of relevance for a variety of readers, including graduate students, management scholars, policy-makers, and management consultants interested in organization theory and management studies. Alexander Styhre, PhD (Lund University, 1998), is chair of Organization and Management, Department of Business Administration, School of Business, Economics, and Law, University of Gothenburg.

Routledge Studies in Management, Organizations, and Society

This series presents innovative work grounded in new realities, addressing issues crucial to an understanding of the contemporary world. This is the world of organised societies, where boundaries between formal and informal, public and private, local and global organizations have been displaced or have vanished, along with other nineteenth-century dichotomies and oppositions. Management, apart from becoming a specialized profession for a growing number of people, is an everyday activity for most members of modern societies. Similarly, at the level of enquiry, culture and technology, and literature and economics, can no longer be conceived as isolated intellectual fields; conventional canons and established mainstreams are contested. Management, Organizations and Society addresses these contemporary dynamics of transformation in a manner that transcends disciplinary boundaries, with books that will appeal to researchers, students, and practitioners alike. Recent titles in this series include: Visual and Multimodal Research in Organization and Management Studies Markus A. Höllerer, Theo van Leeuwen, Dennis Jancsary, Renate E. Meyer, Thomas Hestbæk Andersen, and Eero Vaara Work Orientations Theoretical Perspectives and Empirical Findings Edited by Bengt Furåker and Kristina Håkansson The Institutional Theory of the Firm Embedded Autonomy Alexander Styhre For more information about this series, please visit: www.routledge.com

The Institutional Theory of the Firm Embedded Autonomy

Alexander Styhre

First published 2020 by Routledge 52 Vanderbilt Avenue, New York, NY 10017 and by Routledge 2 Park Square, Milton Park, Abingdon, Oxon, OX14 4RN Routledge is an imprint of the Taylor & Francis Group, an informa business © 2020 Taylor & Francis The right of Alexander Styhre to be identified as authors of this work has been asserted by him in accordance with sections 77 and 78 of the Copyright, Designs and Patents Act 1988. All rights reserved. No part of this book may be reprinted or reproduced or utilised in any form or by any electronic, mechanical, or other means, now known or hereafter invented, including photocopying and recording, or in any information storage or retrieval system, without permission in writing from the publishers. Trademark notice: Product or corporate names may be trademarks or registered trademarks, and are used only for identification and explanation without intent to infringe. Library of Congress Cataloging-in-Publication Data A catalog record for this book has been requested ISBN: 978-0-367-14267-4 (hbk) ISBN: 978-0-429-03099-4 (ebk) Typeset in Sabon by Apex CoVantage, LLC

Contents

1 2 3 4 5

Preface

vi

Embedded Autonomy: An Institutional Theory View of the Firm

1

Corporate Legislation: The Constitution of the Corporate Entity

31

The Moral Economy of Enterprising: Social Norms and Their Regulatory Function

57

Corporate Governance and Transnational Governance: The Limits of Self-Governance

102

Concluding Remarks: Re-Embedding the Corporation

142

Bibliography Index

164 185

Preface

At times it is remarked that the social sciences are becoming increasingly esoteric and separated from the everyday life of human beings in contemporary society. I have always wondered on what grounds such statements are made. Who can honestly claim to have the overview of the entire field of the social sciences, both diachronically and synchronically, to make such an assertion? Individual scholarly works may appear self-enclosed and distanced from everyday matters, at least from afar, yes, but an entire discipline or even the social science en bloc suffering from this predicament? I am not so sure. Being an author is to advance some kind of idea that derives from matters of joint concern and to contain that idea in its full complexity within a single volume. “Full complexity” here denotes the complexity that individual authors are capable of achieving within their cognitive limitations, analytical prowess, access to time, preferences, and so on, so in practice, the complexity is perhaps not that full, after all. Still, an author must write with this credo in mind to capture as much as possible within the work at hand. My advice, if I am entitled the right to issue such statements, to aspiring authors and a new generation of authors in the making is to follow the intuition regarding what is of relevance for the wider community outside of your own department or scholarly discipline, and maintain and nourish a literary ambition that follows from this intuition. There are zillions of ways to get rejected, marginalized, and overlooked in scholarly circles, but scholarly work is not, ultimately, about generating academic fame or celebrity, nor even about winning arguments: It is about accomplishing something that is genuinely meaningful. What is “genuinely meaningful” is then not of necessity a matter of being cited or being applauded by colleagues or the wider public, but to “dig where you stand” (as the Swedish proverb puts it), to be able to express something that needs to be said or to explore an area that is yet in the making, not yet fully examined in all its details. To become an author is thus to simultaneously move in two directions: to move “outward” to better apprehend what is happening in the wider society and in the community, and to move “inward” to better learn what you yourself are able and willing

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to explore and express in the medium of the bound volume of a book. Only by serving this role as a form of membrane or relay between the wider society and your own inner capacities, convictions, and ambitions can a meaningful and ultimately rewarding authorship can be secured. Over the years, I have written a handful of books, all based on the very same premises; this particular volume is also needed to account for these matters of joint concern in their full complexity. I probably have failed in predictable ways when writing these volumes, but for a scholarly author, “failure” is a blunt term that essentially falls to the side of scholarship as a partial success is already enshrined when the volume is printed; this volume is a material manifestation of the effort you invested in writing it. In this view, no books are failures as they have served their purpose to enable scholarly work to proceed, regardless of their intellectual or financial contributions and other defined benefits. The current volume examines how the incorporated business, perhaps the foremost institutions of the capitalist economic system, is embedded in a thick institutional framework constituted by legislation, social norms, and regulatory practices. Law, norms, and regulation are practically complicated to fully separate, as, for example, laws are to some extent a materialization and formalization of already existing norms, and norms are per se affected by legislation (at least as long as the social norm to “show respect for the law” is maintained). Furthermore, regulations are at times supported by law while in other cases they may be justified on the basis of inferences derived from reasonable assumptions regarding the legislator’s intentions. Law, norms, and regulations are thus entangled and bound in various ways. Regardless of these relatively distinct forms of institutional control, this volume argues that incorporated businesses are bestowed with an operational autonomy that is conducive to enterprising, risk-taking, and entrepreneurial ambitions, qualities and aspirations that ultimately render the economic system of competitive capitalism the dynamic and highly changeable and adaptable system it is. Using the concept of embedded autonomy, this volume provides an institutional view of the incorporated business. That does not mean that the theoretical framework used in the volume exclusively relies on institutional theory—old, new, and “beyond new” (e.g., the literature on institutional logic and institutional work). Instead, the volume draws on a transdisciplinary body of literature including economic theory, legal theory, finance theory, economic sociology, management studies literature, and literature safely couched within the humanities (e.g., philosophy and historiography). One of the key challenges with institutional theory is to actively fill the buckets of the conceptual terms with empirical content, and as virtually anything qualifies as an institution, institutional theory itself is poorly equipped to do this work. Therefore, economic, legal, and social theory are deployed to substantiate the oftentimes broad-sweeping claims made by institutional theorists.

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It is also important to keep in mind that this volume is written as a form of polemic or response to the corporate governance literature that enacts that the incorporated business and more specifically the public firm (whose stock is traded on stock exchanges) is little more than a bundle of financial contracts whose surplus value generated should be transferred to the owners of stock as an unambiguous contractual right. This shareholder primacy governance model is unsubstantiated by legal theory, case law, and the empirical evidence needed to support the benign wider economic and social benefits that its proponents anticipate or invoke to justify the model. I have previously addressed these concerns in the volumes The Making of Shareholder Welfare Society (Routledge, 2017) and Corporate Governance, The Firm and Investor Capitalism (Edward Elgar, 2016), and I do not repeat the argument here. In making this argument, economic theory, the discipline of economics, and economists as a professional community occasionally serve as the strawmen, and take a beating for ignoring institutional conditions. This critique should not be taken as a form of critique of economic theory and economics as an integrated and comprehensive professional and scholarly field of inquiry tout court. Rather, the critique is articulated against a small but influential free market theory community, frequently associated with conservatism, pro-business policy, and a libertarian ideology, especially in the United States. More specifically, Friedrich von Hayek, one the leading scholarly entrepreneurs and a libertarian icon during the inter- and post-world period, is used as a representative of an economic doctrine or even (more vaguely) an economic idea that has been modified and transformed into, for example, the shareholder primacy governance model. I am fully aware than the work done in this area is heterogeneous and manifold, and yet the axiomatic first principle of shareholder primacy governance theory— that salaried managers and directors squander economic resources in predictable ways and consequently generate considerable agency costs (the shareholder’s cost to monitor corporate decisions-makers such as managers or directors) that are in excess to the economic benefit generated by this delegation of decision-making to insiders—is not plausible. Instead, this volume argues that the incorporated business cannot be simply assumed as some fact of nature, but rather needs to be understood as a human accomplishment amidst a variety of issues, concerns, and interests expressed by various stakeholders and social actors. In this view, to regard the incorporated business as a form of an exclusive bilateral contractual relationship between executives and shareholders is not only a simplistic and inoperable model of the corporation, it is also economically and politically unattractive as it would undermine the corporation as a vehicle for the creation of economic and social welfare. In other words, the shareholder primacy governance model, which actively avoids

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or trivializes all the hard questions and difficult trade-off decisions that, for example, legislators and regulators need to handle, must be contrasted against a more comprehensive institutional framework wherein the full complexity of economic affairs is perhaps not fully apprehended, but is nevertheless recognized and actively incorporated in the continuous modification of the legal, norm-based, and regulatory framework that constitutes the incorporated business as a foremost vehicle for the production of economic and social welfare. Therefore, economic theory and the discipline of economics are no enemies of such pursuits, but within this scholarly field of research, some economists may downplay the role of policy-making, legislative reforms, and regulatory practices, that is, the institutional conditions that pertain to governance. This volume highlights these institutions.

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Embedded Autonomy An Institutional Theory View of the Firm

Exordium: Are Violations of Social Norms Good for Business? Coffee (2017), a legal scholar, has recently been paying attention to the role of the shareholder activism of hedge funds, undiversified funds that target illiquid holdings to be able to generate above-the-index returns for its clients, to provide an illustrative, yet alarming case of the consequences of the hedge fund business model. The American pharmaceutical firm Valeant Pharmaceutics has since around 2010 (i.e., after the major finance industry crisis of 2008) has been active in acquiring pharmaceutical companies with prescription drugs in their portfolios. Since 2010, Valeant has invested a total value of over US$36 billion in these acquisitions. When these companies and their prescription drugs were centralized under one management, the next move was to “raise the prices of those drugs astronomically—up to 600 per cent or more” (Coffee, 2017: 223). For instance, in February 2015, Valeant purchased the two drugs Isuprel and Nitropress, which treat abnormal heart rhythm, congestive heart failure, and hypertension episodes—these are apparently no “hair loss therapies” but life-saving medications—for the sum of US$350 million. When the deal was sealed, Valeant “increased their prices by 525% and 212% overnight” (U.S. House of Representatives Memorandum, cited in Coffee, 2017: 223, footnote 9). According to the U.S. House of Representatives Memorandum, it is demonstrated that “Valeant identified goals for revenues first, and then set drug prices to reach those goals”: When this strategy was implemented, Isuprel and Nitropress generated gross revenues of “more than $547 million and profits of approximately $315 million in 2015 alone” (U.S. House of Representatives Memorandum, cited in Coffee, 2017: 223, footnote 9). This strategy, to try to squeeze out the last penny from patients and their insurance companies on the basis of acquisitions and financial engineering, was nothing unique to Veleant. The most extreme case of this procedure was, Coffee (2017: 227, footnote 23) reports, Turing Pharmaceuticals, which “marked up the price of Dataprim from $13.50 per

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tablet to $750 per tablet” (Coffee, 2017: 227, footnote 23). When Turing Pharmaceuticals’ activities received increased attention and became subject to congressional hearings, the founder and CEO of Turing, Martin Shkreli, a former hedge fund manager, defended Turing’s strategies before Congress by suggesting that “[a]ll drug companies were now following Valeant’s model” (Coffee, 2017: 227, footnote 23). Subsequent news articles published in the United States “have agreed that he was largely correct,” Coffee (2017: 227, footnote 23) writes. Coffee argues that the business strategies of Valeant and Turing need to be explained on the basis of the current hedge fund business model.1 The press portrayed Valeant as “a hedge fund hotel,” as there were “a number of prominent hedge funds held large stakes in it or even took seats on its board” (Coffee, 2017: 226). “Symptomatically,” Coffee (2017: 223) argues, “Valeant was emulating the behaviour of activist hedge funds, which characteristically seek in their ‘engagements’ with public firms to reduce the target firm’s investment in longer-term projects in favor of maximizing shareholder payout.” In this case, “maximizing shareholder payout” does not primarily need to avoid investment in projects with limited anticipated returns or to otherwise squander the corporation’s finance capital or other resources to the detriment of shareholders and other stakeholders, but to put patients under medication and their agents under the pressure to pay astronomical amounts of money to merely survive, or to maintain a reasonable quality of life. This business strategy violates social norms and is likely to create negative responses from regulators and the public equally. In this pursuit of shareholder enrichment, unhealthy and vulnerable people were targeted and costs were imposed on all Americans relying on healthcare insurance now and in the future. The interesting thing is that hedge fund activism is not illegal but merely violates what some would regard as good social norms. This makes hedge funds (whose idiosyncrasies and practices will not be covered here; see, e.g., Coffee and Palia, 2016, for an overview) a particularly interesting species in the finance industry; they serve as a market force that put directors and managers under the heat as their business acumen and integrity are being tested. As Coffee (2017: 223) remarks, “Discussions of corporate ethics and social responsibility often tend to be more aspirational and exhortative than diagnostic,” but the cases of Valeant and Turing and their connections to the hedge fund industry are bona fide, hands-on cases with actual material consequences. The question in the headline of this section asks whether violations of social norms are good for business, but to rephrase that question, to ask whom such violations are good for, one straightforward answer would be “the hedge fund managers” themselves: Hedge fund managers are so extraordinarily well compensated that in some years the top five hedge fund managers have earned more

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3

than all S&P 500 firms’ CEOs combined. Only the hedge fund manager receives a large incentive bonus, and the result is to create a very large incentive to accept risk. Put differently, hedge fund managers profit on the upside but do not necessarily bear much downside risk. Thus, if I get 20 per cent of the profits and 0 per cent of the losses, I am incentivized to accept risk. (Coffee, 2017: 233) Representing a general concern regarding the design of the compensation packages of finance industry actors, this compensation model generates considerable externalities that befall third parties—for instance, salaried workers and taxpayers. The current model underprices downside risks as no or inadequate penalties accompany capital losses, whereas the ability to exploit upside risk is generously compensated, which attracts individuals with high-risk appetites to make their careers in the finance industry. Furthermore, Coffee (2017: 233) continues, aggressive and risk-seeking hedge fund managers who target illiquid, yet high-return investment objects such as pharmaceutical companies with a portfolio of prescription drugs create indirect incentives inasmuch as hedge funds with reported substantial above-normal returns attract more investors and clients (on hedge fund growth, see, e.g., Lysandrou, 2018: 55; Cheffins and Armour, 2011: 79): If hedge fund manager are successful, “money will flow into their funds, leading to higher future fees” (Coffee, 2017: 233). For policy-makers, legislators, regulators, and the wider public, the cases of Valeant and Turing, and their hedge fund connections point at a number of issues to address regarding the capacity of economic systems, including competitive capitalism, to self-regulate and to demonstrate resilience. In this specific case, a small number of the business elites are capable of taking the majority hostage on the basis of shrewd financial engineering and legal loopholes as they can extract enormous sums of money from a collective system designed to provide decent and reasonable healthcare services for American insurance holders and taxpayers. This in turn, to direct the attention to the theme of this volume, casts doubt on the efficacy of the embedded autonomy of the corporation that has been the leading principle for corporate legislation, governance, and economic policy regarding the role of the corporation in a wider societal context—namely, the highly differentiated welfare state wherein enterprising and venturing need to be combined with other social and economic interests, including, for example, private or public healthcare services. That is, the question, “Are violations of social norms good for business?,” may be answered, “It depends!” It could be added that there are for sure cases where this question can be answered affirmatively, but that such extraction of economic value from collective or private resources generates social costs that surface someplace. This question in turn calls for increased attention to the issue of how the private corporation acts, and

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is intended to act (which, of course, is a source of debates and disputes) within the wider framework of society.

Introduction: The Institutional Theory of the Corporation and the Concept of Embedded Autonomy This volume is based on the concept and theoretical framework advocated by Peter Evans (1995): embedded autonomy. The corporation is here enacted as what is a legally and managerially autonomous entity that is treated as such in economic reporting and in court cases in the unfortunate event of disputes between business partners or stakeholders. At the same time, this autonomous corporate entity is located in a thick institutional, economic, financial, cultural, moral, and ethical context, wherein a variety of stakeholders and more abstract legislative or normative conditions influence and structure the day-to-day activities inside of organizations. Evans’ (1995) concept of embedded autonomy is helpful as it is indicative of the various legal, regulatory, and managerial tradeoffs and reconciliations that have been accomplished to establish the corporation as a functional vehicle for venturing and enterprising—a legal and socioeconomic innovation that has benefitted economic welfare and social differentiation in considerable ways. The concern is that this embedded autonomy is a form of a balancing point as various stakeholders want to pull this corporate entity in either direction to benefit their own interest, or to promote other political objectives. Proponents of “embedded liberalism” who grant the sovereign state a key role in promoting and funding, for example, entrepreneurial activities may prefer to even further embed the corporation within the state apparatus and its various agencies, thus blurring the boundaries between “private” and “public,” to better benefit economic growth, employment, or some other defined objective. In contrast, “pro-business” communities may be concerned about the expanding role of a paternalist state as they regard such tendencies as what imposes additional costs on enterprising agents, and what dilutes responsibilities and rights, and therefore they seek to further separate the corporation from the influence of, for example, political decisions and regulatory activities. However, as Sklar (1988), who studies the emergence of competitive and corporate capitalism in the 1890–1916 period, remarks, there is nothing “natural” about the current economic system. Instead, corporate capitalism “had to be constructed”—that is, it did not “come on the American scene as a finished ‘economic’ product, or as a pure ideal type” (Sklar, 1988: 15); nor did corporate capitalism “take over” society and simply “vanquish or blot out everything else” (Sklar, 1988: 15). Instead, corporate capitalism was a framework of loosely coupled visions of an economy wherein the corporation was a foremost legal device, conducive of economic venturing and welfare, and which provided various stakeholders with possibilities for

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advocating their interests within a joint scenario. That is, corporate liberalism, the underlying political ideology of the corporate system, “emerged not as the ideology of any one class, let along the corporate sector of the capitalist class, but rather as a cross-class ideology expressing the interrelations of corporate capitalists, political leaders, intellectuals, proprietary capitalists, professionals and reformers, workers and trade-union leaders, populists and socialists” (Sklar, 1988: 35). This view of corporate liberalism is consistent with how Selznick (1969: 44) defines an institution, as something that is “not an expendable instrument for the achievement of narrowly defined goals,” but that is “valued for the special place it has in the larger social system and for the way it serves the aspirations and needs of those whose lives it touches.” In Selznick’s (1969: 44) account, an institution is part of the social fabric as it “usually serves more than one goal or interest,” and “endures because persons, groups, or communities have a stake in its continued existence.” That is, in Sklar’s (1988) terms, corporate liberalism was viable as it served the interests of a variety of stakeholders, and these stakeholders vindicated corporate capitalism as a palatable solution to defined problems and choice alternatives within the horizon of perceived objectives and possibilities. The Free Market Theory View: The Market as Spontaneous Order In order to advocate the embedded autonomy model of the firm, its antithesis, the free market, neoliberal image of the firm needs to be presented. The Austrian economists Friedrich von Hayek is one of the most prominent intellectuals within the free market theory movement, which operated as a subterranean brotherhood during the entire post– World War II period, an era otherwise dominated by Keynesianism and the expansion of the welfare state. In the Austrian school of economics, price theory (see, e.g., Davies, 2010; Ulen, 1994; Hovenkamp, 1985), stipulating that market participants process available public information on the basis of the price-setting mechanism, is the elementary function in an economy, serving to structure and to further differentiate markets. Hayek (1978) believes the markets are “spontaneous orders” that exist before any social (e.g., state-governed or community-based) initiative to shape and form markets. As the spontaneous order of the market is granted an ontological status in Hayek’s thinking, the rule of law, which is a defining feature of a liberal society that protects the individual from the “arbitrary will” of other actors, including not the least the government, merely serves to assist and to further fortify the spontaneous order: In so far as there is a spontaneously ordered society, public law merely organizes the apparatus required for the better functioning of that more comprehensive spontaneous order. It determined a sort of

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Embedded Autonomy superstructure erected primarily to protect a pre-existing spontaneous order and to enforce the rules on which it rests. (Hayek, 1978: 79)

Hayek (1978: 90) refers to the spontaneous order of the market economy as a catallaxy, a neologism derived from its Greek root katallatein, meaning “to exchange,” but also “to receive into the community,” and “to turn from enemy into a friend.” A catallaxy, Hayek suggests, is a spontaneous economic and market-based order wherein exchange between consenting agents generates the largest possible freedom, while simultaneously maximizing the efficiency of economic exchanges. Hayek’s axiomatic idea of the spontaneous market order is arguably the weakest point in his argument as it is both counterintuitive and poorly assisted by empirical data and historical records (see, e.g., Braudel, 1977). Other theorists and scholars have pointed at the role of market-makers (e.g., Vogel, 2018; Jacobides, 2005; Carruthers and Stinchcombe, 1999; see especially the legal theory of finance literature, e.g., Pistor, 2013; Judge, 2017), and not the least the sovereign state in creating functional markets (Vogel, 2018), and have carefully accounted for how the economy is always of necessity constituted “from the bottom-up” within social communities, thus being based on norms, values, customs, standard operating procedures, and so on, rather than simply being given from the outset. In contrast, Hayek simply eliminates all these social complexities and processes and stipulates a market system that predates any other social relations to leverage the market to become a theological or metaphysical concept, serving as a first, axiomatic principle and therefore being protected from the demands to be substantiated by empirical evidence. Based on the spontaneous order argument, Hayek proceeds to state his preferences regarding the role of the sovereign state vis-à-vis its subjects. Using the term “freedom” but in a most specific and confined sense of the term, Hayek (1967: 229) offers a negative definition of freedom (“freedom from”) as being the “independence of the arbitrary will of another.” This freedom from interventions from the sovereign state and its defined agencies is justified on two grounds. First, liberalism and its stipulated economic freedom that Hayek (1967: 165) advocates is “inseparable from the institution of private property.” The right to own property, earned on the basis of one’s own labor, as John Locke defined in it his Two Treatises of Government (1630), is a constitutional right, but the right to own property is widely accepted and recognized across the political board and is no specific feature of Hayek’s theory of freedom. Second, economic freedom is “the matrix required for the growth of moral values,” Hayek (1967: 230) proposes. Hayek suggests that only a society granting market pricing and free enterprising a central and autonomous role is capable of nourishing the norms and values needed to secure economic freedom. This is a controversial and disputed

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position as there is ample evidence of markets being dysfunctional, and market actors benefitting from opportunistic behavior, which makes the connections between market pricing and morals tenuous at best, and outright absurd at the lower end. Nevertheless, based on this negative definition of freedom, in turn justified by the principle of spontaneous orders, floating freely and with no underlying causes or foundation, Hayek dictates a set of rules and principles for the governance of the economy. First of all, any attempts to “correct” or “mediate” the consequences of market pricing is rejected tout court. Hayek (1967: 170) refuses to accept the term “distributive justice” as this is a “conception of justice which did not confine itself to rules of conduct for the individual but aimed at particular result for particular people.” For instance, the sovereign state that implements a progressive income taxation scheme to finance its administration and to fund economic transfer systems to avoid overbearing economic inequality and its consequences is rejected as a form of “a totalitarian order.” In Hayek’s account: “All endeavours to secure the ‘just’ distribution must . . . be directed towards turning the spontaneous order of the market into an organization, or, in other words, a totalitarian order” (Hayek, 1967: 171). The principles of Keynesian economic theory, and not the least the welfare economics advocated by A.C. Pigou (see, e.g., Pigou, 1951), are thus rejected out of hand by Hayek on the grounds that such policies (1) violate the spontaneous order of the market, and, as a consequence, (2) undermine the individual’s freedom: “The ideal of using the coercive powers of government to achieve ‘positive’ (i.e., social or distributive) justice leads .  .  . necessarily to the destruction of individual freedom,” Hayek (1967: 171) writes. In advocating the neoliberal market order, Hayek moves back and forth between highly speculative propositions regarding the nature of economic affairs (the spontaneous order, the concept of freedom derived therefrom, etc.), and hands-on advice of great importance for policy-making and day-today political work, essentially restraining the role of the sovereign state. To advocate principles in abstracto and to turn them into actual policy are two quite different activities, but Hayek is not shy of crossing the boundary and recognizes no concerns when doing so. Regarding the nature of the firm—the principal subject in this context—Hayek (1967) questions how the political system of democracy can assist the corporation when polity is heavily geared towards making distributive justice its core objective. Consistently following from his economic model, based on the principles of the spontaneous order, economic freedom, and the rejection of any attempts to infringe on these liberties, Hayek (1967) argues that the corporation should be freed from any other responsibilities than to maximize its profits. This is a principle that was famously declared by Milton Friedman in a Newsweek op-ed column in 1970, frequently cited as the locus classicus of the shareholder value governance model, but Hayek maintained this view throughout the entire

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post–World War II period, arguably making Friedman one of his spokespersons. Hayek suggests that the corporation should be governed on a profit motive and nothing else as any other “value” would distract managers and directors and suboptimize the use of firm-specific resources. Furthermore, managers and directors are the agents of the shareholders, Hayek proposes, and they cannot impose additional values “from the outside” (e.g., what Hayek, 1967: 300, refers to as “social considerations”) when serving in this role: “The corporation that has the sole task of putting assets to the most profitable use has no power to choose between values: it administers resources in the service of the values of others” (Hayek, 1967: 301). In the end, Hayek (1967: 308) contends, “[m]aximizing profits is socially desirable.” Dis-Embedding: The Underappreciation of Social Norms For critics, the “spontaneous order” that Hayek advocates as the ultimate principle of his economic and political theory is a fragile foundation for the various claims made on the basis of this elementary proposition. The “norms” that serve to generate the spontaneous order are brought in by “the conservative or anti-collectivist [individual]” (Charny, 1996: 1844) as a nonlegal norm system that justifies the laissez-faire approach they mandate. The concern is that as an elementary proposition, the concept of norms entails two major epistemological challenges. First, there is, Charny (1996: 1848) argues, an “absence of a reliable metric for determining the substantive efficiency of particular norms,” which leaves the analyst in the dark regarding the degree of substantive rationality of existing norms. There is evidence of social norms that preserve various inefficiencies and that generate considerable externalities, so the nonlegal norm system cannot be certified as being “efficient” out of hand, the core term in Hayek’s vocabulary and line of reasoning, not even “being more efficient” than other regulatory systems including central planning. Second, Hayek’s model is based on the premise that all actors are properly informed about relevant norms, and that they understand their application and their consequences when being applied (Charny, 1996: 1857). As empirical evidence frequently demonstrates that actors fail, for example, to make optimal decisions (say, when managing household debt; Zinman, 2015), an assumption regarding a full and comprehensive recognition of norms is unreasonable. Furthermore, the idea that economic analysis can generate a useful set of social judgments about norms based on the efficiency-criterion is overoptimistic, Charny (1996: 1857) argues. As Charny’s (1996: 1857–1858) objects, “There are simply too many unobservable variables, particularly those that bear on the ‘noneconomic’ motivations and preferences that must play a role in [the economy] and the effectiveness of complex sanctioning systems.” In the end, therefore, Hayek’s ambition to make norms the elementary social mechanisms that

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generate spontaneous orders on the second level is beset by epistemological difficulties that Hayek fails to put to rest, simply because Hayek excludes the social component of norms: Hayek’s insistence on the impenetrability of human preferences— and, correspondingly, the impossibility of their satisfaction through centralized institutions—might have provided a stronger ground (at least, than anything in modern welfare economics) for a presumptive judgment in favor of nonlegal normative systems. The normative project, then, would be to describe, not only the efficiency but also the other, as yet, largely inchoate or unarticulated social virtues of these systems. Ironically, then, it would be in the irrationality, not the rationality, of social actors that the authority of these systems is ultimately grounded. (Charny, 1996: 1857–1858) In Charny’s (1996) view, Hayek speaks of norms as he defines them (i.e., as what retrospectively serves to constitute spontaneous orders), rather as what they are in the legal and social science vocabularies, and therefore norms are defined on the basis of an economic rationality that already from the outset assumes that norms are (1) efficient (or at least more efficient than any other competing mechanisms), and (2) widely recognized and thoughtfully applied and known in their consequences. Ultimately, Hayek’s argument is based on what Aronova, von Oertzen, and Sepkoski (2017: 4) call Whig history, wherein the present is understood as the inevitable outcome from historical conditions. In this view, the projection of categories of the (ideal) present (in Hayek’s case, the free market economy) onto elementary analytical concepts (e.g., norms) undermines empirical data that suggest that norms are either complicated to stipulate as being inherently efficient or widely recognized (or combinations thereof). In this view, the ideal outcomes are self-referentially justified on the basis of elementary analytical concepts that were originally defined from the vantage point of the ideal derived situation or condition. Like the kitten chasing its tail, Hayek’s argument cannot be substantiated solely by recursively referencing categories being defined within his own analytical model. Hence the mise en abŷme predicament of the spontaneous order argument. For instance, as Sugden (1989: 86), one of the proponents of the idea of a spontaneous order, writes, “The market itself is in important respects a spontaneous order. Many of the institutions of a market economy are conventions that no one has designed, but that have simply evolved.” But to declare that something has “simply evolved” is not a very convincing argument per se, nor is it qualifying as being a scientific proposition as this “evolution” itself is precisely what social and economic theorists are anxious to learn more about in detail. Leaving the reader in limbo regarding what this mysterious “simply evolved” means

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in practical and theoretical terms, Sugden (1989) accomplishes little more than to pledge allegiance to an analytical model that is incomplete and ultimately unconvincing. Despite these concerns, the economic model that Hayek presents is the blueprint of the neoliberal and libertarian economic model that was rolled out from the late 1970s and reached its zenith in the first half of 2007, just before the finance crisis, which undermined the free market model, surfaced (Burgin, 2012; Peck, 2010; Mirowski and Plehwe, 2009; Howard and King, 2008). The concept of embedded autonomy rejects many, if not most, of Hayek’s principles. It stipulates that (1) the market is a man-made arena for economic exchanges, not some original, pristine “spontaneous order” predating human initiatives; (2) the sovereign state and transnational agencies play a key role in assisting market creation and supporting continuous operations; (3) economic inequality is a policy issue that justifies interventions into market activities as the state not only imposes taxation on market actors but also provides subsidies and carries many of the costs and liabilities (for instance, in the finance industry, the state serves as the lender-of-last-resort and is ready to step in to bail out defaulting finance institutions to restabilize the faith in the finance industry during crises; Frieden, 2016; Grossman and Woll, 2014; Levitin, 2011) that benefit market actors in substantive ways; (4) the firm is not a legal device created to singlehandedly benefit capital owners and investors but was protected by law and instituted in emerging market economies to promote enterprising, venturing, and economic welfare more widely. Having said that, the corporation is embedded in an economic system but is simultaneously granted the right to operate with considerable autonomy, including managerial discretion, but it must not be treated as an elementary economic entity that operates in isolation from wider socioeconomic interests. The corporation is a creation within the realm of the sovereign state, but is partially released from its influence to enable private enterprising and to avoid dysfunctions such clientelism (Kuo, 2018) or crony capitalism (Rosas, 2006: 175). But just as the state imposes laws and regulations on corporations and collects various taxes and produces subsidies and insurances, so too do corporations seek to influence the state through various mechanisms, ranging from industry policy negotiations to lobbying to gain political influence and campaign donations. In this field of struggle over the right to define the corporate entity and its role in generating goods and services that are conducive to increased economic welfare, the governance and management of the corporation occur at the equilibrium wherein all these ideas, arguments, and campaigns intersect. The Organization Theory View The âge classique of organization theory is the late 1940s to the mid1960s, and a review of the literature reveals a gradual shift from systemic

Embedded Autonomy 11 and functionalist definitions of “organization” to increasingly fluid open system theory-derived definitions of the term. Talcott Parsons (1956: 64) defined “organization” on the basis of its stipulated goals: “As a formal analytical point of reference, primacy of orientation to the attainment of a specific goal is used as the defining characteristic of an organization which distinguishes it from other types of social system.” In this view, an organization is a “social system” that includes many mechanisms that are aligned and coordinated to generate certain desirable outcomes such as the production of goods and services, and secondary outcomes such as the generation of jobs and the ability of the state to collect income taxes. This Parsonian functionalism was highly influential, and also scholars otherwise being more inclined to rely on institutional theory made use of this goal-orientation definition of organization. Blau and Scott (1963: 1), for instance, being part of Robert E. Merton’s research group at Columbia University, defined organization as “[a] social unit . . . that has been established for the explicit purpose of achieving certain goals.” However, in the period, increasingly complex definitions were introduced, including Etzioni’s (1964: 3) work where organization is characterized by three main qualities: “(1) division of labor, power, and communication responsibilities, divisions which are not random or traditionally planned to enhance the realization of specific goals”; (2) the presence of “[o]ne of more power centres,” which control “[t]he concerted efforts of the organization and directs them toward its goal”; and (3) the “substitution of personnel, i.e., unsatisfactory persons can be removed and others assigned their tasks.” This definition of organization is considerably more complex, but unfortunately blurs the distinction between the formal definition of organization and its actual mechanisms and operations. In this view, the more parsimonious and eloquent definition provided by Stinchcombe (1965: 142) may be preferred, wherein an organization is portrayed as “a set of stable social relations deliberately created, with the explicit intention of continuously accomplishing some specific goal or purpose.” In Stinchcombe’s (1965) view, “social relationships” are at the core organizing, and in the general tendency to move beyond the functionalist theory and instrumental view of social systems advocated by Parsons (1956) in the 1970s and 1980s (for an illustrative work, see Silverman, 1970), there was considerably less emphasis on formal mechanisms whereas social relations were brought to the forefront of the analysis. Consequently, when Aguilera and Jackson (2003: 450. Footnote 5) define the firm (being one specific class of organization), they speak about it as “[a] collection of resources embedded in a network of relationships among stakeholders.” In this more recent view, the corporation is an autonomous legal and administrative entity, a device conducive to venturing and enterprising, yet firmly embedded within the policy-making and regulatory control of the sovereign state. The significance of this complex term, bordering on what is oxymoronic, will be discussed in the following.

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The Concept of Embeddedness A quite extensive literature discusses the nature of embedding in the economic sphere, including, for example, embeddedness on the firm level derived from political relationships (Prechel and Morris, 2010), the participation in knowledge networks (Lam, 1997), or even from the capacity to use rhetoric (Green, Li, and Nohria, 2009). Such embeddedness in turn generates firm-specific advantages such as the capacity to borrow money within banking networks (Mizruchi, Stearns, and Marquis, 2006; Uzzi and Lancaster, 2002), and provides better chances for firms that raise finance capital to attract investors (Uzzi, 1999). The literature also examines how embeddedness can generate benefits on the individual level, and demonstrate that individuals who need to be loyal to both their employer and their clients (as in the case of, e.g., public relations consultants; Bermiss and Greenbaum, 2016) need to establish mechanisms that reconcile the tensions between competing institutional logics (Pache and Santos, 2013). That is, on the level of the individual, the structural benefits of the embedded autonomy of the firm become a practical issue to handle. Finally, the embeddedness literature includes studies of how markets are embedded in social relations at the same time as they need to operate as an autonomous calculating device (Krippner, 2001). Similarly, market regulators need to carefully navigate between being too close to the regulated subjects, which would potentially compromise the integrity of the regulator, and being too distant from the day-to-day life of the industry, which would undermine the accuracy and precision of the regulatory activities (Thiemann and Lepoutre, 2017): “[W]hen regulators were embedded in the interpretive communities of both these regulatory spheres, they were more aware of rule-bending behavior and therefore were better equipped to reregulate” (Thiemann and Lepoutre, 2017: 1807). This literature thus sketches “embeddedness” and “embedded autonomy” as analytical terms that are applicable in a variety of empirical contexts. These concepts may shed light on the relationships between different economic and social actors who have shared, yet somewhat divergent interests, and therefore benefit from close collaborations and yet keep an arm’s-length distance from other stakeholders as that integrity and autonomy have many benefits and merits that translate into substantial economic effects. At the very heart of the embedded autonomy model argument lies the risk to either separate economic agents and entities too much, or to bring them together too tightly, two dangers that generate their own costs and unintended consequences. In this volume, the principal argument is that the corporation is both practically and theoretically best understood as what is embedded in the market, and therefore in the legal and regulatory control of the sovereign state and transnational agencies. To be more specific, the present volume examines three classes of embeddedness and specific degrees of autonomy,

Embedded Autonomy 13 including: (1) law, and more specifically corporate legislation; (2) morals— that is, the ethics, norms, and values that constitute the “moral economy” wherein the corporation operates; and (3) the governance structure that informs and shapes the day-to-day activities of the corporation. With this declaration made, the question then focuses on why the concept of embedded autonomy is helpful when examining the current situation, and tendencies and trends in the field of industry and enterprise. The concern is that the corporation as it is conceived of in Organization Theory 101 courses—that is, the public and divisionalized corporation and varieties thereof—traditionally being the backbone legal device in competitive capitalism, can no longer assume the central role it once had in Western and global society. The institutional legitimation of the public corporation is now challenged by the pressure of the corporation to adjust to marketbased and essentially shareholder activism-oriented governance models, gradually transforming the public corporation—at times referred to as the Berle-Means corporation in the governance literature as an homage to the classic work of Adolf A. Berle and Gardiner Means published in 1932, at the height of the Great Depression—from an autonomous legal entity to a form of governance device that serves to maximize shareholder welfare. As always with human institutions diverse enough to include a variety of practices, norms, values, and so forth, to regulate human lives from birth (or better still, also from pregnancy as such) to grave (and at times, even beyond it), very little is determined by exogenous conditions as institutions are human fabrications that change over time. Slave economies gave way to market economies and salaried work, traditional beliefs and religiosity gave way to scientific thinking and experimental methods (in considerable and substantial ways), and the autocratic leadership, characteristic of the monarchy being the aristocratic class’ foremost political institution, gave way to democratic egalitarianism. All these positive cases in the eyes of a modern liberal may falsely indicate that history is always leading to things that are better, more efficient, and more rational than they used to be in the past (the process of “Rationalizierung” in Max Weber’s use of the term). Unfortunately, the assertions made on the basis the of the great modernist belief in historical progress, inherited from the Enlightenment era, which Jean-François Lyotard (1984) famously referred to as a grand récit, is not to be blindly trusted. It is sometimes said that the millennials (children born on this side of the turn of the century) are at risk to be the first generation for a considerable period of time that will be less affluent on the aggregated level (regional and individual variation are, of course, anticipated) than their parent generation. Whether such dour prophecies will prove to be correct only the future unfolding can tell, but this potential disruption in the “hockey-stick” growth curve is per se an indication of the decline in the belief in the future in Western societies. The question is then what role the incorporated business—the firm—will play in the future.

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In the era of industrial and manufacturing-based capitalism that dominated in the post–World War II era, the corporation was an economic-legal institution that offered many benefits, and that served as a nexus between a variety of political and practical interests. In short, the corporation was one of the major social inventions serving as the primary vehicle for the quick and welfare-generating expansion of the capitalist economy, the welfare state, and the regulatory state wherein the corporation was embedded. In the new regime of finance industry–led competitive capitalism, forming from the mid-1970s and during the coming decades, the corporation is no longer the dominating economic and legal entity in the production and distribution of economic value. Instead, the corporation has been treated as a nexus of contracts and ultimately a bundle of financial assets that can be managed in ways that benefit stakeholders in various ways. To better justify the importance of the embedded autonomy view of the corporation, these changes need to be examined in some detail.

The Corporation as Social Institution or Market Entity: Economic Fundamentals and the Role of Corporate Governance As opposed to neoclassical economic theory, where the firm remains a problem to be solved as market transactions are widely assumed to be the most efficient way to organize economic affairs (Williamson, 2005: 385; Bratton, 1989: 1496; Hart, 1988: 120), legal theory and organization theory recognize the corporation not only as a vehicle for economic value production and distribution, but also as an institution. Howard (1991: 10), a legal scholar, emphasizes that this institutional status justifies certain privileges but also entails considerable responsibilities: [T]he contemporary business corporation, although it is subject to the absolutely unforgiving performance measure of profitability, is not a one-dimensional institution. It is a complex economic and social institution which, if of substantial size, is necessarily “in politics” in the non-partisan sense that it is compelled to become involved in overall political processes concerning, for example, natural resource use and environmental regulation. (Howard, 1991: 10) With the major institutional changes in national and global economies over the last four decades, this status of the corporation as a form of government agency capable of attending to a variety of issues and interests has been made increasingly suspicious (Pargendler, 2016). Rather than being a vehicle for socioeconomic value production, shaped by policy making and regulatory control, the corporation has been understood as a more strictly defined device supporting venturing and enterprising. “Only

Embedded Autonomy 15 25 years ago,” Ho (2009: 33) writes, “the public corporation in the U.S. was mainly viewed as a stable social institution involved in the steady provision of goods and services, responsible for negotiating multiple constituencies from employees to shareholders, and judged according to a longer-term time frame.” In contrast, today, Ho (2009: 33) continues, the conventional wisdom is that the “primary mission” of corporations is to maximize the payout to the corporation’s investors—the shareholders. This overarching idea, to target the central legal entity and foremost vehicle for economic value production in competitive capitalism, the public corporation, and to separate it from wider socioeconomic interest, is one of the most pronounced tendencies in economic affairs over the last four decades, siding with perennial issues such as “globalization” or “digitalization.” This shift in focus has been gradual and oblique, mostly occurring outside of the limelight of the macroeconomic theoretical focus that dominates, for example, economic policy and news reporting. Furthermore, the intellectual justification—its theoretical modeling and the accompanying empirical substantiation—for the shareholder welfare model has been weak, based on propositions that in themselves are questionable, especially in the absence of robust data, and highly disputed (Apkarian, 2018; Belinfanti and Stout, 2018; Collins and Kahn, 2016; Fried, 2015; Hasler, 2014). Yet, the shareholder primacy model has been hugely successful in advancing its normative model, aimed at sidelining all other stakeholders than the shareholders, making even other potential “principals” (in the agency theory vocabulary) such as creditors subordinate to shareholder interests. So, as the saying goes, even if the map does not fit the territory, it does not mean that the hiker cannot find his or her way to places, and the shareholder primacy model becomes influential despite its lack of rigorous theoretical frameworks and supportive evidence. The Declining Role of the Public Corporation In the era of managerial capitalism, roughly 1945–1973 (with the politically motivated first oil crisis looming by the end of the period), the public corporation was the jewel in the crown of competitive capitalism, serving the populations in industrial welfare states through its ability to provide both job growth and the various goods and services (Galbraith, 1971). After World War II, planned economies in communist countries could move in lockstep with Western capitalist economies for a decade or even two, but thereafter the weaknesses of economies structured around what Émile Durkheim (1933) refers to as mechanical solidarity rather than calculated self-interest, moderated by norms and legislation, started to translate into material differences. Even North Korea, today one of the poorest and most destitute countries in the world, could actually keep up its production pace until at least the mid-1970s, and was until then

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as wealthy as its southern sister nation, which was equally ravaged by the Japanese invasion in 1910, World War II, and the Korean War in the 1950s. North Korea’s accomplishment was, of course, made on the basis of subsidized goods and services from the Soviet Union and China, two communist adversaries North Korean leadership could effectively play out against one another, but after the mid-1970s, a disastrous development followed, turning North Korean life into a nightmare and its political life into a farce including a pathetic cult of dictators, the Kim family, who established the communist world’s first succession-based constitution. In the long run (i.e., in this case, more than three decades), the public corporation (and its complementary legal device, the closely held firm not trading its stocks in public stock exchanges) proved to be able to balance enterprising and socioeconomic welfare in ways that benefit all constituencies. The departure from this managerial capitalism regime is most salient when examining U.S. data. In 1950, the top ten largest employers in the United States hired around 5 percent of the American workforce, while the figure around 2010, six decades later, was only 2.8 percent, nearly half the proportion (Davis, 2010: 333). This change is explained by and large by the decline of the American manufacturing industry, once the pride and joy of American capitalism as the United States exported cars, motorcycles, kitchenware, and electric guitars all over the world in the 1950s and 1960s. In the 1980s, during the Reagan Presidency, the high-interest policy of Federal Reserve, intended to remedy galloping inflation, lead to an inflow of overseas investment which translated into an overrated dollar that consumed the productivity gains made in the manufacturing sector in the period (Stearns and Allan, 1986), leading to comparative advantages for European and Japanese manufacturers. Furthermore, the president’s economic advisers argued that the deindustrialization of states such as Ohio, Michigan, and Pennsylvania was predicted by economic theory and trade theory as the U.S. economy was now ready to move “downstream” to develop more sophisticated and “knowledge-intense” products (Bluestone and Harrison, 1982). The consequence was a sharp decline in blue-collar jobs in so-called “rust-belt states,” states where the American steel industry was previously located (e.g., Pennsylvania). “By March 2009,” Davis (2009: 27) writes, “more Americans were unemployed than were employed in manufacturing, and all signs pointed to further displacement in the goods-producing sector.” It is also telling that the promise of the U.S. economy moving on into more advanced production—which was to some extent true as, for example, the finance industry inflated considerably after 1980, and the computer industry cluster in Silicon Valley remains a beacon for students of entrepreneurship—led to the expansion of service industries (Kollmeyer, 2009), in many cases offering less generously compensated jobs and with fewer benefits like healthcare benefits or retirement schemes (Lin, 2016;

Embedded Autonomy 17 Autor and Dorn, 2013). In 1950, Davis (2010: 333) reports, eight of the top ten employers were manufacturers, while in 2010, all top ten employers were in services and seven were in retailing. For example, by 2009, Walmart employed about as many Americans (1.4 million) as the 20 largest U.S. manufacturers combined. For the average American, especially in the heartland, the decline of manufacturing did not translate into “high value–adding jobs” but into job losses, and in many cases poverty. The bottom line consequence is that the central role of the public corporation as one of the pillars of competitive capitalism, to date the most effective coordination of production factors and legal rights and obligations known to humans, is no longer taken for granted. As the public corporation—roughly 75 percent of which is owned by institutional investors (Gilson and Gordon, 2013)—is becoming a vehicle for shareholder enrichment, its relationships to other stakeholders, including, for example, employees, have changed. Hacker, Rehm, and Schlesinger (2013) speak about a transfer of market risks once borne by employers to the employees, which undermines the corporation’s role as a mechanism that buffers risks in national and global economies: Over the last generation, the implicit social contract of the midtwentieth century—based on longer-term employment, health and retirement security through a combination of public and private benefits, and broad unionization of the workforce—has come undone. Many economic risks once borne collectively through public programs or pooled private benefits (such as traditional, defined-benefit pensions) have shifted back toward workers and their families. (Hacker, Rehm, and Schlesinger, 2013: 24) In addition to the shift in industrial relationships policy and human resource management practices, there is also evidence of changes in corporate governance practices that need to be taken into account. First of all, real wage growth, which rose steadily between 1950 and 1973, was in decline over the 1973–2014 period (Gordon, 2015a: 542). In addition, in the new governance regime, boards of directors are more reluctant to make investment in illiquid assets, indicated by the ratio of net investment to the capital stock trending downward (Gordon, 2015a: 542; Hall, 1993: 1003). Over the 1950–2007 period, this ratio was 3.2 percent on average, whereas in the most recent three decades, 1986–2013, there were only four years, 1999 through 2002, that demonstrated optimistic investment behavior. As the decline in the ratio of net investment to the capital stock indicates a preference for liquid over illiquid capital, or a growing risk-aversion (or combinations thereof), the prospects for soaring economic growth, or for real wage growth to return to the 1950–1973 period levels, seem unpromising. Such

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hard data evidence is not too assuring regarding the future of economic growth in America and elsewhere. Further Evidence Supporting the “Deinstitutionalization of the Corporation” Thesis In order to examine how the American public corporation has its importance as a social institution, there are a number of factual conditions and parameters to be examined. This includes the size and relative share of economic compensation, including healthcare benefits and retirement funds (which Hacker, Rehm, and Schlesinger, 2013, examine), the sheer size of employment vis-à-vis other “economic fundamentals,” and the degree to which new businesses are incorporated and financed on the basis of Initial Public Offerings (IPOs), the procedure wherein a closely held firm is opening up for dispersed ownership—that is, goes public. Advocators of pro-business policy are skeptical towards overregulation of industry as it is assumed that if policy-makers will let business take care of itself, industry will be able to generate new jobs, which provide taxable income used to further support a virtuous spiral that generate economic welfare that benefits all constituencies in the end (Thornburg, Steven, and Roberts, 2008; Coffee, 1991). The other main argument is that if businesses are taking care of themselves and distribute their surplus capital to shareholders, the shareholders will be in the best position to transfer surplus capital (i.e., the amount they are willing to reinvest in new ventures) to high-growth industries, which therefore serves to invigorate the economy and support economic development (see, e.g., Jensen, 1986). Fortunately, both these propositions lend themselves to empirical testing. Regarding the question of job growth, the deregulatory tendencies in American industrial policy since the mid-1970s have not been conducive to stable job growth, empirical evidence indicates. For instance, between 1970 and 1993, the number of workers employed by Fortune 500 companies dropped from 16.2 million to 11.5 million (Cobb and Stevens, 2017: 309). This decline of the central position of large firms as providers of employment in the economy is problematic as empirical data shows that large employers develop internal labor markets (ILM) that, for various reasons (examined in detail by Cobb and Stevens, 2017), tend to “compress the overall distribution of wages,” which in turn counteract economic inequality (Cobb and Lin, 2017: 430). As ILM tend to “overcompensate” certain workers who would be less “competitive” within an external labor market regime, large employers are a central mechanism in buffering the tendencies towards economic inequality in open, marketbased economic systems. The less central role of Fortune 500 companies does therefore have effects on economic inequality measures. Empirical evidence also indicates a shift in corporate governance in public firms,

Embedded Autonomy 19 where short-term economic performance and high payout ratios have been combined with decreases in employment. Between 1982 and 2005, there was a 10 percent increase in revenues at the same time as there was a 15 percent decrease in domestic employment in the largest U.S. firms, Lin (2016: 972) reports. These aggregated figures can also be expressed in more direct measures: in 2005, the largest U.S. firms increased their gross revenue by “[m]ore than $780 billion but hired 2.8 million fewer workers” (Lin, 2016: 972). Wilmers (2018) examines an additional factor to consider when examining the secular real wage stagnation and slow job growth after 1979, the issue of increasingly oligarchic structures of industries, derived from lower transaction costs. Consistent with the findings of Cobb and Lin (2017), Wilmers (2018: 215) found that “the earnings premium” from working for “large firms” has been “steadily eroding for noncollege workers” after 1979 (Wilmers, 2018: 215). Wilmers (2018: 213) points at a combination of “market restructuring, lax antitrust enforcement, and supply chain innovation” as explanatory factors, conditions that have “left many supplier companies dependent on sales to large corporate buyers” (Wilmers, 2018: 213). In the early 1980s, the average publicly traded manufacturing firm received approximately 10 percent of its revenues from large buyers, whereas in 2014, the comparable figure was over 25 percent. This increased reliance on a handful of powerful business partners, whom Wilmers (2018) refers to as “dominant buyers,” has served to push down labor costs. Labor costs are defined as the total expenses that include “salaries, profit sharing and incentive compensation, payroll taxes, and employee benefits” (Wilmers, 2018: 218). The new oligarchical industry structure results in the suppression of wages and real wage stagnation for large groups employed in companies supplying larger companies further up in the industry structure, for example, grocery chains and retailers. This oligarchic industry structure enables certain corporations to dictate the rules of the market on the basis of their sheer size and economic authority. In Wilmers’ (2018: 231) sample, “a 10 percent increase in revenue reliance on dominant buyers lowers suppliers’ wages by 1.2 percent.” Wilmers continues: The negative association between increasing buyer reliance and wages is robust to controlling for these determinants of firm-level wages, with little change in the point estimate. Together, these models indicate that increasing revenue reliance on dominant buyers lowers suppliers’ wages. (Wilmers, 2018: 223) In this view, an oligopolistic industry structure is a precursor for secular real wage stagnation for noncollege workers, potentially affecting also

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white-collar workers and even middle management in the second phase. This in turn indicates that economic inequality is an endogenously generate issue, grounded in novel corporate governance practices. This empirical data indicates that large public corporations do no longer perceive their role as being a primary provider of employment, but rather serve as a site for the engineering of financial assets (Davis, 2009). This shift in focus in accordance with a finance theory image of the firm is mirrored in debt-to-equity data. The finance theory image of the firm suggests that the firm is to be most accurately understood not so much as legal entity (being too much of a legal theory doctrine) or as an institution (an idea relying on social theory, which economists tend to ignore or outright reject as what contains unnecessary complications as it deviates from the doctrine of instrumental rationalism), but as a bundle of contracts, which stipulate the rights and obligations of participants (Jensen and Meckling, 1976). Furthermore, following the Modigliani and Miller (1958) theorem, which suggests that the capital structure of the firm does not determine the market value of the firm, corporate leadership is more tolerant of high levels of debt. These two elementary propositions invite finance theory trained CEOs and chief finance officers to raise the debt-to-equity ratio so that less private equity is “at risk” in the operations as creditors are increasingly actively involved in the production activities. In the early 1980s, the debt-to-equity ratio was about 0.55, but rose to 0.70 in 1993; by 2005, a few years before the finance industry meltdown, the debt ratio for “the largest U.S. nonfinancial firms” was about 0.67, which indicates that “[t]hese firms still heavily depend on debt to fund their operations” (Lin, 2016: 977). This rising of the debtto-equity ratio is indicative of the influence of a finance theory–based view of the firm, and not the least the authority of finance industry actors in determining the governance and management of public companies. For instance, by the early 2000s, around 29 percent of all assets held by nonfinancial firms were financial assets (Tomaskovic-Devey, Lin, and Meyers, 2015: 527). Taken together, robust evidence indicates that the role of the public corporation has been redefined, not so much in public speeches and in official declarations in annual reports and elsewhere, but in the day-today governance and management of firm-specific resources located in boardrooms and executive suites. These changes have in turn been propelled by the mobilization of both financial resources and intellectual capital to advance a theory of the firm that is increasingly out of reach for policy-makers, trade unionists, and other social actors who cling to the idea that the corporation is a legal device intended to serve as a platform for the production of net economic welfare that benefit if not all, at least most constituencies. As opposed to this model, the corporation is now enacted as a bundle of contracts designed to optimize the extraction of

Embedded Autonomy 21 finance capital to benefit the owners of the corporation’s stock, defined as the residual claimants.

Theoretical and Practical Implications: Corporate Governance Does Matter Based on the literature review, two major findings can be formulated: first, the public corporation, and the large corporation in terms of turnover, no longer plays an equally central role in competitive capitalism as the corporation is now defined on the basis of a few theoretical propositions and adheres to new managerial principles wherein terms such as “risk,” “social responsibilities,” and “investment” (to just mention a few terms in the passing) are understood differently than they were in the era of managerial capitalism. Second, corporate governance does matter inasmuch as the growing economic inequality that has been observed in the scholarly literature, and the declining risk-appetite translating into lower degrees of investment in R&D and human resources, can be traced back to boardroom decisions and CEO choices being made. That is, rather than being a derivate phenomenon, caused by macroeconomic conditions or the “sheer force of history beyond the influence of humans” (which denotes the fatalist position that at times surfaces in economic affairs, especially in the aftermath of a major economic crisis),2 corporate governance practices do actively contribute to solid economic outcomes, affecting the lives of millions of individuals and their capacity to participate in and contribute to economic welfare as we know it. These two findings will be examined in the following. “Large corporations have lost their place as the central pillars of American social structure,” Davis (2009: 27) summarizes in his treatise on the entanglement of the finance industry and nonfinancial corporations. This is of great importance as large corporation have historically not only played an economic and financial role, but also a social role as indicated by seminal studies such as William H. Whyte’s The Organization Man (1956) and Charles Wright Mills’ study of the American power elites (1956). Davis (2013) argues that there is belief that unfettered corporate power has generated the present situation, while in fact it is the opposite situation that is the case: if only corporations could conduct decisions as they thought were best for their activities, regardless of pressures from finance industry actors, they would have been much more efficient in serving wider social needs than to generate a return that benefits the firms’ investors: Many accounts attribute the current situation to the unfettered power of large corporations. In reality, the reverse is true: our current problems of higher inequality, lower mobility, and greater economic insecurity are in large part due to the collapse of the traditional

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Embedded Autonomy American corporation. Over the past generation, large, public traded corporations have become less concentrated, less interconnected, shorter-lived, and less prevalent: there are fewer than half as many public corporations today as there were fifteen years ago. (Davis, 2013: 284)

At the core of this submission to finance industry interests lies a convoluted social change at the apex of the capitalist system, wherein the traditional business elites have been marginalized by a new finance industry–oriented transnational capitalist class that demonstrate limited concern regarding the status of the corporation within the economic system of competitive capitalism (Mizruchi, 2017, 2013, 1983; Chu and Davis, 2016; Davis and Greve, 1997). In addition, the claim made by free market protagonists in their deregulatory campaigns is that pro-business policies—that is, policies that impose few regulatory costs on corporations (characterized as a “favorable business climate”)–are conducive to a dynamic and burgeoning economy. This argument is also consistent with the more bold claim that “what is good for shareholders is good for all constituencies,” repeated time and again in the shareholder value literature (see e.g. Easterbrook and Fischel, 1996: 38), a claim that rings hollow when confronting data that indicates soaring economic inequality, stagnant or declining real wage compensation despite considerable productivity growth, and fewer jobs for non-elite workers. Albert Camus ([1951] 2000) remarked in his critique of totalitarian socialism that when predictions fall short, proponents of a specific economic or political doctrine turn to prophecies to justify their authority. As predictions regarding the omnipotent and benevolent effects of shareholder value governance have not been convincing, at least the prophecy regarding the long-term benign effects remain. Unfortunately, prophecies carry less authority than accurate predictions do, especially if accurate predictions may serve to generate immediate, material contributions here and now. Regardless of these concerns, one measure of the dynamics of the economic system is the number of IPOs, the process wherein start-up firms finance their development work by issuing stocks that serve as investable assets available for the wider public. The empirical data indicates a decline of IPOs in the United States after 2000 (Davis, 2013: 292. Figure 3), and in Europe, after a peak in the 1998–2000 period, “the drop off in IPOs is quite dramatic” (Deeg, 2009: 565). One explanation for the decline in IPOs may be that the access to finance capital, coproduced with the expansion of the global finance industry and the growth of the monetary base, enables business promoters and entrepreneurs and their venture capital investors to closely hold their firms to avoid diluting the ownership of the firm. In the case where an exit option through acquisition is anticipated, closely held firms may be more attractive for early investors. Alternatively, the decline of IPOs is indicative of reduced risk-taking and

Embedded Autonomy 23 a lower degree of entrepreneurial motives in an economy, attitudes that forebode a stagnant economic system. Regarding new corporations’ ability to fill the void of receding employment in major corporations, there is no reason for being overoptimistic. In the United States, the share of total employment accounted for by firms no older than five years declined by “almost half from 19.2 percent in 1982 to 10.7 percent in 2011” (Gordon, 2015b: 56), “This decline was pervasive across retailing and services, and after 2000 even the high-tech sector experienced a large decline in startups and fast-growing young firms,” Gordon (2015b: 56) continues. As these figures are collected from a period wherein pro-business policy has become conventional wisdom, not the least fueled by a ballooning business lobbying industry and campaign donations in the United States, there are opportunities for critical reflection regarding the efficacy of the current economic policy and the policy making process per se. Entrepreneurship and entrepreneurship theory are fields that have gained considerable traction over the last decades, especially in the 1990s when an entrepreneurship euphoria swept over the Western world as decades of public investment in computer science started to pay off when Internet and digital media were finally brought into the everyday lives of millions of people, resulting in a peak in economic growth in the 1996–2002 period (Gordon, 2015a). Unfortunately, the hyperbolic expectations regarding the centrality of the “entrepreneurial function” (to use Joseph Schumpeter’s phrase) in competitive capitalism seemed unsubstantiated on closer inspection, and today entrepreneurship researchers also tend to take a more moderate view of entrepreneurship. As Valdez (2015: 34) remarks, entrepreneurs do not produce new jobs and they are not “engines of the economy.” The question for policy-makers, media pundits, and scholarly communities is therefore how the public corporation can be substituted by some other corporate entity, capable of being a centrally located economic actor that balances various political and economic interests in society, and that relies on the incorporated businesses for a series of services, not the least the creation of new jobs. The second question regarding the role of corporate governance is equally important in economic policy-making, and in the scholarly study of the corporation. On balance, empirical studies indicate that corporate governance practices and decision-making matter, not the least because capitalist economies delegate the production of goods and services to privately owned companies unless there is evidence of market failure or overbearing moral hazards that justify state-owned corporations as in the case of infrastructural services or activities that are politically sensitive (say, activities at the core of the “minimal state” including policing or military defense, or in the case where the presence of privately owned companies violate social norms and values, say in the healthcare sector or in schooling). The general anti-statism of the pro-business campaigns

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during the last four decades has further accentuated the skepticism regarding the role of state-owned corporations. In this new regime, corporate governance becomes a form of delegation of a variety of social interests, more or less explicitly, to the corporate board of directors and its defined management team, and these people are in the position to execute decisions that affect the economy in considerable ways (Pargendler, 2016). For instance, Lin (2016: 985) argues that the structure of the U.S. labor market is largely an effect of corporate governance decisions: [T]he polarization of the U.S. labor market has deep organizational roots. Firms’ investment in financial markets increase the demand for professional/ supervisory and service labor, while the dependence on debt and the pursuit of shareholder value, respectively, undermine production-related and service workers’ job security. All these developments contribute to the polarization of the labor market and growing inequality. (Lin, 2016: 985) In addition, Roberts and Kwon (2017: 517) suggest that there is a shortage of studies that explicate how corporate governance and industrial relationships “[m]oderate the distributional consequences of finance in the overall economy.” In their view, “firm behavior and the allocation of revenue” are predicated on the strategies of corporations, and such strategies vary substantially across countries and regions (Roberts and Kwon, 2017: 517). That is, what is “good governance” in a Japanese or German firm, may be treated as sheer managerial malfeasance in a so-called liberal market economy such as in the United States. Similarly, when executives walk away with handsome compensation despite acting in culpable, unethical, and at times even criminal ways, it may lead to outrage in certain cultures, while being taken as evidence of business acumen in another culture. That is, the “quality” of corporate governance and the “quality” of managerial decisions (with quality in citation marks on purpose) are contingent on local cultures, ideas about business ethics, and the presence of wider social institutions. Nevertheless, decisions made inside corporations affect how economic resources are distributed in a given economy and are likely to continue to do so for the foreseeable future, and therefore it does matter what business elites (to use Mizruchi’s [2013] term, i.e., the pool of social actors from which directors and executives are recruited) believe and the rationales they act on to achieve goals they and their business partners and collaborators think are adequate and legitimate business objectives.

The Organization of the “Postcorporate Economy” In the current economy, around three-quarters of all public companies’ stock (say, that of Fortune 1000 companies in the United States) are held

Embedded Autonomy 25 by institutional investors, including pension funds, mutual funds, and hedge funds (Davis, 2009: 33). Gilson and Gordon (2013: 864) refer to this new structure of competitive capitalism as “agency capitalism,” wherein ownership is executed through an agent. The so-called “beneficial owner” entrusts a fund manager with his or her finance capital, which generates a “double set of agency relationships”—between shareholders and managers, and between beneficial owners and the agents, the fund managers, whom Gilson and Gordon (2013: 864) refer to as “record holders.” The original governance relation, enshrined by corporate law, assumed direct ownership and bundled ownership and voting rights in corporate legislation to provide a mechanism for block shareholders to influence managerial decision-making. In the era of agency capitalism, new governance relationships are established: The canonical account of U.S. corporate governance, which stresses the tension between dispersed shareholders and company managers in large public firms, has become factually obsolete and now provides a misleading framework for contemporary corporate governance theorizing. (Gilson and Gordon, 2013: 864) To recognize these changes in competitive capitalism, Davis (2013: 294) talks about “the postcorporate economic organization,” where the public corporation is no longer the centerpiece of the economic regime. The divisionalized, major public corporation instead becomes what Weil (2014) refers to as the “fissured workplace,” wherein, for example, hotel workers and other service industry workers are employed by different subcontractors or business partners even as they work under the same roof and the same brand (e.g., Hilton, Marriott). In Weil’s (2014: 44) view, the fissured workplace is the effect of changes in capital markets and technological innovation that have “created new ways of designing and monitoring the work of other parties, inside and outside of the corporation”: The fissured workplace is not yet another name for subcontracting, outsourcing, or offshoring. Nor does it solely arise from lead companies seeking to avoid payment of private or socially required benefits. Rather, the fissured workplace reflects a fundamental restructuring of business organizations. Employment decisions arise from a careful and ongoing balancing act by lead companies and the subsequent behaviors of the many smaller companies operating beneath them. (Weil, 2014: 91–92) Similarly, Davis (2013: 294) uses the term “Nikefication” of the firm (after the American sport goods company Nike) to denote how major corporations are also constituted as networks of relationships including outsourced manufacturing facilities to minimize the number of employees

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and the equity invested. In this view, major corporations also share fewer and fewer characteristics with the traditional corporate model, managing large stocks of firm-specific resources under one management. Also changes in finance capital supply, associated with the expanding finance industry, have put their mark on the public corporation. Socalled private equity firms (for an overview, see Turco and Zuckerman, 2014) are companies that specialize in raising finance capital in the finance industry, from, for example, pension funds, to buy firms to extract value from their holdings. As Appelbaum and Batt (2012: 43) argue, private equity funds “buy businesses the way individuals purchase houses—with a down payment or deposit supported by mortgage finance.” In the 1980s, it was not uncommon that private equity firms made investment on the basis of a 10/90 private equity-to-debt ratio, exposing the private equity company to considerable market risks (Appelbaum and Batt, 2012: 43). Today, the proportion of private equity is in the 25–33 percent range, which still makes private equity firms dependent on the supply of finance capital. In many ways, the presence of private equity firms is indicative of how differentiated the finance industry is in a specific country, with higher levels of private equity firm activity in large finance markets: “[T]he richer a country is, the more likely it is to adopt PE [Private Equity] friendly institutional configurations, which are also financialization-friendly institutions,” Bedu and Montalban (2014: 63) say. The low private equity-to-debt ratio puts pressure of the management of private equity firms to “focus on short-term profits to meet the firm’s interest commitments” (Cobb, 2015: 1332). This somewhat convoluted statement translates into decisions that serve to transfer capital to shareholders from all other constituencies. Appelbaum and Batt (2012) even suggest that private equity “[c]ontributes in important ways to the growing inequality in the U.S. economy”: “Private equity depresses the wages of employed workers, and those who are laid off—particularly bluecollar workers—typically do not find new employment with wage and benefits as high as their prior jobs” (Appelbaum and Batt, 2012: 197). Other studies dispute such conclusions and suggest that private equity investment correlates with net economic welfare: “[M]any private equity firms increase the value of their investments by focusing on customer service and developing highly trained and experienced personnel, rather than concentrating only on cost reduction,” Bacon and colleagues (2010: 1362) write. Unfortunately, Bacon and colleagues’ (2010) research method, to let managers answer a survey covering perceived changes following private equity investment in the firm, is insufficiently robust and does not permit any far-reaching conclusion regarding the nature of private equity firms. What is clear though is that private equity firms that buy firms on the basis of an abundant supply of finance capital are acting in ways that mirror the finance industry’s portfolio management model. This indicates that shareholder enrichment rather than long-term

Embedded Autonomy 27 firm commitment is the ulterior motive of private equity investors. In this way, the public corporation either becomes subject to new governance principles established by private equity investors, or is kept in private equity—that is, remains closely held so that the share ownership is never dispersed—thus making the corporation “less public” and, by implication, competitive capitalism to a lower degree a public concern. The long-term consequences are that the public corporation no longer assumes an equally central position in competitive capitalism. The traditional “board-centric” corporate governance system that dominated in the era of managerial capitalism has been displaced by the “shareholdercentric” corporate governance system of the financialized agency capitalism regime (Coffee and Palia, 2016: 603). When the board of directors can no longer assume discretion and autonomy, but primarily responds to shareholder activism pressure, the corporation is no longer embedded in a wider socioeconomic system but becomes a vehicle for shareholder enrichment. While this new governance model has been applauded by proponents of the efficiency model, it is also questionable whether business promoters, seeking finance capital to support their development work, want shareholders at all. Between 1997 to 2009, Stout (2012: 54) reports that “[t]he number of public companies listed on stock exchange has declined by 39 percent in absolute terms, and by a whopping 53 percent when adjusted for GDP growth.” This decline (further substantiated by other studies; see, e.g., Decker et al., 2014)3 may, of course, be partially explained by the increased supply of finance capital more widely, but the lower rate of new registered firms is a concern for policy-makers and scholars, as the measures indicate a waning entrepreneurial spirit in the era of agency capitalism. Taken together, all these changes and novel conditions jointly produce a situation where the public corporation is no longer treated as an autonomous legal entity, serving a wider role than to solely generate wealth for the shareholders. These changes have considerable consequences.

Outline of This Volume Given the quite diverse set of problems pertaining to the nature of the firm and its governance and regulatory control, this volume examines the embedded autonomy of the firm along three dimensions: •

•

The legal view—that is, corporate legislation as constitutive law is examined as a core mechanism for the anchoring of enterprising and venturing activities within the wider socioeconomic interest of the sovereign state. This theme is addressed in Chapter Two. The normative view, wherein the corporation is dependent on the norms, values, and beliefs that structure and organize everyday life in highly differentiated and diverse societies. This theme is addressed in Chapter Three.

28 •

Embedded Autonomy The governance view, which assumes that governance activities on various levels (corporate, industry, national, and transnational levels) are strongly affecting how the firm can act under determinate conditions. This theme is addressed in Chapter Four.

The final chapter of this volume summarizes the principal argument of the model advocated and suggests that the embedded autonomy of the corporation is the sine qua non of competitive capitalism. The final chapter advocates a more balanced view of the corporation than that of the shareholder-centric governance model, and portrays the corporation as a legal device conducive to economic venturing within a horizon that includes several interests and concerns.

Summary and Conclusion “A society is called capitalist if it entrusts its economic process to the guidance of the private businessman,” Joseph Schumpeter ([1928] 1991a: 189) writes. McCloskey (2006: 16) reports that the amount of goods and services being produced and consumed has grown by a factor of about “eight and a half” since 1800 (after correcting for inflation). Whereas the depletion of natural resources and global warming, as well as the pollution of seas, lakes, and rivers by plastic and pharmaceuticals are acute concerns, being direct and straightforward consequences of such growth, the efficiency of the production activities is nonetheless remarkable and impossible to imagine only a few decades ago for populations in what are now Western welfare states that for large parts lived in poverty only a few generations ago. The success of the competitive capitalism model is hard to pin down to a catchphrase, but factors such as legal and regulatory reforms, technological innovation, the liberalization of trade, and new social norms and beliefs (including the constitution of women as full legal subjects, and reforms following therefrom) have all contributed in substantial ways. Despite all its flaws and shortcomings, competitive capitalism is the single most effective economic model, outpacing all other economic systems in terms of balancing enterprising and venturing (i.e., risk-taking) and other welfare-generating activities. Combined with the regulation of these activities, including resolution systems on various levels in the case of legal disputes, these activities have jointly generated considerable economic welfare. Furthermore, competitive capitalism has always been rooted in institutional conditions, and the state has served a key role as a legislator, regulator, market-maker, investor, and lenderof-last-resort for the finance industry that has accompanied the differentiation of the economic system of competitive capitalism. Competitive capitalism is the foremost and lasting product of the bourgeoisie revolution (accompanied by democratic egalitarianism), finally breaking with the aristocratic economy structured around class privileges and a gift

Embedded Autonomy 29 economy (Fontaine, 2014), and relying on the rural economy of agriculture rather than manufacturing and trade. This socioeconomic model, based on a curious blend of risk-taking and prudence, aggressive selfpromotion and a respect for collective “rules of the game,” has proved to be unsurpassable in terms of efficiency, even though there is evidence of non-negligible malfunctioning, suboptimization, and opportunism within the stipulated model, yet operating for most parts at the margin of the system. Ultimately, the test of the competitive capitalism model is the growth of economic welfare over the last centuries. In this volume, it is argued the role of the public corporation and its embedded autonomy within the socioeconomic system has served as a legal device that serves to coordinate team production efforts and the distribution of the economic value generated. This “dual role of the corporation” underlines the corporation as the site wherein economic value is generated and distributed to various stakeholders, including, for example, employees, suppliers, clients, shareholders, and the sovereign state as such, which collects income tax to fund the state administration and welfare provision. The recent shift towards the shareholder-centric view of the firm is based on the targeting of the public corporation as being “inefficient,” or at least “not sufficiently efficient,” inasmuch as professional and salaried managers are assumed to impose agency costs that are stipulated to be minimized only on the basis of shareholder-based finance market control. These agency costs, rarely if ever directly measured, are stipulated to be larger than the net economic welfare generated on the basis of the delegation of decision-making authority to professional managers is an implausible proposition that has yet to be substantiated. Furthermore, the hypothesis regarding overbearing agency costs is a counterintuitive claim as the growth in economic welfare that has be witnessed is for considerable parts generated on the basis of informed and qualified managerial decision-making on various levels. This critique of the public corporation as a stronghold for inefficient and self-serving managers has generated considerable consequences for corporate governance. These issues are addressed in this volume.

Notes 1. The literature on hedge fund activism includes neutral (e.g., Brav, Jiang, and Kim, 2015; Klein and Zur, 2009), skeptical (e.g., Coffee and Palia, 2016; Mallaby, 2010), and positive views (e.g., Kastiel, 2016; Sharfman, 2015). The shareholder activism of hedge fund managers is at times quite aggressive and has historically been very successful in influencing directors’ and managers’ decisions. Klein and Zur (2009: 211) report that hedge fund activists enjoy “a 60% success rate,” and when they seek to gain representation on the target’s board, the achievement rate was 73 percent (in 30 out of 41 cases studied). In approximately half of the cases involving shareholder activism, the target firm “changes its operating strategies, drops its merger plans, or agrees to be

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taken over or merged” (Klein and Zur, 2009: 211). Such data is indicative of the efficacy of hedge fund activism. The question of discussion is then to what end these campaigns are directed, and whether hedge fund activism generates net economic welfare (as its proponents suggest, as activism is claimed to reduce agency costs and the costs of managerial self-aggrandizement). In contrast, Brav, Jiang, and Kim (2015: 2753) demonstrate that the increased payout to shareholders is essentially the workers’ loss in the firms being targeted: “On average, workers at target firms do not share in the improvements associated with hedge fund activism. They experience stagnation in wages, while their productivity improves significantly” (Brav, Jiang, and Kim, 2015: 2753). Therefore, Brav, Jiang, and Kim (2015: 2753) summarize that “[t]he reduction in productivity-adjusted wages suggests that hedge fund activism facilitates a transfer of ‘labor rents’ to shareholders.” This “positive abnormal returns” associated with hedge fund interventions” may thus in fact represent a zero sum logic, wherein the shareholder’s return is the workers’ (or some other stakeholders’) loss. In the cases discussed by Coffee (2017), it is the patients, their insurance companies, and, in the long run, all insurance payers that are expected to pay the price for shareholder activism and their returns. 2. For instance, some free market protagonists argued unconvincingly that the 2008 finance market meltdown was a “perfect storm”—the meteorology metaphor is suggestive—as there was a series of unfortunate but “highly unlikely” conditions coinciding in ways that had never occurred before. However, as students of technological failures and disasters have demonstrated (Downer, 2007, 2011; Vaughan, 1996; Perrow, 1984), such residual explanations are all that remains when all other reasonable explanations are exhausted. Yet, social systems and their mind-boggling complexity are after all human fabrications rather than natural phenomena; this tends to make residual explanations a rather limited source for additional insights ex post facto. At best, such residual explanations may be rhetorical devices that can shift blame onto non-human actors for the benefit of making the ex post resolution work less politically charged and emotionally infected (with some social benefits in the next instant), as in the case of the violator who claims he “heard voices in his head” to explain unlawful behavior in court hearings. 3. Decker and colleagues (2014: 18) study the registering of new businesses rather than IPOs, and the empirical material reveals that “[i]ncentives to start new businesses appear to be declining in all sectors,” which in turn have “[c]ontributed substantially to the declines in the pace of business dynamics.” In fact, the share of employment by young firms has declined “in all 50 states,” all exhibiting “large and similar declines in entrepreneurial activity” (Decker et al., 2014: 18).

2

Corporate Legislation The Constitution of the Corporate Entity

Introduction The social sciences tend to enact law as a mechanism that is introduced when all other means of social control and regulation have been exhausted. Philip Selznick (1963: 79), for instance, claims that “the bonds of organization rest far more on practical and informal reciprocity and interdependence than they do on the availability of formal sanctions.” In this vision of law, the judicial system is a second-order system that is introduced only under determinate conditions, when disputes cannot be settled by other means: “Claims of right are asserted, adjudicated, and enforced for the most part outside the formal legal system,” Selznick (1963: 80) argues (for empirical implications, see, e.g., Macaulay, 1963; Bernstein, 1992). In Selznick’s (1969) view, the term “institution” is helpful in explaining how nonlegal mechanisms serve to govern social relations. Selznick (1969: 44) defines institutions broadly as “a group or a social practice.” Furthermore, in Selznick’s account (1969: 44), institutions imply a functionalist role in a social system inasmuch as social actors need to benefit from the maintenance and reproduction of the institution over time: Characteristically, an institution is not an expendable instrument for the achievement of narrowly defined goals. It is valued for the special place it has in the larger social system and for the way it serves the aspirations and needs of those whose lives it touches. . . . It usually serves more than one goal or interest. It endures because persons, groups, or communities have a stake in its continued existence. (Selznick, 1969: 44) An alternative analytical model would suggest that law is already immanent in day-to-day relationships between individuals and organizations, and that legislation is therefore constitutive of the social order. As Hirsh (2009: 248) remarks, speaking explicitly about institutional theory, “the law plays a role in shaping organizational behavior, not necessarily because sanctions deter violations, but because the law cultivates an

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external environment that discourages the sanctioned behavior.” This idea that law establishes what Shaffer (2009: 177) refers to as a “legal culture,” defined as the “attitudes and behavior that people have and exhibit toward law and legal institutions within a domestic system,” is thus central in the institutional theory view of law. For instance, much research has been invested in showing how the sovereign state enacts legislation that per se may be relatively vague in its contours, yet is “normatively strong” (Hirsh, 2009: 268), and therefore generates considerable practical effects. The institutionalization of new legislation as a normative guideline that determines practices on, for example, the firm level involves various actors and social processes. Edelman, Uggen, and Erlanger (1999: 407) propose that the more ambiguous and politically contested the law, the more open it is to “social construction.” For instance, law that regulates organizations is prone to social influences, including the work of the corporate lobby, actively working to soften regulations that infringe on corporate interests, which in the end tend to result in broad and vague legislation (Edelman, Uggen, and Erlanger, 1999: 407). As corporations actively involve agents to shape the legislative process to their advantage, complex social issues (say, American equal opportunity rights, a piece of legislation subject to several scholarly studies) are handled through legislation that is primarily “symbolic” in nature (Edelman, Uggen, and Erlanger, 1999: 449). Second, such legislation is rarely imposed as a set of strictures being based on “absolute mandates,” but legislation tend to be based on “dialogues” across “organizational, professional, and legal fields” (Edelman, Uggen, and Erlanger, 1999: 449). “[Business and law] operate, in part, autonomously from each other, and, in part, in response to one another,” Shaffer (2009: 182) contends. The enactment of law as an outcome of collaborative efforts, including the sovereign state and its legislative entities as being the core actors, may suggest that legislation is indirect and vague, and that the sovereign state, by implication, would be weak or unable to regulate, for example, incorporated businesses. Sutton and Dobbin (1996: 798) avert such criticism and suggest that legislation provides the sovereign state and the government with the means that secure that they have “a profound influence on the ordering of civil society.” This influence is still not structured around direct mandates but oftentimes works indirectly, through “moral suasion and the manipulation of market incentives” (Sutton and Dobbin, 1996: 798). For instance, the Equal Employment Opportunity (EEO) law, a legal reform intended to reduce discrimination in the labor market, is one example of how new legislation institutes new practices that are not always possible to fully anticipate by policy-makers and legislators from the vantage point of the present. For instance, Dobbin and colleagues (1993) suggest that the vague nature of the legislation contributes to the creation of internal labor markets in the corporation. When the EEO law was enacted, courts discouraged, for example, formal testing

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of applicants as such tests have historically proved to sort out applicants representing certain social strata and groups at a higher rate on tenuous grounds. Instead, the courts approved “the formalization of hiring and promotion,” which resulted in the establishment of internal labor markets that provided corporations with the means for identifying and selecting qualified coworkers and to better balance, for example, the ethnicity of the workforce. Taken together, Dobbin and colleagues (1993: 421–422) suggest that the implementation of the EEO law was “diffuse and normative, rather than targeted and coercive”: “In short, public policy helped to create broad models of organizing that were embraced as just and rational by all sorts of organizations; it did not force a narrow range of targeted organizations to adopt specified practices in order to avoid sanctions” (Dobbin et al., 1993: 422). Edelman, Uggen, and Erlanger (1999: 407) suggest that the EEO law has served to institutionalize “grievance procedures” as a “rational” mode of compliance with the EEO law. The submission of grievances by corporations regarding the handling of equal opportunity cases serves to insulate corporations from legal liability, and is therefore a palatable solution to the policy issue of how to better promote equal opportunities in the labor market. As Edelman, Uggen, and Erlanger (1999) propose that corporations do not passively “respond” to legal reforms, but actively institutionalize new policies and practices to simultaneously signal a recognition of the legislation and maintain managerial decisionmaking discretion, the grievance procedure is one case of how law is “constructed” in organizational settings (Edelman, Uggen, and Erlanger, 1999: 445). Furthermore, Hirsh’s (2009: 266) more recent study of the EEO law stresses how the lack of “direct EEO enforcement effects at the establishment level” needs to be recognized when studying how legal reform influences and shapes organizational practices. “[T]o the extent that EEO enforcement encourages organizational change, it does so indirectly, operating through industrial fields and regulatory environments,” Hirsh (2009: 266) summarizes. The social science study of law thus provides a quite complex image of how the sovereign state and its legislative entities and defined regulatory agencies shape corporate practices. Legislation tends to be more normative than direct; it is open to social influence during the legislative bargaining phase and once being passed by legislative entities, the legislation is subject to considerable interpretation. At the same time, it would be a mistake to assume that this perceived “vagueness of law” is indicative of a “weak state.” Studies of, for example, the EEO law in the United States point at various interpretations and practices on the firm and industry levels that are arguably consistent with the legislator’s intentions. Institutional theorists such as McDonnell and King (2018: 62) say that law is introduced as an “autonomous means through which society holds business accountable for its actions.” Laws may be disputed and

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criticized, and yet they are the outcome of negotiation and bargaining processes wherein various actors are involved and diverse interests are considered, and thus legal reforms are introduced to better balance interest and objectives as defined by policy-makers. This chapter examines how corporate legislation, one specific constitutional law, concedes rights and responsibilities to a business venture through the incorporation of a firm. As will be demonstrated, during the nineteenth century, the sovereign state regarded the incorporated business as a legal innovation and a legal device being supportive of economic venturing and, in its stipulated consequences, economic welfare. As indicated by the literature on the institutional theory view of law, the relationships among policy-makers’ intentions, the legislative process, the formal legislation, and the institutionalization of law in practices (e.g., law enforcement in court cases) and processes on the firm level are far from unambiguous or linear. One of the consequences is that corporate legislation remains open to numerous interpretations and has been invoked in a variety of political projects and programs, in turn shaped by ideological convictions and stipulated objectives justified by such beliefs. Under all conditions, corporate legislation remains one of the major legal devices in the era of competitive capitalism, established by the mid-nineteenth century at the height of the industrial revolution, and is still a centerpiece of late-modern society and its highly differentiated economy of the present day. That is, corporate law remains one of the principal mechanisms through which the corporation is embedded in the social fabric.

The Legal Basis of the Corporation At the core of the corporate legislation are a number of legal issues and doctrines that are of early-modern origin. First of all, the idea of private property and property rights were discussed by the Dutch legal scholar Hugo Grotius (1583–1645). In De Araujo’s (2009: 358) account, Grotius regarded private property as a legal right that “[a]rises out of collective recognition that a person is entitled to retain or keep for oneself an object he or she has occupied in the first instance.” In this view, the right to a property is rooted in a collective agreement regarding how, for example, objects or resources (say, land) become personal possessions. Furthermore, once private property rights are legally enacted, Grotius argued, a series of social institutions are created to protect property rights: Social institutions such as laws, boundaries, commerce, and the state were created for the protection of the institution of private property. And private property, in its turn, ultimately presupposes the existence of a noninstitutional entity, namely, the natural right every individual has to avail herself of what has no owner. (De Araujo, 2009: 364)

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In Grotuis’ legal theory, property rights are then the very basis and the elementary component of the differentiated legal state apparatus. Property rights are also to some extent grounded in “prelegal norms” regarding the right to make use of available resources that have not to date been claimed by any social actor. As opposed to this “natural law” argument, introduced to justify property rights, Jeremy Bentham (1748–1832), writing two centuries later, argued that legal rights are human fabrications, a social convention with certain benefits and externalities, and nothing besides: “Rights are, then, the fruits of law, and of the law alone. There are no rights without law—no rights contrary to the law—no rights anterior to the law,” Bentham argued (cited in De Araujo, 2009: 366). The English empiricist philosopher John Locke is commonly treated as the original theorist of modern property rights, which serve as the foundation for classic liberalism and varieties thereof. In Locke’s Two Treatises on Government (1689), he stated, “[E]very man has a property in his own person. . . . The labour of his body, and the work of his hands, we may say, are properly his” (Book II, Ch. 5). This general proposition, that the labor laid down in a certain work confers a right in the resulting outcome, is to some extent both the beginning and the end of the liberal legal model of property rights. As soon as the legal subject is granted the rights to his (and, eventually, but quite recently, her) own labor, the role of the legislative state is to protect and enforce such legal rights. The Lockean view of private property thus justifies the absence of state-governed activities and mandates economic freedom of the subject, as stated in, for example, neoliberal economic policy. The state’s role is in short to protect the elementary legal rights of the enterprising subject, but to otherwise leave the individual on his or her own. George Wilhelm Friedrich Hegel’s Philosophie des Rechts (Philosophy of Rights, 1820), published 13 decades after Locke’s seminal work, offers an alternative interpretation of the role of private property rights. Following Locke’s idea about the right to “the fruits of one’s labour,” Hegel regards private property rights as foundational rights of the individual. As opposed to Locke, who indirectly justified the minimal state engagement in few activities beyond protecting the legal subject’s constitutional rights, Hegel believes that property rights are merely the starting point for the construction of the legal subject as a full citizen, participating in social and economic affairs within the local community. Whereas the Lockean view of property rights is a form of protection against a paternalist or expansionist state, meddling with private economic interests and potentially extracting rents, and ultimately being the foundation for the liberal state and the liberal economy, Hegel is not equally concerned with allegedly paternalist tendencies of the state. On the contrary, Hegel portrays both society and its correlate, the sovereign state, as the arena

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wherein the legal subject is being fully developed as he or she refines his or her skills and capacities within and through communal interests: Hegel’s political philosophy is founded on property; but it is founded on property only so that it can transcend property. The fully developed individual—active outside the sphere of abstract rights, the system of needs, and the administration of justice—has moral and ethical ideals and human interactions (for example, family and state) that are not based on private property. But property nonetheless remains a permanent apparatus for carrying out a life plan, for giving reality to a conception of his own good, for his further development, and for his self-satisfaction. (Stillman, 1988: 1037) Needless to say, for classical liberals and neoliberals in particular, this Hegelian image of the sovereign state and its role in assisting the individual in developing his or her capacities is a step towards collectivist policies that cannot be justified out of hand. Liberals tend to recognize what the German socialist Ferdinand Lasalle (1825–1864) referred to as the “Nachtwachterstaat,” the “Night-watchman state,” in a speech in 1862, the minimal state wherein polity, judiciary systems, military defense, and the policing of the public domain are justified as collective responsibilities, while most other activities are rendered suspect as they impose additional costs that befalls third parties and/or open up for opportunistic behavior. In Hegel’s view, however, private property rights are foundational, constitutive rights, but unlike Locke’s view, these rights are relatively ineffective in accomplishing anything unless the individual actively participates in social and economic life. To use the vocabulary of Isiah Berlin (1958), Locke advocates a property right theory based on negative freedom, wherein the absence of a paternalist and enterprising state is ultimately the mark of a qualitative life and a functional society, whereas Hegel advances a more affirmative view of society and, ipso facto, the sovereign state, wherein the state and its various institutions actively support the individual to fully realize his or her potential. In the end, the distinction made in the varieties of capitalism literature (e.g., Allen, 2004) between liberal market economies (LMEs) and coordinated market economies (or embedded market economies) (CMEs) may ultimately be traced to Lockean and Hegelian influences. Anglo-American free-market liberalism and the German and Scandinavian social democratic open market economy are in many ways pitted against one another.1 Regardless of the role and position of private property legislation in various legal traditions and in different sovereign states, the legal concept of ownership rights is the foundation for the corporate legislation that was enacted in the nineteenth century as a legal device conducive to enterprising and economic welfare. Among the many legal inventions in

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corporate law counts the idea of the corporation as an autonomous legal entity—that is, a business venture is incorporated sui juris, “own itself” and thus cannot be dissolved as soon as, for example, business partners or the firm’s investors foresee more attractive investment opportunities elsewhere (Blair, 2003: 390). This legal statute is grounded in abstract property rights wherein not only are individuals granted the right to the output of their efforts, but so are abstract legal entities such as companies. Hence, there is a continuity between Grotius’ legal theory and modernday corporate law in, for example, the state of Delaware’s jurisdiction.

The Origin of Corporate Law Dari-Mattiacci and colleagues (2017) stress that Roman law, the foundation for modern jurisprudence, included legal statutes that actively promoted enterprising and venturing, including, for example, business partnerships. Such partnerships were in turn based on the principle of “exit at will,” which gave each individual partner “the right to force the liquidation of the partnership” (Dari-Mattiacci et al., 2017: 195). That is, if say one out of two business partners thought the joint venture was insufficiently profitable or otherwise rewarding, the first business partner could force the second partner to liquidate both agents’ joint holdings on legal grounds, and this despite potential grievances of the second partner, who perhaps was perfectly satisfied with the current return-on-investment. The Roman business partnerships did not protect joint ventures from an insider’s threat to liquidate the venture’s holdings, which created a sense of uncertainty that had to be recognized by all participants. Dari-Mattiacci and colleagues (2017: 195) trace the modern business charter to the liberal and burgeoning Dutch state of the seventeenth century, leading the expansion of the colonial economy on the basis of the Vereenigde Oost-Indische Compagnie (VOC), the Dutch East Indian Company, which Dari-Mattiacci and colleagues (2017) regard as the first modern operable business charter. VOC quickly became successful and during the eighteenth century, “about 30 ships left for Asia every year, and 200 to 300 people (both soldiers and seamen) were needed to crew each ship” (Wezel and Ruef, 2017: 1012). For many years, VOC was the largest trade and shipping company in the world, and in Asia alone, VOC employed more than more than 20,000 European and Asian coworkers (Boxer, 1965). While, for example, the states of Spain and Portugal, which accumulated considerable fortunes on the basis of the colonial trade in the sixteenth and seventeenth centuries, were pioneers in overseas longdistance trade, it was the Dutch who separated this trade from the royal courts and instituted the business activities as private enterprises. In 1581, the Low Countries had “abjured their Habsburg ruler” and subsequently established themselves as “a republic with a federal structure and a limited central power responsive to commercial interests,”

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Dari-Mattiacci and colleagues (2017: 198) write. In contrast, in Great Britain and its commercial and political center London, the monarchy loomed over private enterprise as the merchant class could not convince their monarch to stop meddling with business activities (Dari-Mattiacci et al., 2017: 220). This imbalance in power substantiates David Hume’s (1996: 165) claim made almost two centuries later, that “[t]he poverty of the common people is a natural, if not an infallible effect of absolute monarchy.” As opposed to their British competitors, the Dutch merchant class could reap the benefits of their risky investments. In this way, the Dutch East Indian Company provided a positive case that both paved the way for modern corporate legislation and the advancement of the modern democratic state. Dari-Mattiacci and colleagues (2017: 225) argue: By the end of the 19th century most western countries had moved to a parliamentary system with broader suffrage and the use of the corporate form had become broadly available. . . . The corporate form is now the foundation of the modern market economy. Its benefits are well appreciated: permanent capital grants an autonomous and indefinite life, and a capacity for long-term investment. This development in turn called for the open tradability of ownership claims and for limited liability, both essential for the development of modern financial markets. (Dari-Mattiacci et al., 2017: 225) In addition to the Dutch merchant class’ ability to marginalize the aristocracy, which promoted the monarchy as its foremost political institution to endure its prolonged privileges, the case is also indicative of the importance of law in constituting economic entities that operate in the market, and the market as such: “[M]arkets,” Lang (2013: 156) writes, “should not be imagined as existing prior to law, but are in part constituted by law. Law’s relationship to economic life is both regulative and constitutive.” In addition, the political economy of the market also generated a new set of challenges and concerns that gave rise to new theories and practices pertaining to the governance of the new legal entity of the incorporated business: “As for any major innovation, the full corporate status has had significant side effects, such as the emergence of the modern corporate governance conflicts,” Dari-Mattiacci and colleagues (2017: 225) conclude. To better examine how corporate legislation was a key legal invention in the transition from Fontaine’s (2014: 241) “aristocratic political economy” to the modern market economy, the elementary components of such legislation need to be examined. What Is a Corporation, Legally Speaking? The question regarding the legal substance of the incorporated business is a perennial issue in legal theory, management studies, and governance

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literature. Garrett (2014: 108) argues that “[t]heorists in corporate law, corporate governance, philosophy, and organizational behavior have debated for over a century how best to define a corporation.” As the corporation is a legal invention which includes “[a] complex range of legal duties and rights under the statutes, procedures, and case law regulating their creation” (Garrett, 2014: 108), it is not self-evident exactly what rights and obligations the incorporated business can assume, especially since much common law is based on court rulings to settle disputes, substantiating specific but ambiguous legal statutes only after the fact. At the same time, the elementary rules of corporate law are still possible to examine in their details. First of all, Rock and Wachter (2001: 1698) point out that “centralized management” is “a statutory creation,” which grants the corporation’s directors the right to manage the business and the affairs of the corporation; “by creating the foundations for the firm to operate as a hierarchy, corporate law answers the question of who gets to ‘run’ the company,” Rock and Wachter (2001: 1698) write. Second, from this elementary principle, in the governance literature (examined in Chapter Four of this volume), there are two basic “images” or “models” of the corporation. The first model is the “entity model,” which views the corporation as “a social institution” (i.e., the view taken in this volume) and emphasizes that the corporation is a legal entity created within the interest of the sovereign state as a vehicle for enterprising and, in the second instant, economic welfare, and therefore has responsibilities beyond mere short-term efficiency maximization. The second image is that of the corporation as a “property” or even a “bundle of contracts,” which is a legal device being controlled by the shareholders, the constituency that according to this view is granted the right to claim the surplus value generated by the corporations (Rock, 2013: 1986). The divergences between these two models have generated perennial issues in the scholarly literature that remain unsolved. Despite these complementary views, corporate law enacts the corporation as a legal device that needs to effectively balance two vices in enterprising and in economic affairs: the danger of “laxness and corruption”—that is, forms of illegitimate capture, on the one hand, and “rigidity and excessive regulation,” on the other (Lamoreaux, 2009: 18). Unless corporate law provides a legal framework that effectively establishes “rules of the games” accepted (or at least tolerated) by business promoters and other participants, its social and economic benefits are reduced. In an historical perspective, corporate law has been one of the most influential legal inventions, conducive to the development of the market economy propelled by the bourgeoisie revolution of the eighteenth and nineteenth centuries, and a precursor of modern parliamentarism as an alternative to the political system of monarchy, controlled by the aristocracy. In the United States, for instance, corporate legislation was enacted in a wide number of states in the early

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nineteenth century, including Massachusetts (1809), New York (1811), Pennsylvania (1836), and Connecticut (1837): by the end of the 1850s, 15 more states had passed “general incorporation statutes” (Blair, 2003: 425–426). Such swift processes of imitation across U.S. states testify to the efficacy of the legislation, which made it a legal de facto standard by the late nineteenth century. Core Elements of Corporate Law Djelic (2013: 596) suggests that there are three dimensions of corporate law that need to be recognized: First, the corporation is “a fictional individual”—that is, the firm is enacted as a legal entity sui juris: the corporation owns itself. Second, the ownership of the modern corporation is structured around the ownership of shares, issued by the public corporation or a closely held firm; this ownership includes the right to vote during, for example, annual assemblies. Third and finally, which is a major legal innovation and one of the most controversial statutes of corporate law, the shared ownership is accompanied by “limited liability” (Djelic, 2013: 596). The principle of limited liability means that owners of stock risk nothing more than the money they have invested in the stock ownership2 (at times, under certain conditions, nonpecuniary penalties such as reputational losses can be included). For its critics, this statute creates moral hazards as, for example, shareholder activists may campaign to incentivize directors and management to make decisions that benefit their personal economic interests, while transferring costs onto third parties, for example, taxpayers in the case of when the sovereign state needs to carry certain costs (e.g., in the role as lender-of-last-resort, or during a bailout campaign). For its proponents, to lift the risk from the firm’s investors is conducive to efficient capital market creation, which generates net economic welfare in excess of the potential costs of opportunistic behavior. In addition, both directors and their agents, the CEO and members of the top management team, may still be held responsible under other legislation (e.g., civil law), which rewards prudence and moderate risk exposure. Blair (2003: 390) adds a fourth factor (including two basic innovations): the ability to commit capital, once amassed, for extended periods of time—“for decades or even centuries.” This factor was supported by the enactment of the chartered business as an autonomous legal entity, endowed with the right to fully control its means of production, including finance capital, and the right to protect these resources from external as well as internal expropriation. This combination of legal rights enshrined by corporate legislation on the state level became the standard script for business venturing: by the year 1800, only 335 charters had been issued in the United States for business corporations, whereas nine decades later, in 1890, nearly 500,000 corporations were registered (Blair, 2003: 389, footnote 3).

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By and large, the incorporated business takes advantage of many benefits and subsidies vis-à-vis businesses that operate under other legislations, which makes incorporation an attractive legal form for business promoters: Corporate assets are legally protected from both shareholders and creditors in many cases, thus creating a legal shield between corporate actors and corporate responsibilities. In the contemporary context, corporate assets are also subject to different taxation and regulation schemes than unincorporated businesses. (Kaufman, 2008: 403) Consequently, Kaufman (2008: 402) argues that “the rise of the corporate organizational form” has long been regarded as “one of the defining innovations of the modern era.” In this context, it is important to keep in mind that the first economic activities being granted the status of a corporation were not regular companies as we modern people perceive them today, but were universities, townships, and ecclesiastical institutions that sought legal autonomy from the state. In addition, under specific circumstances, trade guilds and even commercial monopolies could be granted corporate status (Kaufman, 2008: 403). This historical fact cast a shadow over the recent idea that the incorporated business is a legal invention and device exclusively designed to benefit the company’s investors, the shareholders, a view mainstream in the economic theory–inspired governance literature. The Institutional View Roy (1997) is critical of what he refers to as “efficiency theory” as an explanatory framework for the embedded autonomy of the corporation. A central tenet of efficiency theory is that “[p]rivate enterprises, disciplined by an unforgiving market, is inherently more efficient than government decision making,” Roy (1997: 75) argues. In contrast, institutional theory makes other assumptions, granting the state a more central role in creating the constitutional law and accompanying regulations and policies that render the incorporated business an efficient vehicle for enterprising. In this institutional theory view, the modern corporation originated as a “quasi-government agency,” Roy (1997: 76) remarks, designed to accomplish outcomes that were desirable in the eyes of policy-makers and legislators: [The] most private of our economic structures, the large business corporation, arose as a quasi-government agency. Some of its particular features, such as limited liability, perpetual life, and parcellized ownership, were established not so much because they were efficient but

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Corporate Legislation to compensate for the inefficient tasks corporations were assigned, like building canals, turnpikes, and bridges, were markets would not support them. . . . The corporation was after all a delegation of sovereign powers to serve the public interest, thus the corporation did not grow by an evolutionary process by which an organizational form was perfected to its maximum efficiency. (Roy, 1997: 76)

In this view, the corporation is embedded within the economic and social interests of the state, and should be examined in such terms. One of the consequences of these propositions is that the very term “efficiency” is no longer advanced as the indubitably single-most important parameter when examining the operations of the corporate system, as there are many aspects of the corporate legal entity that need to be considered when, for example, corporate law is enacted: “The changes created by corporate law were not necessarily conducive to greater efficiency, technological development, or managerial effectiveness. The explanations of the corporate revolution that focuses on technological adaptation, managerial efficiency, or economic power miss part of the story” (Roy, 1997: 174). At the same time, Kaufman (2008: 421) adds, the efficiency theory argument that the market is the most efficient arbiter of economic value and pricing has been very influential in legislative practices and in policy-making, which converges towards market-based self-regulation and similar solutions to regulatory oversight: “Courts and legislatures have not always been consistent in their vision of the American private corporation, but the long-term trend has been toward greater corporate autonomy, except in cases where the openness of markets is at stake” (Kaufman, 2008: 421). In this view, the corporation is first enacted as a legal entity conducive to enterprising and venturing, but is granted certain privileges, the right to receive subsidies, taxation exemptions, and so forth, only on the ground that the economic activities of the corporation are embedded within the wider interests and responsibilities of the state.

The Corporation as “Quasi-Government Agency” or Market-Based Entity Ciepley (2013: 139) closely follows Roy’s (1997) view and argues that before the nineteenth century, corporations “[w]ere not viewed as private.” Instead, it was taken for granted that the corporation owed its existence and rights to the government and the state that granted the charter in the first place. The efficiency theory view, that corporations are most efficiently managed when the firm’s investors, the shareholders, receive the surplus generated by the firm, is thus, Ciepley (2013: 140) says, “theoretically confused, economically deleterious, and normatively askew.” In contrast to this view, firms, Ciepley (2013: 140) continues,

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“are not simply private”: “Unlike private bodies, such as families and voluntary associations, corporations cannot be formed without civil government, depending on it for their contractual individuality, their form of property, and their governing authority” (Ciepley, 2013: 140). Instead, the corporation is a form of “franchise government,” wherein powers are delegated to the board of directors and, on the next level, the directors’ agents, the CEO and members of the top management team. In this view, the corporation is a legal entity that “transgress[es] all the basic divides that structure liberal treatments of law, economics, and politics: government/ market, state/society, privilege/equality, status/contract, as well as liberalism’s master dichotomy of public/private” (Ciepley, 2013: 140). Ciepley’s (2013) argument that the corporation is instituted as a specific form of franchise government may be able to resolve some of the elementary theoretical issues in the corporate governance literature, but is it really attractive for the legislators and policy-makers to promote the incorporated business in such terms? Pargendler (2016) responds to this question with a resounding no. In the 1930s, the legal scholar and advisor to President Roosevelt Adolf A. Berle debated with the Harvard Law School professor E. Merrick Dodd (1932) about to whom the directors and the managers of the corporation were in fact responsible. In Dodd’s (1932) view, corporations are legal entities created by the state, and therefore, by implication, managers are responsible to a variety of stakeholders who rely on the corporation for various benefits, including salaried work, business opportunities, and so on. As opposed to this expanded business charter view (which contemporary scholars such as Ciepley, 2013, seek to rehabilitate), Berle (1932) was skeptical towards this idea. Berle was no enemy of the accountability of managers and the idea that the corporation should serve ends beyond narrow (with Roy’s, 1997, phrasing) efficiency theory objectives, but he did not trust the efficacy of the paternalist model proposed by Dodd (1932) and his followers. The benefit of professional business managers is that they are experts in managing firm-specific resources so that they maximize net economic output, the revenues of which are to a varying degree distributed to stakeholders. If these business managers are bestowed with additional social responsibilities, some of which may be outside of their expertise and personal interests, the outcome is likely to be suboptimal, Berle (1932) argued. That is, if, for example, corporations and their management should take, for example, wider social responsibilities, policy-makers and legislators put both the efficiency of the corporate system at stake and dilute top management responsibilities to now include activities that fall outside of their expertise—that is, what justifies their professional authority and decision-making discretion in the first place. In the end, Dodd’s (1932) and his followers’ argument to push “corporate social responsibilities” (in the contemporary vocabulary) onto companies generates additional costs and includes unanticipated externalities that reduce net economic

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welfare: “Unchecked by present legal balances, a social-economic absolutism of corporate administrators, even if benevolent, might be unsafe; and in any case it hardly affords the soundest base on which to construct the economic commonwealth which industrialism seems to require,” Berle (1932: 1372) summarized his argument. Pargendler (2016) addresses Berle’s (1932) concern more than eight decades later. Pargendler asks why corporate governance is popular in policy-making quarters and in free market communities alike. She (2016) argues that planned economies that rely on close monitoring by centrally located agencies are unattractive and by and large unpopular today, whereas free-market models do not provide any sustainable model for self-regulation either, leaving corporate governance as a palatable option. At the same time as corporate governance is assumed to ultimately rest on market activities and market pricing, it also provides some opportunities for making the corporation a “quasi-government agency” that can bridge and bond heterogeneous interests: “If markets fail, and so do governments, corporate governance appears as an attractive alternative. As in a hydraulic system, governance may partly substitute for government, at least in the level of discourse” (Pargendler, 2016: 365). Pargendler’s (2016) concern is still that the idea of corporate governance as a form of government-sanctioned charter that includes social responsibilities beyond the immediate interests of the corporation or its defined management opens up for the concerns examined by Berle (1932). Managers as a professional class and with defined responsibilities and rights and authority may be no more, no less committed to social welfare than other groups are, and they lack both the time and the expertise to make decisions pertaining to wider social issues. That is, social responsibilities are again transferred from specialist agencies to corporations, with net economic welfare losses and integrity issues on the deficit side. Says Pargendler (2016): [T]he growing concern with corporate governance partly compensates for the misgivings about government intervention in the policy arena. Ironically, it does so by treating the corporation as a metaphor for government in two ways. First, it transposes to the corporate form the same traditional formulas for controlling and legitimizing power in the political sphere—‘checks-and-balances’ through strong independent boards and (shareholder) democracy—in the hope of tackling numerous economic and social problems. Second, the internal workings of the corporation become the focal point of public debate, as well as the presumptive remedy. Indeed, a key promise of the corporate governance movement is that, once the proper decision-making processes internal to the corporation are in place, external substantive regulation of corporate action will become

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increasingly superfluous, as corporations will be in the position to govern themselves. (Pargendler, 2016: 365–366) As clearly indicated by the various scandals that erupted in the first years of the new millennium (the Enron bankruptcy, etc.),3 the corporate governance solution progressives, liberals, and conservatives advocated for in a joint reformist project proved to be disappointing. The 1990s, the “decade of corporate governance” (Pargendler, 2016: 379), did not provide any definite solution to either of these issues addressed by Berle (1932) and Dodd (1932), especially not regarding the integrity, prudence, and quality of decision-making of defined corporate governance decisionmakers. While corporate governance was a solution to the problem of how to align political interests and ideological differences, and how to bury controversies among diverging stakeholders and policy-makers, it did not mark the end of history. Instead, corporate governance as a package of legislation, regulatory activities, and day-to-day practices still needed to be accompanied by, for example, discussions regarding business ethics and the wider social implications of the firm. In the end, the difficulty to enact the firm as either a species of “franchise government” (Ciepley, 2013) or as an autonomous business venture, unable to serve as a vehicle for social reforms (Pargendler, 2016), may justify the question, “What does it matter?” Two equally convoluted theoretical images of the firm may appear to differ substantially on paper (i.e., in theory), but how do such images translate into material effects? To better illustrate the differences between the two models in practice, the shareholder primacy debate will be examined in some detail, indicating how various images of the firm can justify certain beliefs.

The Nature of the Firm and the Shareholder Primacy Debate Economic theory advocates for a model of the corporation wherein the firm’s investors (i.e., the shareholders of a public company) are entitled to the right to claim the “residual cash,” the money that remains when all costs are covered. Furthermore, proponents of so-called shareholder primacy governance argue that this model is sustainable as it maximizes the efficiency of the corporate system, which ultimately is beneficial for all constituencies. This leaves the analyst with two theoretical propositions: one is theoretical and suggests that shareholders “own” the firm (in its more strong form), or, alternatively (in its weaker form), regardless of formal ownership rights, shareholders are still entitled the residual cash as that is a reasonable solution to a series of governance problems. The second proposition is more empirical in orientation and makes the

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assumption that a shareholder primacy governance model is beneficial for all stakeholders. This is a quite bold declaration that also opens up for considerable methodological debates regarding how such claims can be substantiated. In the following, these claims will be discussed in detail. Corporate Law and the Shareholder Primacy Argument The argument in favor of shareholder primacy governance has been examined in detail elsewhere, and it is beyond the scope of this volume to outline the mechanisms and arguments that constitute this model (for an overview, see, e.g., Styhre, 2017). Instead, it is more productive to return to the legal theory literature to examine both what corporate legislation does stipulate and how such legal statutes are substantiated in court decisions (as prescribed by Anglo-American common law). Bratton and Wachter (2010: 659) emphasize that corporate law has “performed a balancing act with management discretion and shareholder power,” wherein the interests of managers need to be weighed against the interests of, for example, the firm’s investors, the people the firm relies to attract the finance capital needed to fund, for example, developmental work. Bratton and Wachter (2010: 659) continue to argue that this balance has “[a]lways privileged the directors and their appointed managers in business policymaking because they are better informed than the shareholders and thus better positioned to take responsibility for both monitoring and managing the firms and its externalities.” That is, the extent to which the shareholders are entitled to the residual cash flow is legally a matter of what decisions the directors and their defined agents, the CEO and members of the top management team, make, and not some theoretically or substantially derived fact, as suggested by shareholder primacy theorists: “As a legal matter, shareholders of a public corporation are entitled to receive nothing from the firm unless and until the board of directors decides that they should receive it,” Stout (2012: 1194. Emphasis in the original) writes. This is the standard corporate law statute, prescribing managerial discretion regarding the use of firm-specific resources in the best interest of the corporation, and, on the second level, the firm’s various stakeholders. In addition to this unambiguous legal support of the director-centered corporation, court cases further substantiate directors’ and managers’ authority to make decisions regardless of shareholder activist campaigns, Blair and Stout (1999: 298. Original emphasis omitted) point out: “Corporate law only permits shareholders to bring successful derivative claims against directors in circumstances where bringing such claims benefits not only shareholders, but other stakeholders as well.” This means that shareholders cannot bring cases to court on the grounds that alleged managerial greed, incompetence, or indolence have damaged their interests only, but need to claim that the corporation’s various stakeholders have suffered losses. In the legal theory view, Bratton (1989: 432) summarizes,

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the “new economic theorists” (i.e., proponents of shareholder primacy governance) have “misstated materially the political issues underlying corporate law.” In this view, shareholders do not legally own the firm, nor are they per automata entitled the right to the residual cash flow. Still, if directors and top management believe it is in the best interest of the corporation to transfer the residual cash flow to shareholders, either as dividends or stock buybacks, they have the authority to make such decisions, but to claim that shareholders are legally entitled to such privileges at the expense of all other stakeholders is quite another matter.4 Also, nonlegal scholars such as political scientists, economists, and management scholars have advocated the same set of arguments. Moore and Rebérioux (2011) stress the director-centered nature of corporate law, leaving shareholders with only limited possibilities to influence dayto-day management: Anglo-American corporate law is squarely at odds with the doctrine of shareholder primacy, which in contrast depends on an assumption of shareholder sovereignty in the determination and appropriation of the corporation’s economic output on an ongoing basis. This suggests that, if the norm of shareholder primacy is indeed prevalent within Anglo-American corporate governance, it has become so in spite of, rather than because of, the surrounding corporate law framework. (Moore and Rebérioux, 2011: 100) In line with this argument, Ciepley (2013) points at the role of the stock market mechanism and argues that the very construction of the incorporated business as a legal entity is entangled with voting rights and the design of stock ownership as a commodity that can be traded at reasonable costs. The market for management control (in the economic theory vocabulary) does offer two major benefits. First, it justifies the limited liability of the firm vis-à-vis individual stock traders and shareholders as they can manage the risk levels of their holdings by buying and selling stock at a limited cost: Tradability is critical because, without it, the only point at which corporate investors could recoup their investments would be at the dissolution of the firm, because investments are locked in. Few would invest in a long-term enterprise under such a regime, unless dividends were particularly high. Tradability returns liquidity to investors, allowing them to draw out the value of their shares provided they can find buyers for them. (Ciepley, 2013: 144) Second, as an auxiliary benefit, the stock trade provides a control mechanism that monitors managers with decision-making discretion: if

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managers conduct low-quality decisions, demonstrate lack of prudence, or otherwise act in ways that shareholders do not appreciate or believe are inconsistent with their interests or expectations, they are free to sell off stock, which may reduce, if done in considerable proportions, the value of the shares as more traders are selling than buying the firm’s shares. The tradability of the firm’s stock is thus one of the constitutional features of the corporate system. At the same time, Ciepley (2013: 143) continues, the modern business corporation is based on a “violation” of “standing rules of property, contract, and liability,” and the states allow the corporation to “override them as a legal privilege.” Such privileges are taken for granted by analysts who advocate shareholder primacy governance but ignore that the discretion of directors and managers is in fact justified on the basis of this privilege. In addition, such analysts may only recognize the downside risks of managerial incompetence or indolence, a condition that corporate law addresses (but enforces poorly, several commentators argue; Anabtawi and Stout, 2008; Roe, 2002: 234; Blair and Stout, 2001). Furthermore, Ciepley (2013) is critical of the metaphor that shareholders “own” the firm (which, to repeat, they do not according to legal scholars and substantial court case rulings), as the conventional meaning of “ownership” includes defined rights: Owning a share, however, is entirely different from owning corporate assets. If I own something, I can (a) use it, (b) exclude others from it, (c) lend it to others on my terms, (d) borrow on it, (e) alienate it, and profit from it in use or sale. Shareholders have none of these rights over corporate assets, either individually or jointly. Nor are they legally liable for them. (Ciepley, 2013: 146) In the weaker version of this argument, leading to the same payout policies advocacy, the shareholders are not technically and legally speaking the owners, but they are instead portrayed as the only remaining “residual claimants” of the residual cash (Fama and Jensen, 1983). This means in the standard argument that the shareholders are the only group of stakeholders that are exposed the downside risks of managerial decisionmaking quality. Needless to say, this claim is counterintuitive and complicated to substantiate. It is more reasonable to argue, as, for example, Coffee (1986) does, that opposed to, for example, professional executives and the employees being committed to one specific industry and one specialized domain of expertise (e.g., in the case of operators trained to be able to run advanced machinery), shareholders are diversified and can access a mind-boggling variety of investment options. Shareholder hold many assets, while managers and employees have only one job (or only a few salaried jobs, as in the case of directors sitting on boards in other companies). Proponents of shareholder primacy governance argue

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in turn that both managers and employees are working on the basis of contracts, written within the horizon of existing labor relationships and institutions and that stipulate economic compensation and benefits that do not vary with firm performance. This contractual relationship makes neither managers nor employees the firm’s residual claimants, proponents of shareholder primacy governance state. At the same time, future work contracts, especially in an increasingly network-based corporate system, are still dependent on the money generated by the focal firm, opponents of shareholder primacy governance remark. In the end, the residual claimant argument is rejected out of hand by several commentators (Collins and Kahn, 2016: 329; Ciepley, 2013: 146; Stout, 2012: 38–41; Garvey and Swan, 1994: 154). The substantive argument in favor of shareholder primacy is more complicated to bring to a closure. If, and only if, the argument that shareholder primacy governance does generate net economic welfare (and, this is worth noting, reduce economic inequality) can be substantiated on the basis of empirical evidence, then it may be justified to promote legal reforms in the spirit of shareholder primacy governance. Unfortunately, as discussed in detail in Chapter One, the de facto advancement of shareholder welfare has generated considerable costs that were not anticipated by its proponents. For instance, economic theory tends to ignore economic inequality, and assumes that overall efficiency is the principal concern in scholarly inquiry and policy making, justified by what is referred to as “Pareto optimality,” which means that there are no recognized consequences of economic inequality (Demsetz, 1969; Kaldor, 1939). Studies in other disciplines dispute such claims on theoretical and empirical grounds, and suggest that net economic wealth regardless of distribution effects is a poor indicator of the economic fitness of an economy, regardless of what the predominant macroeconomic theory prescribes (Summers, 2014; Jencks, 2002). That is, economists tend to underprice economic inequality and to understate its socioeconomic consequences as their doctrines direct them in such ways. In the end, proponents of shareholder primacy governance fail to “[s]ufficiently explore how corporate governance is shaped by its institutional embeddedness” (Aguilera and Jackson, 2003: 448). For them, the firm is a market-based entity more or less separated from the state (or preferably so), whereas for Aguilera and Jackson (2003) and others, the firm is a legal device, protected by constitutional law within the state’s jurisdiction and the accompanying regulatory system, that generates considerable economic welfare and that should preferably not only reward shareholders, the foremost benefactors of such state-based concessions. To further substantiate the embedded autonomy argument, specific legislation such as Delaware General Corporate Law (DGCL), the state of choice for incorporation in the United States and therefore also the role model for other jurisdictions, is examined. As opposed to the theoretical

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and propositions and deductions–based shareholder primacy governance model, the Delaware corporate legislation is director-centered, and few new business incorporations, studies show, deviate in considerable ways from the standard Delaware model (Simmons, 2015; Klausner, 2013). Such evidence underlines the efficacy of the extant embedded autonomy corporate model and substantiates its net economic effects. Delaware Corporate Law and the Benefits of Standardized Legal Services The majority of the companies traded on the New York Stock Exchange are incorporated in Delaware, the relatively small eastern coastal state south of New Jersey and west of Virginia and Maryland. For various historical reasons, Delaware corporate law has become the de facto standard in the market for incorporation: “In a sense, the Delaware brand is to corporate law what the Apple brand is to personal computers,” Simmons (2015: 220) says. In 2013, no less than 83 percent of all IPOs involved “Delaware entities,” Delaware Chief Justice Leo E. Stirner Jr. reports (cited in Simmons, 2015: 221). At the same time, in the capitalist economy, there is a constant movement and there are other jurisdictions that are competing with Delaware to attract new companies. As Levitin (2014: 2059) remarks, “[C]orporate law is Delaware’s business. But it will only remain so while Delaware remains an attractive corporate law jurisdiction for both managers and shareholders.” Originally, the state of Delaware was seeking new sources of tax revenues, and by and large copied the state of New Jersey’s corporate legislation to establish its own statutes (Kahan and Kamar, 2002). In 1913, the governor and future president, Woodrow Wilson, decided that New Jersey should tightened its laws relating to corporations and trusts, but Delaware maintained its existing legislation, creating competitive advantages vis-à-vis other states, which Delaware has upheld ever since (Cary, 1974: 664). As companies are quite diverse, with their own histories and individual strategies, and operate in different industries, it is conceivable that various companies would favor tailor-made corporate legislation, and therefore search for jurisdictions suited to their specific interests. Such a “market for incorporation” is, however, quite thin as most companies register in the same state—Delaware. For legal scholars and economists, this preference for “one-size-fits-all” corporate legislation is somewhat puzzling given the singular nature of companies. The key to explaining this conformity to the Delaware standard package is the predictability of the legislation and the off-the-shelf legal services that the state does provide for its incorporated businesses: Focusing on one jurisdiction allows counsel to specialize and develop expertise, reducing the cost of furnishing advice to clients, particularly

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where the state’s law is as well developed as Delaware’s. The stability and predictability of Delaware law that is favorable to managers for planning numerous complicated business transactions therefore also benefits attorneys, and it gives them additional, independent incentives to recommend Delaware if the firm is going to engage in transactions not well defined by a home state. (Romano, 1985: 280–281) “The value of Delaware incorporation may come as well from lawyers’ familiarity with Delaware law and the ease with which they can provide reliable legal advice,” Klausner (2013: 1345) adds. The Delaware corporate legislation has been persistently board-centric—that is, it emphasizes the role of directors as the company’s fiduciaries, and managers as their agents—a legal model that provides considerable managerial discretion (Klausner, 2013). For its critics, the Delaware legislation offers only lax protection of shareholder rights (Klausner, 2013: 1340), which has generated much debate regarding the protection of salaried managers vis-à-vis the owners of stock. At the same time, the Delaware legislation is a low corporate tax jurisdiction, which benefits shareholder interests—some scholars speak of Delaware as a “tax haven”5—so the question whether Delaware corporate law is conducive to shareholder protection is a complex issue to finally settle. If it can be assumed that directors and managers seek to maximize the value of their holdings, then Delaware corporate law is certainly value-enhancing as businesses continue to incorporate in the state. To address the core question regarding the embedded autonomy of the firm and its relationship to shareholder primacy governance, the Delaware corporate law unambiguously mandates board-centric governance. In common law theory, it is useful to separate between ex ante legislation and ex post court rulings, wherein the former examines how law is written and interpreted by the subject, and the latter denotes the interpretation of the legislation made in the courts in the event of disputes between business partners or stakeholders. In both cases, Delaware corporate law grants discretion and decision-making authority to directors and members of their management teams. To address the legal statues first, Moore and Rebérioux (2011: 96) cite Delaware General Corporation Law, §141(a), stating that “[t]he business and affairs of every corporation . . . shall be managed by or under the direction of a board of directors.” That is, as Cremers and Sepe (2016: 84) emphasize, Delaware corporate law has been “consistently board-centric.” As a corollary to this elementary statute, directors have no specific obligations against the corporation’s shareholders: “Nowhere in the Delaware General Corporate Law does it explicitly require that directors maximize shareholder value” (Hasler, 2014: 1291). Directors may make the decision that it is in the best interest of the corporation to maximize the payout to shareholders, but there

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are limited possibilities for shareholders to claim that the directors are mandated to make such decisions on legal grounds. Regarding court rulings, the literature references a few legal cases that substantiate the ex ante interpretation of the legislation. In the case Credit Lyonnais Bank Nederland v. Pathe Communications Corp., the Delaware court held that “a board of directors is not merely the agent of the residual risk bearers, but owes its duty to the corporate enterprise” (Hasler, 2014: 1293)—that is, the directors do unambiguously have fiduciary duties vis-à-vis the legal entity of the corporation per se, but to none of its stakeholders exclusively. In a Delaware Chancery Court legal statement, cited by Blair and Stout (1999: 296), it was announced that “[the board] had an obligation to the community of interests that sustained the corporation, to exercise judgment in an informed, good faith effort to maximize the corporation’s long-term wealth creating capacity.” The only case where shareholder value is to be maximized is the specific case of a merger or an acquisition, where the directors need to ensure that the highest possible wealth is generated in the interests of the shareholders (and other stakeholders). In the case Revlon v. MacAndrews and Forbes Holding, a court case from 1986, the so-called “Revlon rules” were established, but these rules apply only under certain circumstances and “do not apply in the day-to-day management of the corporation’s affairs” (Robé, 2012: 9, footnote 23). These court cases demonstrate that the corporate legislation par préférence of American public corporations secures board autonomy, and, in the next instant, managerial discretion and autonomy. The idea that corporations are legal entities constituted for the benefit of shareholders only is not supported by formal law, court rulings, or the fact that businesses are at an overwhelming rate incorporated in this jurisdiction. This indicates that the shareholder primacy governance is a theoretical construct, based on deductive reasoning on the basis of elementary propositions regarding the nature of the market and its alleged ability to both reflect and effectively process available public information. To put it in other terms, the corporation still enjoys the embedded autonomy prescribed by corporate law statutes, but the specific group of shareholders is not granted any specific rights and authority vis-à-vis other stakeholders, not even in Delaware, one of the most pro-business jurisdictions in the world. The Resilience of the Shareholder Primacy Model The corporate governance literature abounds with texts where shareholders’ values are advocated on the grounds that they “minimize agency costs,” or on the basis of the more general claim, also to be substantiated, that limited managerial discretion and increased accountability are “better for everyone”—that is, not only for the alleged residual claimants, the shareholders. As this line of argument is primarily based

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on theoretical propositions or more general prophecies of “what will come in the future,” one scholarly pursuit would be to better explain the attractiveness of the shareholder primacy governance model. As, for example, John Coffee (2007), a legal scholar, argues, there is little reason for anyone outside of shareholder advocacy circles to assume, unaccompanied by solid evidence, that shareholder maximization is a superior governance model: Maximizing share value is not the only rational goal, particularly for a controlling shareholder who does not soon intend to sell. Although the corporation may have an interest in increasing its share value, this can be overridden by, for example, (1) the interest of its controlling shareholders in maintaining unfettered access to the private benefits of control; (2) a desire to retain business discretion and flexibility or to avoid specific governance norms required by U.S. exchanges; or (3) the fear (at least on the part of corporate managers) of enforcement penalties and the risk of private litigation in the United States. (Coffee, 2007: 237) On closer inspection, and when being located outside of the more narrow shareholder primacy argument, in real world economies, the shareholder primacy governance model is less persuasive; the corporation is embedded in and assuming its autonomy within a legal and policy-dependent field that makes rectilinear and singular governance models less efficient than its proponents may assume. The task is then to explain the rhetorical vitality of the shareholder primacy argument, its attractiveness vis-àvis other governance alternatives. Hasler (2014: 1297) offers four explanations, including, first, its “communicative efficiency,” wherein “[s]hareholder value offers a clear, simple mandate that is easy for shareholders to track, for directors to follow, and for the media to report on.” Second, which draws on the demand for what Anthony Giddens (1990) refers to as “ontological certainty,” the ability of the shareholder primacy model to provide a perhaps simplistic, yet serviceable, image or map of social reality that can be used to guide both individual and collective action matters. Hasler (2014: 1297) argues that overtly simplistic maps may be complicated to displace as actors are prone to protect their worldviews, even in cases where people know they are operating on the basis of misconceived ideas (Correll et al., 2017; Willer, Kuwabara, and Macy, 2009; Troyer, and Younts, 1997). By implication, in this specific case, such sociocultural and behavioral inertia translates into the problem of deciding what new model should be advocated and promoted: “If society were to abandon the shareholder value norm, it is not clear what would replace it,” Hasler (2014: 1297) writes. Third, there is a lack of incentives to change social norms, as in this case, to think of shareholders as a privileged group within the corporate

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system once this idea has been successfully promoted. While commentators have associated shareholder primacy governance with “accounting fraud, inflated executive salaries, and poor business practices that harm employees, communities, and the environment” (Hasler, 2014: 1298), there are also significant groups, not the least the CEOs themselves, that have seen their economic compensation soar over the last three decades (Vergne, Wernicke, and Brenner, 2018: 797), and that benefit handsomely from this new conventional wisdom that shareholders are the residual claimants of the economic value generated by corporations. In combination with the contemporary “agency capitalism” model (Gilson and Gordon, 2013) wherein roughly three-fourths of all public companies’ stock are owned by institutional investors such as pension funds, mutual funds, and hedge funds, and growing lobbying investments, which tend to translate into regulatory capture (Levine and Forrence, 1990), criticism of the current system may be ignored. The incentives of all these agents and the agencies they represent are adjusted to the shareholder primacy governance model. Fourth and finally, Hasler (2014: 1298) suggests that the shareholder primacy governance model, developed and advocated within pro-business and free-market communities being funded by conservative foundations in the 1970s and thereafter, has now been entrenched in the federal government, starting with the Reagan administration, and thereafter has become the centerpiece of the new economic policy. In the end, there are too many centrally located agents who have much to win by maintaining the shareholder primacy governance model. Regardless of its lack of legal support, a leaky theoretical construction, and inadequate empirical substantiation, the shareholder primacy governance model has become the de facto model that guides zillions of independent decisions in a highly differentiated, yet integrated economy (Ho, 2010: 73).

Summary and Conclusion Djelic (2013) remarks that the forgetfulness of social actors as well as social institutions (see, e.g., Mary Douglas, 1986) is a factor to consider in scholarly work as, for example, legal inventions and accomplishments are easily forgotten or simply taken for granted. “Today, we tend to take for granted both limited liability and its association with the corporate form,” Djelic (2013: 596) writes. The corporate form, the business being granted a charter to operate under specific conditions, subsidies, and exemptions, provided “[a] more reliable basis for building organizational capital than did either an individual proprietorship or partnership,” Blair (2003: 427) writes. In order to raise capital from dispersed financiers, while at the same time granting discretion and autonomy to business promoters, the legal invention of the corporation as a legal entity including, for example, limited liability and voting rights connected to share ownership provided a stable, and predictable business enterprise

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model that ensured flexibility for individual investors being able to sell off stock when detecting more attractive investment options, or when being disgruntled with, for example, managerial performance. In addition, this corporate model included a clear delegation of decision-making authority to directors and their defined managers. In this view, decision authority and markets for managerial control were developed in tandem to provide finance capital investors with a burgeoning and dynamic capitalist market economy. To assume ex post facto that corporate legislation should univocally attend to shareholder interests is to turn a blind eye to not only the corporate legislation per se and its history, but also to ignore the benefits that the legal invention generated in the first instance, beginning with small and undifferentiated rural economies and leading to advanced and highly differentiated finance capital–driven economies in the contemporary era, all of which operate under the same (or at least similar) legal statutes. Such accomplishments are easily concealed under the ignorance of the assumption that the world as we know it was always already there to our benefit, or that the same mechanisms that generate the current situation that we now benefit from can be criticized and preferably removed (through, e.g., legal reforms) without any additional costs or loss of benefits (see, e.g., Berle, 1962: 433). This kind of Whighistory argument, the assumption that history unfolds in a rectilinear manner that inevitably leads up to the present situation, is not helpful when explaining the embedded autonomy of the corporation and its role in generating the economic welfare that many, if not most, citizens in countries hosting differentiated economies can take advantage of.

Notes 1. For instance, in William E. Simon’s neoconservative manifesto, A Time for Truth (1978), which includes a preface penned by Milton Friedman and a foreword by Friedrich von Hayek, the former U.S. Secretary of Treasure of the illfated Nixon administration and the succeeding Ford administration, portrays Sweden as a social democratic nightmare wherein the paternalist state is given the free reign to dictate the life conditions of its citizens: “[T]he Swedish people on the whole have willingly accepted almost suffocating bureaucratic supervision of every detail of their lives . . . in exchange for cradle-to-grave protection,” Simon (1978: 35) declares. By 1980, Sweden together with Switzerland were arguably the two wealthiest countries in the world with the lowest degree of poverty and generous welfare provisions, including (in the case of Sweden) reforms intended to increase gender equality such as day-care for children. Simon (1978) pays little attention to such accomplishments as Sweden in his mind serves as an exemplary negative case in his crusade against what neoconservatives and libertarians regard as “collectivism.” 2. The legal invention of limited liability is of modern origin, having no comparable mechanism in Roman law or premodern law in Europe. As Countryman (1976: 226) shows, in Roman law, the debtor was liable for his debt “with his life and body.” If he could not repay the debt, “he was either killed, made a slave, imprisoned, or exiled” (Countryman, 1976: 226). In early English law, a

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similar degree of liability was stipulated and a creditor “could have his debtor imprisoned and, in effect, held for ransom until his debt was paid” (Countryman, 1976: 226). In contrast, modern limited liability legislation excludes the private life and the body of the debtor from the credit relation, and instead emphasizes the monetary and reputational investments and mutual obligations in such transactions. 3. As Pargendler (2016: 383) remarks, when the Enron scandal emerged, the Texas-based energy company widely enjoyed the status of “international paragon of good corporate governance.” As the details of the Enron affairs were revealed, this reputation was turned into dust as, for example, members of top management were sentenced to considerable prison terms. 4. Firms can, for instance, donate their residual cash flow to charity if they believe this is the most beneficial act for the performance or long-term survival of the firm, a decision that shareholders may dispute on various grounds, including the claim that it is more effective to let individual shareholders make their own decisions whether they want to pass on their residual cash to charities rather than to delegate such decisions to a centrally located board. This argument is consistent with Berle’s (1932) proposition that managers have specific expertise in managing complex ventures and little beside, which implies that they are no better in assessing the efficacy of various charity donation options than other decision-makers. 5. The term tax haven may have overtly negative connotations, tangential to economic crime and money laundering, but as Palan, Murphy, and Chavagneux (2010) show, tax havens are jurisdictions of sovereign states, which have the legal right to write their own domestic laws. These constitutional rights grant them the authority to write their tax codes and financial laws in ways that other actors (e.g., sovereign states dependent on income taxes and other taxes to finance their provisions) may consider harmful. “About 50% of all international banking lending and 30% of the world’s stock of Foreign Direct Investment (FDI) are registered in these jurisdictions,” Palan, Murphy, and Chavagneux (2010: 5) report. Legally speaking, there is a clear line between tax evasion, which is illegal, and tax avoidance, which is not illegal but considered immoral by some actors; tax havens locate themselves on the tax avoidance side to attract a share of the global finance transactions (Palan, Murphy, and Chavagneux, 2010: 9–10). Tax havens are thus tolerated in the global transnational regulation system, and there are many connections between, for example, the United Kingdom and its global financial center London and various jurisdictions across the globe, including Jersey, the Cayman Islands, and Dubai (Lysandrou, Nesvetailova, and Palan, 2017). The period from the early 1970s until the late 1990s was the “golden age” of tax havens, and multinational accounting firms such as Deloitte & Touche, PWC, KPMC, and Ernst & Young were among those who were the most actively involved in the process to create tax havens, and “lobbied hard for and promoted legislation that create such entities such as Jersey” (Palan, Murphy, and Chavagneux, 2010: 88). Furthermore, British courts offer the technique of “virtual residencies,” which allows “companies to incorporate without paying tax” (Palan, Murphy, and Chavagneux, 2010: 112); this clearly demonstrates that tax havens are not of necessity located in remote and exotic locations outside of the major financial centers.

3

The Moral Economy of Enterprising Social Norms and Their Regulatory Function

Introduction On June 27, 2012, the British bank Barclays was sentenced to pay a fine of US$453 million for rigging the London Interbank Offered Rate (commonly referred to as LIBOR), which is the measure that determines the costs for banks to borrow from each other. The criminal charges against Barclays was the outcome of a joint effort made by the U.S. Commodity Futures Trading Commission (CFTC), Department of Justice, and the British Financial Services Authority (FSA) (Vaughan and Finch, 2017: 133). The so-called LIBOR scandal “dwarfs by orders of magnitude any other financial scam in the history of markets,” MIT Finance professor Andrew Lo declared (cited in Pasquale, 2015: 122), a statement that indicates the centrality of the LIBOR in the global financial system. LIBOR is a self-regulation device where financial intermediaries at the apex of the finance system report actual borrowing costs to construct a synthetic interest rate that regulates the cost for all intermediaries in the finance industry. Through this construction of a synthetic interest rate, “LIBOR is a critical benchmark or index of the state of credit markets,” Ashton and Christophers (2015: 189) write. The LIBOR scam was based on Barclays underreporting these costs to benefit from lower interests rates, translating into lower costs to acquire capital (Pistor, 2013: 318. Footnote 7). As a self-regulation device, Ashton and Christophers (2015: 193) say, LIBOR does not “represent” the market, but it creates “an imagined market” as it includes 35 different indices and five currencies (U.S. dollars, British Pound Sterling, Euros, Swiss Francs, and Japanese Yen). The manipulation of LIBOR to benefit certain industry actors was thus an “inside job” that reveals the risk of moral hazard in self-regulation. For policy-makers, regulators and the wider public, the LIBOR scandal demonstrated that the finance industry, despite the costs of reputational losses if an offence would be revealed, cannot self-regulate as the risk of opportunistic behavior is too significant. In the end, Ashton and Christophers (2015: 206) argue, the “rather arbitrary monetary penalties” leveled against Barclays was more of a punishment for compromising

58 The Moral Economy of Enterprising the accuracy and integrity of the global finance markets’ most important index, rather than being a legal sanction mirroring the actual costs of the fraud and the damage inflicted on third parties. In fact, the actual costs of the LIBOR manipulation may vastly exceed the US$453 million fine. Another case of finance market misbehavior is the evidence of the growth of mortgage frauds in the mortgage lending industry. Baumer and colleagues (2017: 588) examined a data set that included residential mortgage loans originated between 2003 and 2005 in the United States, and found that nearly 25 percent of the stock of new loans contained an indication of suspected fraud. The analysis also revealed that the levels of mortgage fraud risk varied considerably across counties: in many counties, the risk of mortgage fraud was relatively low, whereas other counties were exposed to an up to 50 percent risk of mortgage borrowers being subject to forms of predatory lending. Baumer and colleagues (2017: 588) also report evidence that the counties being exposed to mortgage fraud reported high loan volumes, which has been identified as “a key means by which mortgage industry personnel enhanced profits during the housing boom.” Fligstein and Roehrkasse (2016: 638, note 4.) provide an overview of empirical data collected by the Federal Bureau of Investigation (FBI) pertaining to mortgage fraud. Between 2003 and 2008, the number of “suspicious activity reports” increased ninefold, from 6,936 to 63,713, and in the same period, the bureau’s mortgage fraud investigations increased from 436 to 1,644. In 2010, the FBI estimated that in the 2006–2008 period, a total stock of US$60 billion of fraudulent loans were originated. A similar degree of fraud is likely to have occurred in the securities trade: between 2005 and 2008, the percentage of financial institutions that were listed on the Standard and Poor’s 500 index and that were subject to “securities-related class action lawsuits” rose from 2 to 31 percent (Fligstein and Roehrkasse, 2016: 638, note 4). The conventional explanation for this increased illicit activity is that a burgeoning market attracts less prudent lenders and fly-by-night mortgage loan originators in the speculation phase, and that these entities are less concerned about their reputation or the capacity to conduct their business in a long-term perspective. This “a few bad apples” theory was not supported by Fligstein and Roehrkasse’s (2016: 635) empirical data. In contrast, Fligstein and Roehrkasse (2016: 635) write that “predatory lending and securities fraud were pursued by the largest and most integrated financial firms.” Commentators, critical of finance market deregulation, may point at lax regulatory control and/or poorly designed self-regulation mechanisms (especially the declining credit rating standard in the period), but also prior to the 2003–2008 period—wherein the subprime mortgage market took off in U.S. states such as California and Florida—federal agencies were in fact actively monitoring cases of mortgage lending fraud. Between 1978 and 2004, 697 “enforcement actions” were initiated by the Securities

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and Exchange Commission (SEC) and the Department of Justice, Coffee (2007: 275) reports. The outcome from these law enforcement activities resulted in “some 755 individuals and 40 firms” being indicted, whereof 543 individuals “pleaded or were found guilty while only 10 were acquitted” (Coffee, 2007: 276). In the end, Coffee (2007: 276) continues, “a total of 1230.7 years of incarceration and 397.5 years of probation were imposed (with the average sentence being 4.2 years).” Curiously enough, the situation seems to have changed after 2008, wherein relatively limited law enforcement activities have been conducted. On the contrary, when the federal state was active, initiatives were designed to politically and financially support and assist the finance industry to restore a functional global finance market, which was considered a larger and more politically important question than to bring potential fraudsters to the courts. As Michael Power (2013) suggests, the concept of fraud is a composite term, defined on the basis of technical legal definitions, in many cases inaccessible to lay audiences (i.e., to define fraud in accurate legal terms is the legal expert’s business), and consequently the concept of “fraud risks” is embedded in an extensive “socio-technical apparatus” that involves “regulators, consultants, compliance officers, and many other actors, including material instruments such as fraud risk questionnaires and other diagnostic devices” (Power, 2013: 526). Furthermore, as policy-makers and representatives of regulatory agencies being assigned the role to enforce existing legislation by and large have a positive view of the effects of deregulation, the current regime of regulatory control has shifted from being a practice implemented to detect actual frauds, to a regulatory control design that seeks to minimize “fraud risks,” Power (2013: 530) argues. This shift from steadfast law enforcement to a regulatory system that tolerates frauds as long as they are kept at reasonable proportions (the levels of fraud in the 2003–2006 period was arguably too high, even according to the new standards) has resulted in a finance industry governance model conducive of a “normalization of fraud” (Power, 2013: 534). Not only was the primarily responsibility for fraud detection transferred from regulatory agencies to management under the aegis of “self-regulation,” but fraud was no longer to the same extent regarded as a violation of good business ethics, but was now merely conceptualized as one risk among many to be monitored and managed. Unfortunately, empirical evidence suggests that this new governance model based on self-regulation may be poorly assisted by current finance industry practices. In the wake of the 2008 finance industry crisis and stalemate, Eastburn and Boland (2015) studied U.S. community banks, holding on average US$350 million in assets, and examined top bank executives’ information processing and decision-making practices. In 2006, the banking industry reported net earnings of US$145 billion, whereas three years later, by 2009, the reported net earnings reached the trough at US$4.5 billion, and 32 percent of all U.S. banks reported

60 The Moral Economy of Enterprising financial losses (Eastburn and Boland, 2015: 161). Eastburn and Boland’s (2015: 163) dismal evidence suggested that top bank executives were unable to use their “information systems capabilities” to develop a more detailed and deeper understanding of their “decision domain.” Furthermore, executives pursued short-term objectives, yet failed to “pay close attention to detail” (Eastburn and Boland, 2015: 174), and were prone to blame the government, its agencies such as the Federal Reserve, or more broadly “the economy” for generating unfavorable business outcomes, which the executives were meant to handle. In the end, top executives in the finance industry and banking sector failed to collect, analyze, and interpret information adequately, which resulted in a situation characterized by a chronic organizational and cultural susceptibility to executive decision-making that in many cases resulted in “surprises with negative outcomes” (Eastburn and Boland, 2015: 175). This scenery painted by Eastburn and Boland (2015) is not too assuring for enthusiastic proponents of deregulatory market reforms, with even top executives being unqualified, too indolent, or lacking incentives to manage their business in accordance with professional standards or best practice guidelines. In this milieu, “surprises” seem endemic and there appeared to be a limited interest in or capacity to avoid such situations. These cases of finance industry dysfunctions and managerial malfeasance should not by overstated, but they have one thing in common: the reporting of managerial wrongdoing or passivity caused some kind of knee-jerk reaction from external observers asking themselves on what grounds such business practices are passable. Evidence of crime, mismanagement, fraud, and other cases of corporate failure is reported on a regular basis, and the moral and ethical convictions of lay audiences provide some kind of watermark for what is mere clumsiness or sheer mishap, and what is a more perfidious case of managerial malfeasance. In other words, not the least ex post facto, what are here referred to as moral economies serve as resolution mechanisms that managers and decision-makers being concerned with their reputations or long-term capacity to conduct business or a professional line of work need to keep in mind. As a consequence, the corporation is embedded in a moral economy and needs to act in accordance with its stipulated rules and existing moral and ethical standards.

The Concept of the Moral Economy The British historian E.P. Thompson’s (1971: 78) study of the “bread riots” in eighteenth-century England is the locus classicus of the concept of the moral economy. In Thompson’s view, the term riot is overly simplistic as it is a stock phrase that “obliterates” the “complexities of motive, behaviour, and function” of such historical events. In Thompson’s account, uprising in the period was in fact based on a certain legitimation rooted in a specific paternalist system that justified certain economic

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practices: “By the notion of legitimation I mean that the men and women in the crowd were informed by the belief that they were defending traditional rights or customs; and, in general, that they were supported by the wider consensus of the community,” Thompson (1971: 78) argues. In Thompson’s (1971: 78) view, this legitimation is constitutive of what he calls “the moral economy of the poor.” As a factual matter, Thompson (1971: 78) remarks that the industrial revolution and its urbanization channeled class conflict towards disputes over wages paid for salaried work, while in the eighteenth century with its rural economy, disputes were triggered by raising prices. When the English corn market differentiated throughout the eighteenth century, the commodity was increasingly “passed through the hands of a more complex network of intermediaries” (Thompson, 1971: 93). In this new market model, farmers were not selling their crop directly in an open competitive market, but sold to dealers and millers “[w]ho were in a better position to hold stocks and keep the market high” (Thompson, 1971: 93). This new market model challenged the incumbent paternalist model, which the aristocracy mandated, and led to higher prices that benefitted the farmers and their assigned middlemen at the expense of other constituencies. The new market model consequently generated social tensions that resulted in “rebellions of the belly” when the poorer strata of the English society rioted to amend their economic situation. In Thompson’s view, the morality of markets consists of the imbrication of economic production and transactions on the one hand, and a moral sense of having rights, obligations, and entitlements on the other. Examining economic production and transactions in isolation from such “moral beliefs” is untenable, Thompson (1971: 9) suggests. Fourcade (2017: 662) argues that Thompson’s (1971) foundational work is of relevance also for today’s condition, and that contemporary moral economies need to be understood as complex, dynamic, and situated practices: “The economy is morally thick, and it must be analyzed as such,” Fourcade (2017: 662) says. For instance, while regimes of economic production and transactions purport to rest on a solid ground so that accurate predictions can be made, Fourcade (2017) argues that moral economies are characterized by variation and inconsistencies and reveal a considerable pragmatism on the part of the participants: Rules, beliefs and emotions about appropriate and inappropriate relations, fair or unfair transactions, just or exploitative practices, the worthy and the undeserving, shape whether economic exchange occurs at all, and the terms under which it takes place. Debt may be extended or withdrawn. Payment may be exacted or restructured, even forgiven. Failed firms may be reorganized or liquidated. Depending on the target, the application of legal rules will be tougher or more lenient. (Fourcade, 2017: 662)

62 The Moral Economy of Enterprising In this view, the negotiation and determination of, for example, prices, wages, economic compensation, entitlements, rights, duties, and so on are contingent on the “feelings of justice, solidarity and reciprocity” among defined agents (Fourcade, 2017: 664). In fact, some economic theories have been constructed on the very basis that such “feelings” or “sentiments” are unfit to serve within robust theoretical frameworks. For instance, the socalled price system and the price theory that many economists recognize as fruitful analytical models provide economists with a model that they believe stands aside from the murky domains of morality altogether. The market is conceived of as a distributed calculative device that determines prices not so much on the basis of morals, feelings, and sentiments, but on the basis of available information. Therefore, the market is understood as a superior mechanism for coordinating human needs (Fourcade, 2017: 664). In Fourcade’s (2017) view, the firm belief in the market as a calculating device separated from moral beliefs is a fallacy, and not the least does it ignore historical records of the resistance towards capitalism and its market models. Such evidence indicates that the capitalist economy does not, in fact, simply emerge by some mysterious force but is rather a human accomplishment based on negotiations and agreements (Mirowski, 2013). Instead, capitalism is a highly differentiated socioeconomic system that rests on “artifice, violence and coercion”—the conditions that finally “brought it into existence” (Fourcade, 2017: 664). While the market-based pricing model of contemporary competitive capitalism may appear as what is primarily advocated by liberal and center-right political actors, Fourcade (2017) stresses that the price system of the market was originally promoted as a liberal model (and by implication, a left-leaning idea in the contemporary political vocabulary), introduced amid the growing bourgeoisie dominance in the trade-based economies of, for example, England, Scotland, and the Low Countries. Proponents of market-based pricing and trade advocated the so-called doux commerce argument, and pointed at the civilizing and noble effects of trade. Adam Smith, for instance, being something like a patron saint for today’s market protagonists, argued that economic exchange made people “more punctual, polite, prudent and cordial” (Fourcade, 2017: 665). French intellectuals went even further and suggested that the market is a mechanism that provides the opportunity to emancipate the masses (or at least the bourgeoisie merchant class) from the inherited and burdensome privileges and entitlements of the aristocracy (Fourcade, 2017: 665). The great Scottish philosopher David Hume, one of Adam Smith’s sources of inspiration, advocated this affirmative view of commerce at an early stage, and identified many auxiliary benefits of commerce: [M]en become acquainted with the pleasures of luxury, and the profits of commerce; and their delicacy and industry being once awakened, carry them on to further improvement in every branch of domestic as

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well as foreign trade; and this is perhaps the chief advantage which arises from a commerce with strangers. It rouses men from their indolence . . . [and] raises them a desire of a more splendid way of life than what their ancestors enjoyed. (Hume, 1996: 163. Emphasis in the original) In the period from the mid-seventeenth century until the end of the American Civil War, 1860–1865, the market was associated with the democratic egalitarianism that the increasingly influential bourgeoisie class embraced and treated as the economic system par préférence, soon to displace the rural economy dominated by the comparably indolent aristocracy (Fourcade, 2017: 665). The contemporary moral economy is “temporally and geographically situated,” Fourcade (2017: 667) argues; behaviors and discourses that may “have seemed perfectly acceptable yesterday will be deemed morally wrong today, and vice versa.” That is, as opposed to their paternalist interpretations, morality and moral ideas do not rest on some indubitable and nonnegotiable eternal constitutional rights and duties, entitlements and obligations, but are highly flexible and adjustable to oil the machinery of economic production. Even activities that have been questioned on moral, ethical, and social grounds, such as the selling of sexual services, which in most cases is treated as an unfortunate and highly questionable means to secure an income, have been permitted and legalized on the basis of pragmatic grounds in, for example, Germany, the Netherlands, and some U.S. states. In this view, the “enterprising ethos” of the prostitute provides both (at best) a livable income at the same time as it brings prostitution as a social issue to the surface, which in turn provides, its proponents argue (also including self-declared feminists groups), better protection of the rights of so-called “sex workers.” Such pragmatist arguments need to be weighed against the claim that such benefits need to be assessed in the light of the legitimation of an essentially degrading activity and all the externalities that a legislation may generate. In the end, the issue is resolved on the basis of a combination of morals, social considerations, and anticipated economic consequences, but the outcomes certainly differ among states. By and large, regardless of specific and highly controversial cases, the “efficiency of the capitalistic process” is a function of the ability to arrange and coordinate human beings in ways that are conducive to such efficiency gains. This coordination is in turn dependent on, indeed coproduced with, various moral orders and “hierarchies of worth” determining, for example, the price of various categories of labor (Fourcade, 2017: 667). In Fourcade’s (2017) account, the moral economy is perceived on the aggregated level as the “infra-empirical” norm system structure and guides day-to-day practices and ideas about rights and obligations. At the same time, the moral economy can also be examined on the level of

64 The Moral Economy of Enterprising the various subsystems of contemporary society, which operate on the basis of their own specific, even idiosyncratic, moral economies. Daston (1995: 4) examines what she refers to as the “moral economy of the sciences” as being the “web of affect-saturated values” that simultaneously operate on the individual (i.e., psychological) level and on the social (i.e., normative) level. Questions such as, “hat counts as evidence?,” “What is a proper theory?,” and “To what social ends should the sciences be directed?,” are derived from the moral economy of the sciences (see also Putnam, 2002). Cheal (1988) examines what he refers to as the “gift economy,” which is treated as a system of transactions rooted in joint moral beliefs that constitute social ties being maintained over time, with considerable net economic welfare ensuing. In this view, giftgiving in various historical societies and in contemporary society cannot fully remain operable unless there are certain moral beliefs about how to reciprocate gifts, which further extend social and economic relationships among, for example, individuals, tribes, clans, or companies and their clients. In summary, the concept of the moral economy underlines (in the context of this volume) how the corporation is not only tied to the state and the wider economy on the basis of legislation and regulations (and, in the next instant, as discussed in Chapter Four, governance), but also remains grounded in commonly shared moral beliefs. As Fourcade (2017) argues, such moral beliefs are considerably more flexible and adjustable when they encounter practical problems with significant social and economic consequences than is commonly assumed. For instance, political bodies may choose to bail out banks even though the decisions made by directors and managers reveal opportunistic behavior, indolence, incompetence, and so on, and thus provide executives with the possibility to act with impunity (Grossman and Woll, 2014; Levitin, 2011; Rosas, 2006). At the same time, moral beliefs regarding, for example, the worth of certain goods, services, or work conducted intervene into the pricing of such commodities or services. Such beliefs shape the instrumental calculations of individual utility. Rather than being a residual component grafted onto the price system, morals are instead one of its constitutive elements, a resource that serves to settle disputes and to create a sense of justice and fairness within the domain of economic enterprising and transactions. As historians such as E.P. Thompson (1971) demonstrate, the net economic welfare of moral beliefs is substantial as it in many cases avoids or diminishes conflicts and provides resolutions whenever conflicts surface.

Types of Social Norms and Their Function The concept of morals may sound odd, even archaic and antediluvian in the contemporary vocabulary, wherein terms such as business ethics have gained a foothold. But the term morals provides the benefit of having this

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aura of steadfast continuity and of denoting nonnegotiable and eternal systems of rights and obligations that reside at the very core of society. At the same time, terms such as norms and values are potentially more easily used in everyday conversations, and should therefore be examined. Bicchieri (2017: 32. Original emphasis omitted) defines a norm in a somewhat lengthy way as “[a] rule of behavior such that individuals prefer to confirm to it on the condition that they believe that (a) most people in their reference network conform to it (empirical expectation), and (b) that most people in their reference network believe they ought to confirm to it (normative expectation).” This definition thus embodies the agent’s expectation regarding the behaviors of others (the agent assumes conformity) and is a also normative statement inasmuch as the norm is treated as mandatory, and that a deviation from the norm should be accompanied by penalties. When such norms are internalized—that is, when actors behave in accordance to the norm’s prescriptions—they become a “societal standard.” Deviations from the social standard are often followed by more or less explicit penalties (i.e., formal sanctions) and a sense of guilt or shame (an internalized psychological response) (Bicchieri, 2017: 32). In certain cases, when the sense of shame and guilt are considerable—that is, this sense of violating a social norm prevents the actor from repeating the undesirable behavior—there is no need for any legal or other formal sanctions as that would impose additional costs or otherwise generate externalities such as an expansion of a paternalist state apparatus that hems the everyday life of individuals. For instance, in Singapore, which is a densely populated country, spitting on the street is regarded a violation of a social norm that is also accompanied by legal sanctions, including fines, while in Sweden, the same act would be regarded as improper behavior and would be frowned at, yet is an act unassisted by legal sanctions. In these two cultures and jurisdictions, the social norms of not spitting on the streets in public are enforced in various ways, but only in Singapore is the violation regarded as being so grave that it justifies formal sanctions. Eisenberg (1999: 1255), a legal scholar primarily concerned with corporate governance issues, defines a social norm as “all rules and regularities concerning human conduct, other than legal rules and organizational rules.” A legal rule denotes the “principles and rules of a legal system,” and organizational rules are “formal rules adopted by private organizations” (Eisenberg, 1999: 1255). Social norms are thus what fall outside of legal and organizational rules. Eisenberg identifies three types of social norms on the basis of “the degree of self-consciousness and obligation that they involve.” The first category consists of behavioral patterns that “neither entail a sense of obligation nor are self-consciously adhered to or engaged in” (Eisenberg, 1999: 1256). For instance, when it is cold outside, individuals dress warmer simply to avoid freezing. This category of norms also include habits, such as having coffee for breakfast. These

66 The Moral Economy of Enterprising norms are simply attended to but without much reflection or a sense of obligation. The second category of social norms consists of rules and regularities that are “self-consciously adhered to or engaged in, but do not entail a sense of obligation” (Eisenberg, 1999: 1256). Eisenberg here makes reference to the posture and hand signal of a hitchhiker being a case of how an individual can signal to drivers passing by that he or she wants a lift. This social norm is a convention that serves to communicate an interest or an intention, but is not accompanied by a sense of obligation. The third category of social norms consists of rules of practices that actors not only self-consciously adhere to or engage in, but “feel obliged in some sense to adhere to or engage in,” although (by hypothesis) the rule or practice is “neither a legal nor an organizational rule” (Eisenberg, 1999: 1257). The individual is thus both conscious of the benefits of adhering to the norm, and feels obliged to do so on moral grounds. Eisenberg (1999: 1257) refers to such social norms as obligational norms. Eisenberg (1999: 1257) remarks that some social norms may be obligational but without being moral. For instance, when attending the premier at an Opera House, there may be expectations on the audience to wear formal dress (i.e., formal dress is an obligation), although this is not a moral obligation. Under all conditions, those who attend a premiere in informal dress expose themselves to the risk of critique, but such critique is primarily a matter of the failure to comply with a decorum (i.e., a minor violation of a social norms) rather than being a decision or a failure to make a proper decision on moral grounds (Eisenberg, 1999: 1257). Eisenberg (1999: 1257) is concerned with the effect of social norms, and identifies two basic variables that determine the outcome: (1) whether the norm is obligational, and (2) if it is obligational, whether it has been “internalized by the relevant actor” (Eisenberg, 1999: 1257). Based on the premise that obligational social norms belong to this category for functional reasons—that is, the norm does in fact have implications for the creation of economic welfare and/or provide other benefits—the degree of adherence to obligational social norms does matter, Eisenberg stipulates. Seen in this view, each individual determines whether the adherence to an internalized nonmoral norm is worth the effort—that is, “an actor may weigh the pain of shame, the pleasure of conformity, and the external costs and benefits of adherence and nonadherence” (Eisenberg, 1999: 1260). Eisenberg (1999: 1260) remarks that in contrast to internalized obligational norms, which the individual honors because he or she believes the social norm is justified and aligned with his or her values and convictions, noninternalized obligational norms will be adhered to, if at all, only for “instrumental reasons.” The reasonable individual who has the capacity to assess his or her position in a broader social framework, and to anticipate the expectations such a position is associated with, can estimate the costs for nonadherence to noninternalized obligational norms. Such penalties include “loss of reputation, including diminished

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esteem, public shame (as opposed to feeling ashamed), and disdain” (Eisenberg, 1999: 1260), but may also create benefits if delivered in ways that create desirable attention and/or result in sympathy. Ultimately, the adherence to noninternalized obligational norms has a signaling effect inasmuch as preferences demonstrated underline the individual’s capacity to cooperate, whereas nonconformity signals other skills, qualities, and objectives. Eisenberg (1999: 1262) lists three elementary processes “by which actors internalize social norms.” The first is labeled a “Freudian process,” wherein “the repressed memory of parental sanctions for childhood transgressions becomes transmuted into an adult superego.” In this case, the child learn from their parents and other significant adults or siblings what they should or must not do, and the inability to follow such obligatory social norms results in sense of failure or shame that helps the individual act in self-disciplined ways. Needless to say, in the Freudian imaginary, the superego does not of necessity impose reasonable expectations on the individual (as in case of the long-term prohibition against homosexuality, resulting in a sense of shame and much human suffering), and the individual may either productively violate social norms to reduce frustration, anger, and anxiety, or, alternatively, internalize social norms and repress psychological needs to the extent that that neuroses, psychoses, and other psychological disorders may eventually surface. The Freudian process renders social norm adherence as a primary and in many cases subconscious process. Second, a Piagetian process (after the Swiss psychologist Jean Piaget), individuals “perfect their ability to internalize norms” as they can reasonably and autonomously assess the value and benefits, but also the cost and sacrifices, of the adherence to any social norm. The Piagetian process thus underlines that social norm adherence is a matter of an autonomous assessment and choice of alternatives, and that the individual may choose a nonconformist way of life without necessarily violating any moral norms, nor reduce the possibility to make meaningful social contributions, for example, to pursue a successful career in industry. Consider for instance the case of a male CEO who makes a big deal out of his unwillingness to wear a tie as an act of nonconformism, but otherwise performs his work with excellence and is appreciated by coworkers and business partners. Whether this violation of a nonmoral obligatory norm is tolerable is a matter of what social norms the wider group of stakeholders values and enforces, and in some cases such a nonconformist stance may be better aligned with the corporate culture and its business than in other cases. Third and finally, a Weberian process emphasizes that actors internalize the norms associated with “occupational roles” (Eisenberg, 1999: 1262)— that is, professional training (in, e.g., tertiary education programs), on-the-job socialization (in, e.g., trainee programs), and day-to-day

68 The Moral Economy of Enterprising work—including processes wherein the individuals learn to pay attention to social norms and how to internalize them on the basis of personal preferences and ambitions. Seen in this perspective, social norms are identified, negotiated, modified, and internalized on the basis of a variety of cognitive and behavioral processes, shaped by the community of social actors with whom the individual interact. At the bottom line, social norms as an analytical category include a large variety of scripted actions, whereof some, like “the prohibitions on murder, theft, and incest,” originate because unregulated practices create overwhelming social costs and may even undermine the entire community and result in the bellum omnium contra omnes that Thomas Hobbes claimed justified a sovereign power that enacts and enforces laws to restore social order. In other cases, social norms regulate minute details that appear marginal to the overall efficiency of the operation (e.g., regarding what shades of “white” of a wedding gown—for example, bone, eggshell, off-white, etc.—can be tolerated, and what the choice of color may signal to the wedding guests). In most cases, between the extremes, social norms originate because they “prove to be efficient and are therefore imitated” (Eisenberg, 1999: 1262). It is also noteworthy that social norms may be treated as being obligational or nonobligational, and morally sanctioned or not, depending on perspective and the individual’s formal role. For instance, social scientists or demographers may treat the average age at marriage in a given group as a social fact expressed as a statistical regularity, and assess changes in such measures as indications of underlying social, economic, or cultural conditions and/ or preferences, whereas the actual members of that group being monitored may feel obliged to marry around this average age. For the social scientists or demographers, the question of marriage is not a matter of being an obligational or moral social norm, whereas the members of the group may believe it is as they value social conformity, and may get a sense of failure or even shame when they pass a certain age still being unmarried. In summary, Eisenberg (1999) offers a comprehensive framework for the analysis of social norms and how they direct human activities in ways that range from almost unconscious responses to external conditions (like in the case of putting on a sweater when the temperature falls during the evening) to highly morally and emotionally charged issues (as in the question whether it is immoral to use surrogacy services—illegal in many jurisdictions, yet tolerated as a minor offence, as in the case of Sweden— to fulfill the dream of becoming a parent). Social norms inevitably constitute the human condition, and therefore they are a major concern for, for example, legal scholars, legislators, and policy-makers as, for example, legislation cannot deviate too far from widespread social norms. On the other hand, in certain cases, the legislation cannot honor social norms as they would mandate penalties that create excessive social or individual

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costs (say, in the case of child molesters being given treatment and therapy as part of a prison sentence, whereas social norms may advocate a considerably less “lenient” treatment as the rights of children are held in higher esteem than those of deeply troubled adults). Ultimately, social norms are not only the concern of social or behavioral scientists, but are also part of the legal and economic framework wherein, for example, corporate activities and decision-making is located. Norms and Values Young (2015: 60) argues that social norms “[g]overn our interactions with others,” and defines, consistent with Bicchieri’s (2017) and Eisenberg’s (1999) work, such norms as “the unwritten codes and informal understandings that define what we expect of other people and what they expect of us.” In Young’s (2015: 361) view, norms materialize into predictable behavior as norms are “enforcing at the group level.” That is, individuals tend to adhere to norms if they expect others to adhere to the very same norms. This willingness to submit to abstract norms implies the presence of what is called social capital (Portes, 1998; Mouw, 2006; Coleman, 1988), the joint capacity of a defined group, a community, or an entire society to trust one another so that all members of the group, community, or society are equally willing to maintain and act in accordance with the prescribed norm. If, for instance, littering is considered a nuisance, making the local community untidy and unpleasant, the social norm of not littering in public both reduces the immediate effects of illegitimate behavior and reduces the costs for solving the littering problem in the case of somebody failing to adhere to the norm. Social capital is thus a communal resource, a stock of trust that resolves a series of social and economic issues, including littering, tax evasion, and drunk driving. When most of the social agents adhere to shared social norms, net economic welfare may be generated. The thorny issue is still, what are reasonable levels of what social norms should influence and regulate? For instance, elderly people may have certain preferences for how to dress, but they cannot reasonably expect the younger generation to honor these preferences as each generation develop their own means of self-expression. In this case, elderly people cannot reasonably advocate social norms that impose, for example, shaming penalties on wearing, say, hoodies or short skirts to enforce their own preferences. Another issue is whether, for example, religious communities, honoring certain norms and values as prescribed by their religious teaching, have the authority to dictate the everyday rules for secular groups. Religious communities may themselves act on the basis of the belief that they do in fact represent a specific, justifiable morality, but civil legislation and social norms may in fact render such beliefs ineffective in accomplishing stated goals. In this view, social norms are

70 The Moral Economy of Enterprising contingent on situations and socioeconomic conditions, and are constantly renegotiated in specific communities and society at large. When norms fall short of accomplishing desirable outcomes in the eyes of certain groups or activists who seek to institutionalize a specific norm as a shared social norm—that is, a widely endorsed moral belief that generate predictable outcomes—the promoter of a specific social norm may invoke the term value to authorize him- or herself. “Values are enduring normative beliefs that have properties of ‘oughtness’ and that guide human action and interaction,” Racko (2017: 375) says. As opposed to norms, which can be more or less universally endorsed and adhered to, values suggest more personal or community-based beliefs or preferences, yet to be institutionalized as social norms to generate desirable outcomes. Racko (2017) argues that values play a key role in societies and in organizations that rests on the principle of self-monitoring, and that deem traditional direct inspection of, for example, the coworkers’ activities too costly to maintain. In this case, certain values are instrumental in directing day-to-day work: In rationalized societies, bureaucracies are likely to control employees by emphasizing their self-governance and flexibility, while subjecting them to the control of peers in interdependent work. This form of control enables bureaucracies to overcome employee resistance by aligning their administrative strategies with the prevailing values of rationalized societies. At the same time, bureaucracies are likely to facilitate employee self-direction and creativity by institutionalizing rules that protect them against unregulated interference. These rules enable bureaucracies to accommodate normative and institutional changes in their external environment. (Racko, 2017: 387) Morals, norms, and values thus denote varying degrees of socially embedded ideas and beliefs that serve to structure day-to-day activities. In society where enterprising, self-monitoring, and non-paternalists regimes of control and governance are mandated on the ground that they generate the highest net economic effects, such social, yet “soft,” resources play a key role in embedding individuals and corporations in joint beliefs and shared morals. For critics, the overreliance on social norms is conducive of a conformist society that leaves little space for a more personal and private way of life, but the benefits from enforcing moral economies are considerable and, importantly, generate benefits also for nonconformists. If modernity is defined on the basis of the Weberian idea of the abandoning of traditional beliefs and ways of life to embrace instrumental rationalities, the moral economy today constitutes a thick texture of morals, norms, and values that direct social actors in ways that generate predictable outcomes. Modernity is thus a matter of creating a sense of

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community on the basis of shared social norms (being indicative of the preference for instrumental rationality), while maintaining possibilities for disagreement and individual choice (representing the departure from “traditional” social norms and beliefs).

Shaming as a Norm Enforcement Mechanism In order to make norms, which may or may not be protected by law (as stated above, in some countries littering is a legal offence, while in others it is merely a violation of a norm), that materialize into desirable behavior, there is a need for some mechanism that enforces and reproduces the norm. Skeel (2001: 1811) speaks about shaming as one such mechanism, which “[d]raws on shared social meaning and on norms about permissible and impermissible behavior.” In more technical terms, shaming is defined in the legal literature as “[t]he process by which citizens publicly and self-consciously draw attention to the bad dispositions or actions of an offender, as a way of punishing him for having those dispositions or engaging in those actions” (Kahan and Posner, 1999, cited in Skeel, 2001: 1814). In other words, while, for example, the legal enforcement of a norm through imprisonment operates by taking away the physical freedom of the offender, “shaming takes aim at the offender’s reputation or dignity” (Skeel, 2001: 1814). For proponents of shaming, this normenforcing mechanism has several merits. First of all, an obvious benefit of shaming is that it is a sanction that clearly signals “[a] community’s moral disapproval of the offender’s conduct” (Skeel, 2001: 1816). As a consequence, Wright, Zammuto, and Liesch (2017: 208) argue, “selfcritical emotions such as shame and guilt may be triggered when an individual personally violates a moral code.” Shaming is therefore conducive to welfare effects in terms of deterring would-be offenders as they are aware of the threat of being shamed for their violations of, for example, social norms. Shaming therefore both deters and punishes, its proponents argue, and it does so in a way that “[e]xpresses clear social condemnation of the offender’s actions” (Skeel, 2001: 1816). In addition, shaming offers the benefit of being a relatively low-cost norm enforcement mechanism that can be combined with “more traditional punishments to expand lawmakers’ enforcement options” (Skeel, 2001: 1817). Not all commentators share this positive image of shaming as being an efficient and low-cost mechanism with few externalities. Skeptics worry that the unintended consequences and side effects of shaming offenders are substantial inasmuch as they generate social and personal costs that makes shaming an imprecise and considerable more costly mechanism than its proponents recognize. Furthermore, there is a vivid danger in shaming being too effective, as in the case where a community shames a certain behavior, and where the offender rather than responding favorably to the correction mechanism instead creates a “deviant subcommunity”

72 The Moral Economy of Enterprising that “flaunts the morals of the relevant community” (Skeel, 2001: 1818). One relevant case would be the shaming of groups and communities who express xenophobia and/or endorse racist beliefs being shamed by the community to the extent that these groups decide to withdraw from the public social sphere altogether, to create their own community, partially in isolation from the majoritarian community. In such cases, shaming generates considerable social costs that befall all citizens, not the least the cost of fracturing society into self-enclosed but isolated moral communities. That is, skeptics “see a darker, more corrosive side of shaming” (Skeel, 2001: 1818), but they also question the proposition that shaming is in fact a low-cost correction mechanism. For instance, what Becker (1963: 148) refers to as the moral crusader, the “meddling busybody, interested in forcing his own morals on others,” is a figure that thrives in a culture wherein shaming is used on a routine basis. Becker’s moral crusaders are thus comparable to what Skeel (2001) calls norm entrepreneurs, and Fine (1996) names reputational entrepreneurs, actors that invest time, effort, and prestige in shaping social norms and their enforcement. In Becker’s (1963: 149) account, the moral crusader takes as his or her objective to “help those beneath them to achieve a better life,” and therefore becomes “[a] professional discoverer of wrongs to be righted, of situations requiring new rules” (Becker, 1963: 153). In order to accomplish such selfdeclared objectives, the successful crusader manages to create “a new set of rules,” which all members of the community need to recognize in the ideal case (Becker, 1963: 155). In this situation, the moral crusader overreaches on the basis of an indiscriminate use of shaming so that social norms are no longer jointly enacted and enforced, but rather fragment the community into subgroups that endorse their own set of norms. In this way, new norms are imposed (as the moral crusader wished), but these norms are no longer communal. In this way, the moral crusader hatched the eggs but burned the omelet, so to speak. Shaming on the Basis of Shared Norms or Majoritarian In Becker’s (1963) view, taking the question of whether moral crusades are desirable for a society characterized by democratic egalitarianism aside, the moral crusader not only creates new rules but also tends to generate deviance: “Deviance is the product of [moral crusader’s] enterprise in the largest sense; without the enterprise required to get rules made, the deviance which consists of breaking the rule could not exist” (Becker, 1963: 162). In a society where shaming is given a considerable role, there is always space for enterprising among moral entrepreneurs, and the consequences are not of necessity desirable. Shaming sanctions are therefore, in the end, perhaps most efficient in “close-knit communities in which citizens interact frequently and share common values,” and wherein reputation is a most valuable form of social capital (Skeel, 2001: 1811). One

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such community is the New York City–based diamond traders, historically dominated, just like in the cities of Amsterdam and Antwerp, by the Jewish community (Bernstein, 1992). “The diamond industry has systematically rejected state-created law. In its place, the sophisticated traders who dominate the industry have developed an elaborate, internal set of rules, complete with distinctive institutions and sanctions, to handle disputes among industry members,” Bernstein (1992: 115) writes. By the late 1980s and early 1990s, the Diamond Dealers Club New York, the local industry interest organization, controlled the diamond trade on the basis of close-knit primary and secondary social ties, wherein reputation is the single most important currency: In practice, a significant portion of most commercial contracts are backed, at least in part, by a reputation bond. What is unique about the diamond industry is not the importance of trust and reputation in commercial transactions, but rather the extent to which the industry is able to use reputation/social bonds at a cost low enough to create a system of private law enabling most transactions to be consummated and most contracts enforced completely outside the legal system. (Bernstein, 1992: 138) Needless to say, the ability to maintain the tight control over one of the most lucrative trades in the global economy presupposes and rests on both widespread endorsement of shared norms and a conformist way of life that included participation in the same community activities. As long as these shared norms, which materialize into mechanical solidarity (Durkheim, 1933), serve to render state-created law a secondary concern, the community is maintained and regulated on the basis of nonlegal mechanisms. Skeel (2001: 1812) suggests that the “fascination with shaming” mirrors an underlying dream wherein a lost sense of community can be restored when communities manage to establish shared norms that are tolerated and respected across various subgroups. Such projects are unfortunately beset by formidable challenges. Adut (2005) examines the trial and imprisonment of Oscar Wilde, one of the most remarkable men of letters of the late Victorian and Edwardian era, as being exemplary of what he calls a socially constructed “scandal.” While homosexuality was illegal according to British law, it was by and large tolerated as a “closet life style,” especially in the educated and higher strata of society. Wilde’s sexual preferences were a bit of a public secret, but various circumstances led to unfortunate outcomes that ruined Mr. Wilde’s life and his stellar career as one of Britain’s most outstanding playwrights and novelists. In Adut’s (2005: 214) view, “norm underenforcement” is the outcome from three conditions or combinations thereof: “weakness of the norms, high status of the offender, and practical impediments to enforcement.” In addition, norms tend to

74 The Moral Economy of Enterprising deteriorate—the moral crusader’s demon—either because of rapid social change, making certain social norms archaic or outmoded (as in the case of eschewing the norm to postpone intercourse until marriage in the era of the birth control pill, introduced in 1960, which helped pave the way for the “sexual revolution” and women’s liberation; Watkins, 2001), or because of a breakdown of regulatory processes in society—that is, norm enforcement is no longer maintained in predictable ways (Adut, 2005: 215). In Adut’s (2005: 217) view, a scandal of the type that Wilde’s trial represents is either a “social control mechanism” (with both positive consequences and externalities such as additional costs carried by third parties or the wider community), or a “ritual through which groups assert their core values and purify themselves by publicly marking certain individuals and behaviors as deviant.” In either case, the social fabrication of the scandal rests on the idea of shaming in combination with the claim that law enforcement only can restore the legitimacy of underlying social norms.

Corporate Shaming Events and Campaigns Corporations are social actors that conduct their work within a social realm defined by norms and values, and at times are granted the right to exploit what may be considered public goods or collective resources (Ellerman, 2016). Consequently, corporations are subject to social activism and social movement embedded in the moral economy. At times, such activism is directed towards specific problems or aims to achieve certain goals (Epstein, 1996), whereas in other cases, there may be more general concerns being addressed, say, regarding the consequences of a low-price grocery store opening in a neighborhood that values diversity (Ingram, Vue, and Rao, 2010), which prompts protests among residents. In other cases, more general “anti-corporate protests” (Crossley, 2003), rooted in intellectual movements (Frickel and Gross, 2005), may target corporations that otherwise follow the law, rules, and regulations set up by the sovereign state and its regulatory agencies and transnational collaborators. This ebb and flow of social movement activism is a concern for corporations as they cannot fully anticipate such events and campaigns, and are tasked with monitoring the process as the events unfold. Studies of shaming of entire organizations (rather than individuals, social groups, or communities) reveal the complex social processes involved. The social movement theory literature indicates, just like Adut’s (2005) analysis of the anatomy of a scandal, that initiatives to criticize and shame corporations are successful to varying degrees. Dorobantu, Henisz, and Nartey’s (2017) study of the conditions under which a scandal erupts (the researchers examined media reporting on the mining industry) suggests that it is not always clear what “critical events” will generate further negative publicity and, ultimately, financial consequences:

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Not all critical events result in negative abnormal returns. Instead, critical events are likely to have significant financial consequences only when other stakeholders follow the lead of the critical stakeholder and campaign against the firm. If, by contrast, stakeholders defend the firm after a critical event, the event itself has little impact on the firm’s returns. (Dorobantu, Henisz, and Nartey, 2017: 586) The study indicates that stories of corporate scandals and corporate malfeasance are generated within a complex network of relationships, which are in turn dependent on the interest in certain events in comparison to all other newsworthy stories available for the time being. Also “celebrity activists” (the renowned British actor Vanessa Redgrave features in Dorobantu, Henisz, and Nartey’s empirical material) may play a key role in directing public attention towards certain industry conditions, which adds more components to the explanatory model. Ingram, Vue, and Rao’s (2010) study of how communities may object to the opening of Walmart grocery stores, which activists believe tend to undermine the local “momand-pop store” economy that they want to preserve, shows that such campaigns demand considerable support from the local community to be effective. In many cases, there is insufficient traction in the local community to resist store openings, possibly because of social dilemmas wherein individual actors may resist the store opening as such, but are not willing to invest the time and effort to protest against it and therefore resort to just hoping that someone else will take on this activist role. Bartley and Child (2014) draw on what they refer to as social movement theory to explain how firms in the garment industry targeted by anti-sweatshop activists respond to such campaigns. First of all, Bartley and Child (2014: 669) notice, activism appear to be “sticky” inasmuch as “[o]nce a firm was targeted, its risk of further targeting increased.” The Disney Corporation, for instance, which produces family entertainment that draws on a shared stock of cultural resources including morals, ethics, and values—that is, the Disney Corporation takes on the role as a norm entrepreneur in the field of industrial cultural production—is frequently targeted by activists (see, e.g., Boje, 1995).1 The Disney Corporation, activists maintain, violates various social norms as it imposes overtly conservative images of, for example, gender relationships, participates in cultural appropriation, and rewrites history as it glosses over unflattering events in history when it portrays, for example, indigenous cultures. The list of grievances is substantial. At the same time, activism also entails costs (especially informational costs derived from the collection of firm-specific data) and certain elements of risk for the activists. Consequently, Bartley and Child (2014 : 673) argue that the “[f]irms’ likelihood of becoming targets depended on the structural and cultural positions they occupied.” Regarding the risks of social activism,

76 The Moral Economy of Enterprising including the somewhat “milder” version of shaming, Bartley and Child (2014: 674) argue that this practice attracts attention to the issues being unearthed, but they assert that this activist strategy also entails risks. Such risks include the attention paid to “impression management” practices (Gardner and Martinko, 1988; Westphal et al., 2012), the use of corporate images and rhetoric to improve the public image of the firm, at the expense of on-the-ground practices (say, low compensation to textile workers in Southeast Asia) that possibly prompted the activist campaign in the first place. Furthermore, shaming campaigns may let other forms of exploitation “go unnamed” or underrate or trivialize the role of other actors including, for example, the state and its regulatory agencies (Bartley and Child, 2014: 674). Bartley and Child’s (2014) study thus suggests that shaming is applicable in a variety of cases, but it is also, as the literature reviewed above indicates, a somewhat risky tool as it tends to fail to discriminate between more or less acute issues and may at times generate additional costs that were not anticipated from the activists’ original position (Bartley and Child, 2014: 674). Piazza and Jourdan (2018) examine the sex abuse and pedophilia scandal in the Catholic Church, wherein priests and bishops in the United States, Australia, and Ireland, have been reported to have either engaged in unlawful and deeply disturbing violations that involved children, or have actively protected the violators, or tolerated their presence in the Church (for a detailed analysis, see Alexander, 2018). When the scandal became known to the public, decreasing membership in the Church followed. That is, Piazza and Jourdan (2018: 183) deduce, “[s]candals might translate into (relative) competitive advantages for other organizations.” Furthermore, the Catholic community suffered “identity threats” as the events were looming over the members of the stricken organization for a considerable period of time (Piazza and Jourdan, 2018: 183). In practical terms, organizations being hit by a scandal orchestrate “remedial measures,” Piazza and Jourdan (2018: 185) argue. Such activities include a variety of responses and reforms such as a public apology, CEO succession, the use of impression management techniques, or “symbolic practice adoption”—that is, participation in or endorsement of social activities and events that signal that the problems are both being taken seriously and that organization-changing activities and reforms are being initiated. The case of the Catholic Church is of particular interest as faithbased organizations (Biebricher, 2011; Fischer, 2004) such as Churches and religious organizations enjoy what McDonnell and King (2018: 64) call a halo effect (no pun intended). The halo effect denotes the situation wherein people tend to “infer less blame and responsibility for actors’ bad actions when they have preestablished positive expectations about the actor” (McDonnell and King, 2018: 64). As religious organizations purport to operate on the basis of a certain moral and ethical standards, derived from religious scriptures and teaching, many individuals assume

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that this category of organizations has higher moral standards and less tolerance for deviations from these norms than any randomly selected organizations (say, grocery stores or a telecommunication companies), which may not necessarily be dependent on a public image founded in being champions of higher moral standards. This halo effect serves to cushion minor issues and grievances, and serves to uphold the positive and authoritative image of the organizations. The empirical literature includes several documented cases of the halo effect, including studies that show that “prestigious” companies are “less likely to be found liable when discrimination charges are brought against them” (McDonnell and King, 2018: 78). Larger firms, employing more people and thus being important for the community and local economy, are more likely to avoid sanctioning by courts when charged with, for example, acts of discrimination (McDonnell and King, 2018: 78). Unfortunately, McDonnell and King’s study shows (2018), when a fullscale scandal surfaces, the initial positive view and expectations are displaced by the anger of being betrayed by the organization that purports to serve as a guardian of higher moral and ethical standards: “Evaluators are more likely to feel betrayed when an organization they trust and admire has deviated, which can elicit an especially punitive response: what we call a halo tax” (McDonnell and King, 2018: 63). McDonnell and King (2018: 64) introduce the concept of betrayal aversion, which indicates that high-status or reputable organizations are especially likely to “provoke feelings of outrage from their audiences” whenever they feel “duped, jilted, or betrayed given the strong, positive expectations they had for those organizations.” The deep-seated sense of disappointment and consternation caused by the announcement of violations or laws or norms, or unexpected failures more generally, given the status and reputation (which McDonnell and King, 2018, carefully discriminate between) of the organization, is punished out of proportion with the original violation when audiences impose the halo tax on the organization. For instance, the empirical data reveals that organizations with “better reputational standing” are more likely to be targeted by activist groups when they “fail to live up to their reputation” (McDonnell and King, 2018: 64). In this view, status and reputation are both a benefit and a liability2 depending on how well the organization exploits its earned or fabricated status position and reputation. By implications, scandals and shaming are far from linear social processes and events, and they’re not so easily handled once they have generated their own momentum. In the end, similar to Adut’s (2005) “anatomy of scandals” view, social activism is a somewhat complicated social phenomenon that generates its own dynamics and unintended consequences once campaigns are launched. The literature on social movement activism reveals that scandals are not so much a phenomenon erupting outside of human control as it is a “ritual,” or a fabricated event, rooted in moral economies.

78 The Moral Economy of Enterprising Social activism is part of the moral economy wherein the corporation is embedded, but as morals and ethical beliefs are not given once and for all, but are transient, changeable, and negotiable scripts, and also demand considerable information (in the form of “factual knowledge”) to prompt activist mobilization, social activism is far from trivial to predict. Moral economies are based on beliefs and preferences, both which are highly amorphous and at times barely known to the subject himor herself, which complicates social activism in considerable ways. On the other hand, history abounds with cases where “the people,” avantgarde groups, and specific communities have determined that “enough is enough” and therefore are capable of accomplishing significant changes in short periods of time, simply because they are supported by a majority of actors, passively supporting the cause at hand (say, equal opportunity rights, and gay and lesbian rights). What is treated as worthy of scandalizing and becoming subject to activist intervention differs in time and space and across cultures (with a culture supportive of egalitarianism being arguably conductive to social activism pressures on elites), and not the least where in the economic cycle the scandals erupt (or perhaps better, are constructed). In the upward phase of the economic cycle, with various economic fundamentals being ensuring, there may be more tolerance for illicit or fraudulent behavior in comparison to periods of faltering economic activity, which also makes social activism correlate with what Gerding (2005) calls the “regulatory sine curve,” wherein periods of deregulatory reform are substituted for more strict monitoring of industry. Unfortunately, from the corporate perspective, social activism remains a factor to consider at the same time as much of its innate mechanisms and dynamics may be shrouded in obscurity from the vantage point of many managers. This makes preventive actions complicated and responses to activist campaigns belated in many cases.

The Costs and Benefits of Shaming as a Normative Control Mechanism Commentators being skeptical about the efficacy of shaming are concerned that moral crusaders are capable of turning such ritual work into a social institution to benefit their own interests, but at the expense of all other social groups and communities. Expressed in Skeel’s (2001: 1818) terms, “Skeptics also question whether the costs of shaming are as low as enthusiasts insist.” There are two factors to consider when estimating the costs and benefits of shaming. First, as is generally recognized when, for example, political scandals surface or celebrity shaming occurs, reputation is costly to build while it is easily consumed or destroyed. By implication, reputation does have a significant social value that can be reduced through the shaming mechanism—that is, “[t]his social value

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goes up in smoke when an offender is shamed” (Skeel, 2001: 1818–1819). Take a perfectly competent politician, otherwise acting with prudence and conducting his or her social services in a manner that creates great satisfaction among voters and the wider community, who gets caught drunk driving. All car drivers are aware of the elusive line of demarcation between “being able to drive” and when that option is no longer available, and it is complicated to self-monitor the degree of alcohol in the blood. At times, a few people “take the chance” that they are on “the right side” of the criminal offence line, and some of these people may dearly regret this venturesome attitude after being stopped by the police. This kind of relatively mild criminal offence (we assume the politician in the case were just above, but still above the limit) can be used by his or her political adversaries to ruin an otherwise impeccable career. The social costs of shaming are thus potentially considerable in this case. That is, Skeel (2001: 1818–1819) writes, “[S]haming sanctions are sometimes too easy to apply, which could lead to their indiscriminate use, especially by private enforcers.” In addition, as legal scholar James Whitman has remarked (cited in Skeel, 2001: 1827), shaming is a form of “of lynch justice” inasmuch as the norm enforcement of the community has the dangerous tendency to “[b]ecome either a mob or a collection of petty private prison guards.” What Whitman directs attention to is to what degree moral crusaders should be given the authority to run their campaigns and to influence social beliefs, especially as would-be offenders may have “little opportunity to defend themselves” as soon as the moral crusaders have started the ball rolling (Skeel, 2001: 1818–1819). Therefore, in Skeel’s (2001: 1827) phrasing, “[O]verzealous enforcement is a real concern.” This brings us to the second cost that skeptics of shaming identify, that of the intentions, strategies, or tactics of the moral crusader or the more moderate norm enforcer. As it is unrealistic to assume that enforcers’ motives are “always pristine” (Skeel, 2001: 1825), it follows that shaming is appropriated by moral crusaders and norm entrepreneurs as a socially sanctioned mechanism that they can use to their advantage. Such opportunistic use of shaming is certainly not freed from costs and externalities, intended or unintended, and therefore skeptics are concerned about (1) opportunistic uses of shaming, and (2) the failure of shaming to discriminate between “true norm offenders” and other actors involved or associated with certain activities. Speaking about shaming in corporate governance, Skeel (2001) argues that shaming is at risk of failing to separate culpable and blameworthy managers from merely “unfortunate” managers, which can generate considerable costs: The managers are sometimes blameworthy when a firm performs badly, but underperformance can also stem from forces beyond their control. Even if the enforcer’s aim is true—she wishes to shame only

80 The Moral Economy of Enterprising the shameful, not the unfortunate—these information effects seriously complicate the decision whether, and how, to shame a corporate offender. (Skeel, 2001: 1825) In an environment where, say, shareholder activists run campaigns against certain top management teams that the shareholder activists believe are underperforming in predictable ways, it becomes difficult for companies to protect their managers against the costs of shaming as there are no effective insurances against a damaged reputation: If a court holds that a manager breached her fiduciary duties, insurance may cover the financial liability, but it is not much help against a shaming sanction. A shaming sanction may have serious consequences for a manager’s reputation and firms cannot easily insulate their managers against the threat. (Skeel, 2001: 1833) Professional managers, including the pool of CEO candidates eligible for top management positions in public corporations, are susceptible to reputation losses—that is, they are in a “reputation-based industry.” Consequently, the sheer risk of being shamed may de facto restrict these professional managers from making business-relevant but potentially unpopular decisions. In this situation, shaming as a norm enforcement mechanism generates considerable social costs and may reduce net economic welfare. Shaming does actually become the pernicious practice that skeptics may hold it to be.

The Moral Economy of the Embedded Corporation Morality in Markets and in Market-Making By and large, moral economies have been most successful in raising the economic welfare of billions of people, even though the consequences for the climate and the depletion of natural resources are relatively recent phenomena being a concern for policy-makers, scientists, managers, and the global population. Moral beliefs, norms, and values do overall have a remarkable capacity to direct social actors and to generate desirable outcomes at a relatively low cost (which per se is disputed as some commentators regard the social costs of, for example, conformism or zealous norm enforcement as being underestimated). Despite all these merits, everyday work in corporations and organizations is characterized by the constant abrasion that emerges when social norms and competing or even conflicting goals need to be aligned or prioritized. Furthermore, market-making and market practices, including a variety

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of market devices (Callon, Millo, and Muniesa, 2007) being enrolled to enable transactions and to increase the liquidity of the assets traded, are subject to various moral and normative conditions. For instance, Western and Rosenfeld (2011: 517) argue that “[t]he labor market is embedded in a moral economy in which norms of equity reduce inequality in pay.” Labor markets are thus the de facto sites where questions regarding economic compensation and the evaluation of worth are being (temporarily) resolved. The creation of markets and market expansion (say, to include biological entities such as human organs used in transplant surgery) is deeply embedded in moral beliefs. Anteby (2010) discusses the “morality of markets” in the case of the trade of cadavers (i.e., postmortem human bodies that could be used in, e.g., various medical education and training activities; for a cataloguing of the practical and commercial use of human cadavers, see Roach, 2003). Similar to economic sociologist Viviana Zelizer’s (2005) argument that money mingles poorly with the intimacy of private life, Anteby (2010: 631) suggests that markets more widely are at risk of losing “their moral legitimacy” when such trades are “conducted improperly.” As, for example, human cadavers are commonly not regarded as “any kind of commodity to be traded” on the basis of ethical, moral, and religious grounds, the morality of the market and underlying trade practices are critical when reproducing the legitimacy of the trade. It is then little wonder that the advocacy of market-based solutions to perceived social problems are at times met with outrage. For instance, Landes and Posner’s (1978) law and economics article that promotes a market for not only children in foster care but also for unborn children (i.e., embryos) in many ways violates common sense norms regarding how children, birth-giving, parenting, and the “dignity of human life” at large can be addressed. In Landes and Posner’s (1978: 327) phrasing, a market for children would solve a variety of social and economic problems, and the authors are not shy to impose a manufacturing industry vocabulary to make their point: “The thousands of children in foster care . . . are comparable to an unsold inventory stored in a warehouse.” They continue: We believe that the large number of children in foster care is, in part, a manifestation of a regulatory pattern that (1) combined restrictions on the sale of babies with the effective monopolization of the adoption market by adoption agencies, and (2) fails to provide effectively for the termination of the natural parents’ rights. (Landes and Posner, 1978: 327) In the end, Landes and Posner (1978: 339) use price theory (see, e.g., Bain, 1952; Friedman, 1976) to advance their efficiency argument, serving to “price children” in accordance with the their “quality,” making, for example, healthy children more highly valued and priced than, for

82 The Moral Economy of Enterprising example, disabled children. For most people outside of hard-core law and economics scholarship, this systemic use of economic theory and price theory to handle issues that belong to the sphere of intimacy is challenging. Yet, Richard Posner is to this date one of the leading scholars in his discipline and a respected judge, so this advocacy of economic theory has apparently done little harm to his career and his social standing. Under all conditions, the moral economy of markets remains an issue to further discuss and debate. For instance, as the medical sciences and the field of transplant surgery are further developed, there are new moral-cum-economic questions surfacing about, for instance, who has the right to claim the ownership of the titanium hip prostheses that remains after a cadaver has been cremated (Hoeyer, 2009). As Hoeyer argues, the metal hip does still have a market value after it ceases to play its function for the now deceased, former hip surgery patient, but it is still too closely associated with the deceased person to make it a proper commodity, which leaves it in some kind of limbo position or in an Heideggerian Zwischenraum wherein it is complicated to resolve the controversy regarding who now owns the metal hip. The deceased persons family? The hospital who conducted the original surgery? The crematory, or possibly some novel market actor who creates a business out of collecting and recycling the precious metal (mostly titanium)? In Hoeyer’s formulation, the metal hip is constitutive of an emerging market that is still riddled by various morals and norms: The metal hip is indeed in-between humanness and the commodity realm. It is too human to be sold but not human enough to follow the remains of the deceased into the urn and ruin the principle of total decomposition. The agency of the material, together with the moral ideals surrounding the objects, governs the desirability of various disposal options and the types of exchanges they can enter. (Hoeyer, 2009: 253) These concerns are likely to be resolved on the basis of the elementary norms and values of preexisting moral economies. Market-making does not occur in isolation from norms, values, and morals regarding the value, worth, and price of commodities and work, and therefore marketmaking is an interesting domain of empirical study, making all these ideas surface when the rules of the game are enacted de novo. Moral Economies in Organization If moral economies are influential in shaping market practices and market creation processes, the same thing can be said about organizations and their day-to-day operations. A fair share of classic industry sociology studies in the Columbia University research tradition, led by Robert

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Merton in the 1950s and 1960s, and including sociologists such as Alvin Gouldner, Peter Blau, and, in the next generation, Richard Scott, are committed to demonstrating that organizations are not as uniformly rulegoverned as official descriptions would like. Instead, organization are social arenas wherein the differences between what norms and values the organization espouses and endorses, and actual practices are considerable. This deviation between stated rules and their practical use has been addressed as the “informal organization.” This informal organization in turn creates some analytical difficulties for the researcher, Blau and Scott (1963) argue: It is impossible to understand the nature of a formal organization without investigating the networks of informal relations and the unofficial norms as well as the formal hierarchy of authority of the official body of rule, since the formally instituted and the informally emerging patterns are inextricably intertwined. (Blau and Scott, 1963: 6) In Gouldner’s (1954) seminal work, an organization may implement new routines and rules—what Gouldner refers to as “bureaucratization,” as a non-pejorative term—while in fact the coworkers ignore, for example, the new nonsmoking policy. This refusal to follow rules turns the novel bureaucratization policy into a process to establish what Gouldner calls a “mock-bureaucracy,” wherein formal routines and rules coexists with an informal organizational norm structure. In Dalton’s (1959) account, petty theft in the workplace is strictly forbidden at the same time as managers tolerate the norms enacted by the coworkers who justify “informal rewards.” The practice to participate in petty theft and steal from the employer is widely treated as a perk that they are entitled to by the coworkers, despite formal rules that prohibit such behavior. Anteby (2008) uses the term “organizational grey zones” to denote the spheres and domains wherein formal rules are renegotiated to generate outcomes that are beneficial for both employers or managers and coworkers: “Most people can easily identify grey zones in organizations for which they work: small, repeated leniencies tolerated by their bosses; informal collective arrangements that violate company rules; or multiple infractions of official rules overtly endorsed by management” (Anteby, 2008: 2). In order to make these organizational grey zones, a form of trading zone between the formal and the informal organization, operable, Anteby (2008: 132) speaks about “situated moralities” that are derived from “multiple, sometimes competing evaluations” that participants conduct in these grey zones. Such situated moralities do in the end need to be shared within the local community to properly determine what is appropriate behavior and what is not. The situated morality may deviate considerably from official company policies regarding, for example, the

84 The Moral Economy of Enterprising norm to steal corporate resources, but that does not mean that the situated morality is of necessity separated from either company interests, or the creation of net economic welfare. In fact, situated moralities may generate considerable consequences that are beneficial for aggregated performance. The problem is still that the deviation between prescribed norms including routines and rules and their factual materialization does create a managerial problem in, first, covering such activities from outsiders’ view, and, in the second instant, justifying or explaining the presence of such situated moralities if various constituencies (say, shareholders) or the wider public become cognizant of these inconsistencies in rule enforcement. In the end, managers need to weigh benefits against actual costs and reputational loss when they decide what degree of leniency they will allow for middle management and group management levels. In some cases, situated moralities may generate considerable economic value in the case where, for example, skunk work is tolerated in an engineering firm, while the same kind of leniency may induce substantial reputational loss when, for example, safety issues are handled in a lax manner in say, a nuclear plant, as this would put both the top management team’s professional discretion and company’s future at risk in addition to allowing for the hazardous risks created by such leniency. The degree of deviation between formal rule prescriptions and their informal application, and the bending of such rules is thus dependent on the moral economy of the focal firm and industry.

The Institutional Embedding of Industries: Inertia and Social Dilemmas in the Finance Sector For some commentators, the finance industry meltdown in the fall of 2008 put an end to la belle époque of finance, and yet, as the same commentators notice, everything remains basically the same (Levitin, 2016; Münnich, 2016; Curran, 2015). Most of the assumptions, propositions, and assertions regarding the self-regulatory capacities of the finance industry and its new derivate instruments proved to be mistaken, not the least because a variety of interrelated conditions served to generate the first global finance market standstill in the post–World War II era. In this episode, rating agencies proved that they lacked the integrity to act resolutely in their regulatory role (Alp, 2013; Bolton, Freixas, and Shapiro, 2012) and consequently the issuance of securities served to leverage rather than to distribute and push down systemic risk (as predicted by regulatory authorities such as Alan Greenspan, the chair of Federal Reserve, and leading finance theory authorities), upside risks were rewarded generously while downside risks were not subject to comparable penalties or other sanctions in the finance industry (Coffee, 2017; Rajan, 2006), and not the least, the expansion of the home mortgage markets into so-called subprime segments served to inflate a global securities industry

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to unprecedented proportions (Greenwood and Scharfstein, 2013; Loutskina and Strahan, 2009). By and large, the finance industry expansion in the 2003–2007 period was characterized by what Vaughan (1996: 65) refers to as “the normalization of deviance,” a process wherein deviations from what were estimated to be the predictable outcome on the basis of existing know-how and available data time series gradually became tolerated and accepted as new standard measures. However, in Vaughan’s (1996) account, the normalization of deviance is also the process wherein professional integrity and central tenets of the professional expertise erode over time and place a professional group or community on the slippery slope of no longer being able to discriminate between tolerable and intolerable measures. The finance industry was eventually bailed out (Grossman and Woll, 2014; Block, 2010; Sjostrom, 2009), with an even more increased concentration of economic power as the foremost consequence (Wilmarth, 2013), but the finance industry’s self-declared role as the “brain of the capitalist economic system” that purportedly knows better than any other actor where to pipe surplus finance capital to ensure future growth and economic welfare was substantially impaired and lost some of its credibility. When the LIBOR scandal was revealed in 2011, the finance industry reached its nadir: not even the mechanisms regulating the relationships among centrally located finance industry actors were secured from opportunistic behavior; the industry seemed “ethically and morally challenged” from the view of outsiders. The finance industry has always been somewhat suspicious in the eyes of religious authorities, policy-makers, and the wider public. The longterm Christian theology ban on usury and money-lending on the basis of interest, muted only in the seventeenth century when the capitalist centers moved north of the Alps to commercial hubs such as Amsterdam, Brügge (Bruges), and London, still lingers on, and there is an extensive historical record of the critique of money-lending and other financial affairs. In the contemporary era, and especially after 2008, the public’s view of the finance industry remains skeptical, as indicated by empirical evidence. “In 2013, the Economist surveyed 400 financial executives; over 50% revealed that they had gotten to where they were by at least in part being ‘flexible’ over ethical standards,” Gordon and Zaring (2017: 566) write. In addition, “numerous polls” have suggested that bankers are “among the least trusted of all the professions” (Gordon and Zaring, 2017: 567).3 In comparison to professional disciplines such as medicine or the sciences, bankers have never enjoyed a “guild-like status” as much of what they do in their day-to-day work is “more related to business management than it is to lawyering or accountancy,” Gordon and Zaring (2017: 563) argue. To amend this situation, concepts such as “ethical banking” have been proposed as a form of a regulatory model wherein banking would abide by “a set of commitments that would, above all, mimic the

86 The Moral Economy of Enterprising root values adopted by professional responsibility codes” (Gordon and Zaring, 2017: 562). For instance, physicians, lawyers, and accountants all “police their professions” on the basis of codes of ethics, Gordon and Zaring (2017: 562) say, and the finance industry may benefit from adopting a similar model. In the following, a few cases of how “the moral economy of finance” and “the moral economy of the public” have diverged over time will be examined. This literature review stresses how a variety of interrelated and in many ways not fully separated mechanisms contributed to this process. As always, it is not meaningful to explain the normalization of deviance on the basis of declining moral or ethical standards across an entire group, but such changes are in most cases the outcome of highly convoluted social processes that are of necessity easier to sort out and examine with the benefit of the access to a historical record—that is, in hindsight.

The Case of Securities Trade and “Risk Management” A substantial amount of literature stresses the role of the expansion of the global securities market as one of the foremost explanatory factors paving the way for the 2008 finance industry collapse (Fligstein and Roehrkasse, 2016; Stein, 2010; Shin, 2009; Loutskina and Strahan, 2009; Gelpern and Levitin, 2009; McCoy, Pavlov, and Wachter, 2009). By being given the opportunity to securitize loans and issue them as MortgageBacked Securities (MBSs), and on the second level, as Collateralized Debt Obligations (CDOs) (for an overview, see Lysandrou and Nesvetailova, 2015; Bluhm and Wagner, 2011), the U.S. home mortgage market could expand into the increasingly risky subprime segments. The expansion of the securities market and the skyrocketing of securities issuances were also accompanied by new “risk management” practices that monitored the market risk that the finance industry actors exposed themselves to. Pernell, Jung, and Dobbin (2017: 512) argue that the appointment of individuals who are now called Chief Risk Officers (CROs) provided a form of “organization-level moral licensing” that created a sense of authority that in turn justified increasingly risky positions. Once the CROs were in place, Pernell, Jung, and Dobbin (2017: 512) argue, the desk managers’ “self-monitoring of risky behavior” declined as they assumed that the centrally located function would conduct this work for them. When the CRO office was created, in sharp contrast to stated objectives, managers were lulled into “a false sense of security,” and therefore promoted exactly the behavior that “regulation was intended to prevent” (Pernell, Jung, and Dobbin, 2017: 512). Metaphorically speaking, instead of curing the patient, the medicine did more harm than good, a violation of the Hippocratic Oath. In addition, the new generation of risk managers being recruited to monitor risk exposure recognized the new market opportunities brought

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by extensive finance industry deregulation in the 1990s and in the first decade of the new millennium. Whereas the incumbent generation of risk managers decided that their primary role was to minimize risks in absolute terms and to prevent major losses, and ultimately, to steer their employer away from catastrophe, the new generation of risk managers aimed to minimize risk given the overall objective to “maximizing bank profitability” (Pernell, Jung, and Dobbin, 2017: 515). Risk was now not something to be minimized and to closely monitor tout court, but became a “part of the game” to capitalize on deregulatory policies. This new credo translated into a substantially higher appetite for risky asset holdings. In the 1995 to 2007 period, the new CRO-monitored U.S. finance institutions increased their holdings in over-the-counter options by 247 percent, swaps by 169 percent, and credit derivatives by 644 percent (Pernell, Jung, and Dobbin, 2017: 515), asset holdings that included a considerable leverage of risk exposure. In addition to the moral licensing that made finance institutions drift further away from what was once regarded as “normal” and tolerable risk levels, incentive systems were redesigned to better promote the maximization of profit at a purportedly manageable level of defined risk. Pernell, Jung, and Dobbin (2017: 532) show that banks that relied on performance pay, which rewarded CEOs for share-price gains but didn’t impose comparable penalties for downside risks, to a higher extent exposed themselves to market risks (see also Fahlenbrach and Stulz, 2011; Hagendorff and Vallascas, 2011, for further empirical substantiation). In comparison, in banks that “held large illiquid ownership stakes,” CEOs and fund managers alike “put the brakes on new derivatives,” which resulted in lower levels of risk exposure (Pernell, Jung, and Dobbin, 2017: 532). Unfortunately, the failure of the banks with the highest risk appetite also affected finance institutions that enacted a considerably more risk-averse strategy, in the end contaminating the entire finance industry as outsiders, including policymakers, and regulators had difficulties discriminating between prudent and more venturesome actors. Pernell, Jung, and Dobbin’s (2017) case thus shows that activities that are purportedly implemented to monitor and control risk may in fact create its opposite effect. Formal risk management models serve as a form of “moral licensing” to increase high-risk holdings as there is a belief that someone else higher up in the corporate hierarchy will assume responsibility for this situation and monitor the portfolio accordingly. As Robert Merton (1936) remarked long ago, the unintended consequences of purposeful action are the demons of social actors who operate within complex social systems wherein all possible outcomes cannot be predicted from the vantage point of the present. This observation may be of particular relevance for actors operating in the finance industry, which includes considerable degrees of uncertainty that need to be managed.

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The Role of Shaming in Ex Ante Resolution Models: Opportunities and Limits As finance industry actors frequently claim that they themselves are the “best and the brightest” of their generation, and oftentimes make the assumption that this self-declared brilliance justifies certain privileges and rights (see, e.g., Ho, 2009), a key question for scholars and analysts is why finance industry actors, representing all types of organizations, made decisions that inflated the systemic risks in the industry in the 2003–2007 period. A series of behavioral conditions catalogued by, for example, behavioral economists, including cognitive limitations, hyperbolic expectations, positive asymmetry, and “akrasia” (the lack of power of will to, e.g., change a behavior) certainly played a key role, but there are also reasons to believe that a variety of social conditions contributed to the situation. This class of explanations includes the almost unconditional support from political and regulatory entities, in turn being the outcome from complex social and political processes that included what legal scholars and political scientists refer to as “regulatory capture”— the capacity of the subject of regulatory activities to actively participate in and influence the legislation process or the implementation of regulatory control through, for example, lobbying. At the bottom of this explanation lies the need for making, for example, managers cognizant of the moral economy wherein their trade is embedded, and to recognize the role of norms and values.

Counteracting Moral Crusaders, Norm Entrepreneurs, and Regular News Reporting Needless to say, top managers and directors do not sit idly by when a scandal or a crisis is surfacing, and nor are they defenseless against shaming campaigns. Most major firms employ public relations experts whose key role is to maintain a positive, or at least reasonably balanced view of what the company and its top management team is trying to accomplish. Such public relations activities are complemented by investments in lobbying (Drutman, 2015) and political campaign contributions (Mian, Sufi, and Trebbi, 2010; Claessens, Feijen, and Laeven, 2008), as well as contributions to think tanks (McLevey, 2015; Medvetz, 2012; Leeson, Ryan, and Williamson, 2012), chambers of commerce, and similar institutions that actively work to portray industry as a credible and trustworthy actor that contributes to economic welfare. Some research indicates that the power balance between pro-industry think tanks and other activist institutions and groups that advocate alternative views may in fact create advantages for the former group. This condition may, seemingly paradoxically, become a liability if industry actors are made suspect of propagating their interests in the absence of any qualified, financially endowed discussant

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or opponent (see, e.g., Drutman, 2015). One of the key externalities of such power imbalances is that, for example, pro-market hegemony and elitist privileges may gradually undermine the wider public’s belief in the political system as being designed to reflect the interests of larger socioeconomic groups and not only the interests of economic elites. Also the microlevel of analysis, that of the relation between individual managers and individual external monitors such as economic journalists, can be examined to reveal how, for example, stock market performance is in fact dependent on the assessment of independent actors. Westphal and Clement (2008) show that executives whose companies are at risk of receiving unfavorable stock ratings in the business press may in fact engage in what Westphal and Clement (2008) call “executive favor rendering” to avert unfavorable ratings. In this case, an analyst that announces that the firm’s stock should be downgraded may be contacted by the CEO to be promised additional future support, which may include, for example, the ability to access key actors such as the Chief Financial Officer (CFO), which enables the journalist to make more accurate market stock predictions in the future. Such cases of executive favor rendering are premised on a favorable assessment of the firm’s stock market value. In this way, the CEO and the analyst create a reciprocal relationship that is mutually rewarding, yet compromises the integrity of the two actors. In Westphal and Clement’s (2008) view, bilateral reciprocal relationships between executives and analysts put the desirable information efficiency of finance markets at risk: Security analysts, by issuing negative recommendations in response to poor firm performance or strategic actions that appear to serve management interest at the expense of shareholders, can direct capital and other resources away from underperforming firms and self-interested managers towards more productive users.  .  . . An implication of our findings is that microsocial factors in manageranalyst relationships, by reducing the objectivity of security analysts’ stock recommendation, may ultimately compromise corporate control and financial market efficiency. (Westphal and Clement, 2008: 890) In addition, Westphal and Graebner’s (2010) study shows how top managers may handle negative analyst stock ratings by recruiting independent directors (a widespread recommendation in the normative governance literature, stipulated to be a measure that counteracts the risk of managerial malfeasance), at the same time as managers ensure that independent directors do not infringe on managerial discretion. The study thus provides additional evidence that managers have the capacity to manipulate market analysts to their own advantage. Westphal and Graebner (2010: 35) argue that this ability to make visible changes in

90 The Moral Economy of Enterprising board composition, consistent with shareholder interests, while in fact these changes are decupled from actual board behavior, is indicative of managers being complicated and costly to monitor by external stakeholders. That is, whenever managerial discretion and autonomy may be at stake, when, for example, moral crusaders, norm entrepreneurs, and reputational entrepreneurs mobilize, managers do still control considerable resources that protect the firm’s and their own interests. The corporate system and its legislation provide several mechanisms that ensure the autonomy of the corporation as a legal entity sui juris.

Neo-Paternalist Governance: The Manipulation of Choice Architecture and the Use of Nudges If shaming runs short in many social situations and fails to serve as a robust regulatory mechanism, other proposed models may receive attention from policy-makers. One such model is what the economist Richard Thaler and legal scholar Cass Sunstein (2003) refer to as “libertarian paternalism,” and more specifically as nudges. Nudges is a broad term comprising all attempts to influence and shape individuals’ behaviors so that they can make more qualified and rational decisions, but without undermining the decision-making discretion of the agent. Burgess (2012: 5) describes nudging accordingly: “Nudging’s strength is its practical character. It attempts to design around our imperfections for positive social ends, recognising that we are typically lazy about what we choose not to prioritise, but nonetheless regard as right.” Whereas traditional paternalism used direct intervention or legislation to shape individuals’ behaviors and choices, nudges are “more subtle tweaks to the environments that shape unconscious, automated or habitual behaviour,” Pedwell (2017: 60) suggests. This is precisely what merits the use of the term libertarian in Thaler and Sunstein’s account, the alleged ability of the nudge model to allow people to not comply with nudges as they remain “free to choose” (Pedwell, 2017: 60), yet being encouraged on the basis of various mechanisms to make more informed decisions. Rizzo and Whitman (2009), two legal scholars, examine the differences between traditional paternalism and neo-paternalism, wherein the latter category includes the libertarian paternalism advocated by Thaler and Sunstein (2003): The “new” paternalism purports to differ significantly from more traditional paternalism. The “old” paternalism, which often grew out of moral or religious notions of the good, effectively ignored the preferences (or interests or pleasures) of the individual in favor of the preferences of the policymaker. It does not matter if the individual really enjoys consuming alcohol, says the old paternalism, because that is simply a bad preference. The new paternalism, by contrast,

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takes the individual’s own subjective preferences as the basis for policy recommendations. New paternalist policies allegedly help the individual to better achieve his own subjective well-being, which cognitive impediments prevent him from attaining on his own. (Rizzo and Whitman, 2009: 907–908) The ideological basis for traditional paternalism was the moral conviction that certain preferences were simply wrong, or at least deplorable, which justified legislation and various campaigns to shape the behavior of individuals and to make them comply with certain morals. Neo-paternalism substitutes the concept of morals with rationality, and consequently makes “rational decisions” the golden standard for, for example, libertarian paternalism. Rational decisions are thus made on the basis of the architectural and/or behavioral framing of the choice situation, wherein so-called nudges entice the individual to make desirable decisions from the policy-maker’s point of view. In essence, Mitchell (2005: 1247) writes, the benefit of nudges is that “central planners supposedly can reconcile libertarian and paternalist values by carefully framing choice options to take advantage of preference endogeneity to advance.” At the same time, Mitchell (2005: 1248) suggests that Thaler and Sunstein’s nudge model does not offer any “regulatory path that will permit paternalistic efforts at welfare improvement without intruding on personal autonomy.” To Mitchell (2005: 1248), libertarian paternalism is an oxymoron. Taking the question of paternalism aside, there are three categories of critique of nudges. First, an epistemological critique is concerned with how the designer of “choice architecture” (Amir and Lobel, 2008: 2107) can know the true preferences of the actor who makes a choice. This critique includes, for example, the issue of how experimenters or policymakers can unambiguously determine what genuine “rational decisions” are, regardless of situation and context, and given that preferences appear to be unstable and ultimately dependent on the framing of the choice situation. The work of the philosopher Donald Davidson, himself being an early contributor to decision theory, can be cited in this context. Davidson is concerned with how an analyst or experimenter who relies on the concept of preference in his or her analytical model can determine such an affirmative attitude without being able to directly observe it, and instead induce what the preferences are on the basis of inferred data. More specifically, Davidson is unconvinced that it is possible to determine either preferences qua beliefs in the first place, or the relative strength of this preference in the second instant. As Davidson offers a nontrivial argument, he may be cited at length: A feature of such a [decision] theory is that what it is designed to explain—ordinal preferences or choices among options—is relatively open to observations, while the explanatory mechanisms,

92 The Moral Economy of Enterprising which involves degree of belief and ordinal values, is not taken to be observed. The issue therefore arises of how to tell when a person has a certain degree of belief in some proposition, or what the relative strength of his preferences are. The evident problem is that what is known (ordinal, or simple preferences) is the resultant of two unknowns, degree of belief and relative strength of preference. If a person’s cardinal preferences for outcomes where known, then his choice among courses of action would reveal his degree of belief; and if his degree of belief were known, his choice would disclose the comparative values he puts on the outcomes. But how can both unknowns be determined from simple choices along? (Davidson, 2005: 58–59) In this view, neither the preference as such, nor its “relative strength” can be determined on the basis of directly observed choices made (or other available data), which largely makes such a decision-making theory inoperable unaccompanied by ad hoc hypotheses that would preserve its applicability, but only, and only if, such ad hoc hypotheses are deemed plausible and consequently accepted by the analyst or experimenter. Furthermore, to extend the critique to the wider socioeconomic issues that pertain to the actual choice situation being manipulated, the nudge model is criticized for failing to address the underlying causes of the “undesirable” preferences to be avoided. Nudging may affect certain decisions made by, for example, consumers, potentially with net welfare effects, but the question regarding the grounds on which such allegedly “irrational” preferences are displayed in the first place remains unexplored, essentially left for others to investigate. Second, a methodological critique emphasizes that much of the work on nudges is based on laboratory experiments whose validity for real world economy choice situations may be limited. Third and finally, a political critique addresses the question of where the legitimacy of politically motivated welfare generating initiatives ends, and at what point proponents of social engineering overreach their stipulated authority in democratic societies. Beyond that point, overzealous advancement of rational decisions result in a loss of liberties otherwise held in esteem. The Epistemological and Methodological Critique of Nudges The claim that choices made on the basis that carefully designed nudges are a priori rational is a proposition that is complicated to substantiate on theoretical and substantive grounds, several critics contend. Hausman and Welch (2010: 124) say that Thaler and Sunstein define nudges “mainly by example” —that is, they offer no integrated theoretical framework for how preferences, choice situations, and frameworks are interrelated, and, ultimately, how rationality is enforced or how such resources

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jointly result in decisions that are desirable from both the individual’s and the policy-maker’s view, and especially without intruding on the individual’s integrity. Furthermore, to provide an integrated and theoretically substantiated model, choices and preferences are conflated on the basis of the axiom of “revealed preferences,” which stipulates that “people’s actions usually reflect their preferences” (Amir and Lobel, 2008: 2121). That is, the concept of “rationality,” a centerpiece of neoclassical economic theory and a sort of first principle of economic theory, is not some neutral or Archimedean fixed point in the libertarian paternalism model, critics contend. Rationality is instead determined by expert communities being granted the authority to ex ante define rationality formally, outside of context and choice situation frameworks: [N]udge represents a mode of expert governance in which leaders and professionals with requisite scientific and behavioural expertise are seen to be much more capable than ordinary people in determining what constitutes rational, healthy or prudent behaviour and how best to engineer it. (Pedwell, 2017: 74) When making use of such privileges, expert communities stipulate that human behavior is “irrational”–that is, less-than-optimal decisions are made on a predictable basis–which results in a loss in net economic welfare, which includes both private and social costs. Based on this proposition, decisions are per se generally treated as being either “good” or “bad,” and the purported role of experts such as government officials, corporate leaders, and professional consultants is therefore to employ nudging techniques that “[p]ush people in the direction of ‘their own best interests’ (as judged by these experts)” (Pedwell, 2017: 75). Pedwell (2017) questions the technocratic instrumentalism of this operational model, justified by “nudge theorists” on the basis of the proposition that the individual’s tendency is to habitually repeat “processing errors.” Instead, what Pedwell (2017: 75) refers to as “the psychic contours of human conduct” are much more sophisticated than nudge theories recognize, and individuals do demonstrate a high degree of variety in choice situations, and reveal a capacity to adjust to changing decision frameworks. Furthermore, essential human qualities or dispositions, such as the capacity to feel pleasure and to desire, is largely excluded from the libertarian paternalist model, as nudges are designed on the basis of a “rigid epistemology of self-control and future ‘wellbeing’” alone (Pedwell, 2017: 76). As pleasure and desire frequently fall outside of what is rational within the framework of technocratic instrumentalism, mandated by economic theory, pleasure and desire are “irrational” ex hypothesi. This rejection of pleasures and desires that fall to the side of the stipulated rationality proposition is potentially derived from another

94 The Moral Economy of Enterprising epistemological component in the operational nudge model, the downgrading of social (i.e., collective) beliefs vis-à-vis individual preferences (eventually materializing in actual choices). “Behavioural economics, like the [economics] discipline more generally, tends toward an abstract, socially blind sense of ‘irrational’ behaviour that takes no account of values,” Burgess (2012: 12) remarks. Also Amir and Lobel (2008) stress how the operational nudge model is under-socialized (with Granovetter’s, 1985, apt phrase) inasmuch as what they refer to as “collective responsibilities” are understated and only insufficiently incorporated in the nudge model: Even when one is committed to the primacy of personal responsibility and individual choice, most of us recognize that our responsibilities extend beyond narrow commitments to the individual self. Individuals are responsible for their own economic and emotional well-being. At the same time, we operate in a society that binds us together through cooperation, norms, and rules for settling conflicts. Market capitalism depends on a well-functioning government and legal system. Policy most often entails a balance between individual and collective responsibilities. (Amir and Lobel, 2008: 2124) Based on these premises, a variety of human behaviors are excluded from the operational nudge model, instead categorized as anomalies that cannot be properly explained by theories that stipulate instrumental and calculative rationalities. Schroeter (2006: 361) asks the adequate question whether it is by definition irrational when an otherwise informed, competent, fully functional individual sometimes desires “to do what is wrong.” That is, can a formal definition of rationality outdo the integrity of an informed and competent individual and his or her capacity to make decisions derived therefrom? “To do what is wrong” does not here simply mean what is illegal or morally questionable, but what the individual may regard as rewarding and a fruitful, at times necessary, deviation from the scripted and predictable routines of everyday life. Such practices may range from the smoker enjoying a cigarette while still being aware of the health risks of smoking, the athlete feasting on pastries as a form of reward and an escape from an otherwise strictly regulated and closely monitored ascetic lifestyle, or the bored office worker coming to life during unorthodox sexual practices as a way to release tensions that accumulate in a community wherein social control is detailed and continuous. Daydreaming, minor vices, and mechanisms for making an otherwise regulated human life bearable may induce a sense of shame or bewilderment, but Schroeter (2006) suggests that doing or thinking what is “wrong” is not simply a sanctimonious act, but must be understood a rational response to

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perceived concerns and actual life conditions. Such questions sit poorly within the nudge model as the underworlds of the human psyche and the dark continent of its pleasures and desires are entirely excluded from the theory and its practical application in the design of “choice architecture.” Daston (2015) remarks in her critique of what she refers to as the “economic theory of rationality” that original motives are understated and mostly treated as being what may be called “endogenously given” in neoclassic economic theory. Daston uses the case of Ulysses in Homer’s epic being tied to the mast of his ship to be able to hear the sirens’ otherworldly beautiful song, while the rest of the crew of the ship had their ears plugged with beeswax to save their souls from the lure of the sirens. In Daston’s and the card-carrying neoclassical economists’ view, this is a perfectly rational response to a perceived problem: Ulysses can both experience the siren’s song and save his own and his crew’s lives. In contrast, the question as to why Ulysses takes such measures to be able to hear the sirens’ song remains in the dark within an economic theory framework that mandates instrumental rationality. Such all-too-human desires and pleasures remain an aporia in neoclassical economic theory. A more practical and hands-on critique of nudge theory concentrates on the fact that many behavioral economics studies are laboratory experiments. As such experiments, Amir and Lobel (2008: 2135) say, “lack the rich ‘social and organizational context’ of real market interactions,” the experimental results and findings have “limited direct application to concrete social policy.” The political legitimacy of the proposed nudge model may be questioned on theoretical and methodological grounds. An incomplete theory of preferences and decision-making and choice that overlooks the central epistemological issue regarding how the experimenter can determine the true preferences of the experimental subject, in combination with a methodological approach that stipulates an unproblematic relationship (or at least tolerable level of consistency) between laboratory experiments and real world economy choice situations, are a few such concerns. The Political Critique of Nudges One of the major weaknesses of the operational nudge model is that at the same time as its proponents stipulate individual freedom as a foremost virtue and a political objective worth honoring, the ideal-typical individual actor is treated as being pliant and passive, and displaying limited concern regarding, for example, the manipulation of choices through choice architecture (Burgess, 2012: 9). “While human preferences can be a moving target, one feature of individual preferences is well established in the behavioral literature: Individuals value the ability to control their lives, paths, and choices,” Amir and Lobel (2008: 2125) write. Burgess (2012: 11) argues that the operational nudge model is in

96 The Moral Economy of Enterprising fact legitimate when it comes to the functioning of critical socioeconomic activities, such as the collection of taxes to finance the sovereign state’s activities. Whenever there is a consensus around certain objectives in a democratic political system (to make people eat more healthy is a stated goal), nudges and choice architecture may be legitimately implemented to maximize economic and social welfare. In contrast, when nudges and choice architecture are introduced to either assist commercial interests or to settle morally or ethically disputes (again, whether individuals should or should not eat certain types of food, say comparably unhealthy but convenient fast food or meat products), they become more problematic inasmuch as the stipulated objectives per se are far from value-neutral. More largely, Burgess (2012: 9) is worried about the role of “psychologically based behaviourism” in policy-making, governance, and regulation as the concern regarding the protection of civic freedoms and rights is “less marked in the late twentieth and early twenty first centuries.” In this view, the operational nudge model is based on the preference for individual well-being over individual freedom, which infringes on the autonomy and liberties of dissenting and unruly individuals: In traditional democratic terms, we must consider the minority who are unhappy or unwilling to be nudged into better or healthier choices, and to this end the process must remain one open to scrutiny. Those who might decide against being directed towards ‘improved outcomes’ may be irrational in economic terms, but even in economics a more social and contextual view has developed. We now recognize that ‘happiness’ and ‘wellbeing’ are relatively independent of financial circumstances, suggesting a wider sense of rationality and fulfilment. (Burgess, 2012: 12) In Burgess’ (2012) view, the economic rationality of the operational nudge model must tolerate that not all individuals respond positively to the libertarian manipulation of the choice situation, and that the overarching political objective is to protect individual freedom and integrity regardless of the purportedly rational behavior that is potentially generated on the basis of extensive nudging. Pedwell (2017: 62) addresses the question regarding the legitimacy of nudges within the realm of commercial interests, and argues that that libertarian paternalism serves to fortify the connections between behavioral economics and neoliberal capitalism inasmuch as “many nudgestyle policies draw heavily on corporate techniques and are largely ‘market-corrective’ in orientation.” The libertarian paternalism model and its emphasis on “governing through habit” (Pedwell, 2017: 62; on the concept of habit, see, e.g., Sparrow and Hutchinson, 2013; Lumsden, 2013; Camic, 1986) are thus grounded in particular ideologies,

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coproduced with and in many cases supportive of competitive capitalism: “[T]he deployment of nudge practices to effect change at the level of habitual behaviour is not neutral; rather, it reflects particular ideological commitments linked to patterns of socioeconomic injustice and inequality” (Pedwell, 2017: 62). Pedwell (2017) adds that libertarian paternalism and the nudge model have been advocated on the grounds that they can effectively handle major challenges that the traditional paternalist policy-maker encounter–that is, a variety of sociopolitical issues and the immensely complicated psychological constitution of the human mind, in turn predicated on various contingencies. Consequently, the technocratic instrumentalism of nudging only apprehends and governs a small subset of the totality of issues policy-makers may wish to regulate and to monitor. In short, nudge theorist Pedwell (2017: 76) summarizes that “[p]romotes the fantasy that we do not have to wade into the murky abyss of psychic ambivalence or sociopolitical relationships to transform individual or collective behaviour—through superficial administrative tweaks, this complexity can now simply be bypassed.” In the end, critics of the libertarian paternalism of the operational nudge model such as Rizzo and Whitman (2009), Mitchell (2005), Amir and Lobel (2008), Burgess (2012), and Pedwell (2017) suggest that regardless of the efficacy of the nudge model (in turn being questioned on epistemological and methodological grounds), its political legitimacy may be debated as the policy-makers’ ambition to maximize individual well-being may in fact clash with other stipulated political objectives (e.g., to protect the integrity of citizens), or may, as an additional complication, be in the service of, for example, commercial interests that fall outside of the stipulated political mandate altogether, or are only tangential to such interests. Nudges Versus Deliberative Politics John, Smith, and Stoker (2009) advocate a deliberative democracy model (for an overview of the concept, see Ryfe, 2005; Miller, 1992) as an alternative to the architectural shaping of individual behavior and choices. Rather than designing choice situations to ensure desirable outcomes, deliberative politics initiatives aim to help citizens “make informed and better choices about collective actions and the direction of public policy.” Deliberation and dialogue—which John, Smith, and Stoker (2009) refer to as the “the think strategy” model as opposed to the “nudge model”— are thus complementary to libertarian paternalism inasmuch as they invite individuals to actively reflect on perceived social problems and to consider alternatives for their solution or containment. That is, “deliberative theorists recognise that preferences are not exogenous to institutional settings” (John, Smith, and Stoker, 2009: 364). The key to “good governance” is therefore to involve individuals in a dialogue regarding

98 The Moral Economy of Enterprising perceived social problems. The benefit of the deliberative democracy model is that it (1) actively seeks to identify the root causes of what surfaces as political issues, and (2) its legitimacy “rests on the free flow of discussion and exchange of views in an environment of mutual respect and understanding” (John, Smith, and Stoker, 2009: 364). In contrast, the libertarian paternalism model is only modestly successful in identifying and prescribing remedies for root causes of social problems, John, Smith, and Stoker (2009: 368) suggest: “The weaknesses of nudging have to do with its inability to address the fundamental problems and, as such, it arguably generates fairly modest outcomes as a result.” Regarding the question of legitimacy, the libertarian paternalism model relies on an expert-based governance model, wherein purportedly rational advisers claim the authority to define rationality in substantive terms, to prescribe governance practices to generate net economic welfare, and to minimize individual and social costs. In this operation model, there is little room for citizens to actively participate in the design of governance practices or to contribute in other ways. The technocratic strictness of the design of nudges and choice architecture precludes wider democratic initiatives, and renders democratic deliberation ideals overoptimistic. John, Smith, and Stoker (2009: 367) admit that the deliberative democracy model demands the compliance and active involvement of individuals, but argue that the work invested in such projects and campaigns provides benefits in excess of the costs: The think strategy is more demanding than the nudge strategy in the effort required by the individual to engage. Nudge relies on the impact of any intervention being low cost. In fact, it can only work through being low cost, or else the individual will not cooperate. In contrast, the deliberative experience requires some considerable costs to get going. (John, Smith, and Stoker, 2009: 367) In the end, the think strategy and the nudge model may be complementary and serve diverging objectives, but the deliberative democracy model has the benefit of recognizing individuals as intelligent and responsible citizens, endowed with the capacity to contribute in meaningful ways to the solution or containment of social problems. In this way, individuals are not only the subject of neo-paternalist intervention and governance practices, but are a resource in the joint creation of net economic welfare. In the end, when being compared to deliberative democracy initiatives, which grant the thinking, responsible, and mature citizen a key role in generating social and economic welfare, libertarian paternalism and its nudge model encounter considerable theoretical and substantive challenges. The questions of how rationality can be defined ex ante and outside of specific decision frameworks, how preferences are determined by experts

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and policy-makers, and how to draw a line of demarcation between, for example, “too much” and “just enough” (a question meddling with terms such as pleasure and desire, largely excluded from the behavioral economics research framework) are theoretical and epistemological issues that need to be resolved by nudge theorists. Furthermore, the question of what are tolerable degrees as well as what is acceptable substantive content of paternalist policies and campaigns demands further attention. Mitchell (2005: 1269) argues that nudge theorists such as Richard Thaler and Cass Sunstein “avoid the hardest but most important question raised by their welfare focused paternalism,” and therefore offer an overtly simplistic solution to governance problems, rooted in human psychology and socioeconomic conditions. Pedwell (2017: 80), in turn, suggests that the use of nudges as a governance device is, “[i]n many ways, a patently neoliberal endeavour.” Shaming may be an insufficiently precise governance and regulation mechanism that easily results in either unintended consequences or granting too much liberty to overzealous defenders of specific values. Neo-paternalist governance, which includes, for example, libertarian paternalism enabled by the informed use of nudges, is architectural in orientation and oftentimes operates on the basis of “less-than-conscious means.” Such governance devices thus redirect habitual behavior in ways “[d]eemed effectual precisely because they circumvent the predictable irrationalities of human decision-making processes” (Pedwell, 2017: 72–73). In addition to all the theoretical and epistemological concerns regarding definitions and demarcation problems, catalogued in the literature reviewed above, a lingering concern is to what extent it is possible to at all design and to implement governance practices that escape the lure of paternalism. In Richard Rorty’s account, the idea of a “noninvasive” welfare system—wherein governance practices are indisputably a key component—is mistaken: Does anybody know how to run a non-invasive welfare system? I don’t think you can. You’re just going to have to settle for lots and lots of Foucaultian webs of power, about as weblike and powerful as they always were, only run by good guys instead of bad guys. (Richard Rorty, cited in Rorty, Nystrom, and Puckett, 2002: 34) In this view, libertarian paternalism is not only an oxymoron (as Thaler and Sunstain, of course, knew; it’s a figure of speech that they were anxious to exploit), but it is also a term that eats its own tail as economic and social welfare, governance, and the regulation of individual economic behavior can never exist outside of various forms of paternalism. Policy-makers, legislators, regulatory agencies, experts, lobbyists, and so on do not participate in the construction of governance regimes imposed from above on the basis of a variety of convictions, beliefs, ideologies,

100 The Moral Economy of Enterprising theoretical frameworks, and so on, so the question regarding the vitality of paternalism or “noninvasive welfare system” should be muted. The issue at hand is, instead, who should be granted the authority to dictate the elementary mechanisms for the design of governance regimes and their down-to-earth practices? Questions regarding “who’s the good guy and who’s not?” inevitably remain disputed.

Summary and Conclusion Social norms and beliefs are the anchoring points of social life. New norms may emerge, and older norms may lose their importance as new ways of thinking and new modus vivendi are established, prompted by changes such as the introduction of new technology, economic growth and welfare, secularization, urbanization, or successful political or social reforms. Yet there is a need for some shared beliefs that can regulate day-to-day social life, especially during periods of swift socioeconomic change. Furthermore, norms may be local or dependent on various contingencies, which make them contested whenever different norms and moral systems encounter each other. In the domain of business and venturing, social norms serve to establish standards for what are fair and reasonable business practices, and violations of such norms can result in undesirable responses from the view of the actors who are at risk of violating certain norms. From an institutional theory perspective, social norms are nonlegal and in many cases non-enforceable sentiments (i.e., norms are based on the joint consent of most actors) that operate inbetween the formalized legal and regulatory mechanisms that serve to stabilize and render economic production transparent and predictable. As the economic system of competitive capitalism, propelled by innovations on various levels (technical, legal, social, etc.), social norms are constantly modified and adjusted to emerging conditions, which oftentimes result in incumbent beliefs being sidelined whenever new enterprising groups enter an industry or business. One such case of normative change is the growth of the junk bond market in the 1980s (Baker and Smith, 1998; Bruck, 1988; Coffee, 1986), wherein a new group of finance industry entrepreneurs created new sources of financing on the basis of what the mainstream banking industry regarded as low-quality, below investment grade assets (i.e., bonds that were “junk” in the eyes of prudential and risk-averse investors). By rejecting the conventional wisdom of incumbent finance institutions, the pioneers of the junk bond market created new possibilities for businesses being excluded from regular investments bank lending, but also served to fund the takeover wave of the 1980s, a distinctively important episode in the history of corporate governance. In the long run, such new ideas resulted in a growing appetite for finance market innovations. To this date, the changes in norms in the finance industry in the 1980s and

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thereafter have been subject to intense legal and regulatory attention and scholarly analyses. Indeed, it does matter what people think and what social norms they regard as reasonable and legitimate, and how they act on the basis of such beliefs. In the end, the moral economy of enterprising is a social fact that skilled managers and external observers must recognize within the everyday affairs of corporations.

Notes 1. Henry Miller, the renowned American writer, described Walt Disney as “the Gustave Doré of the world of Henry Ford & Co., Inc.,” and various scholarly work has paid detailed attention to the process of “Disneyization” of society (e.g., Bryman, 2004). Such accounts see the Disney Corporation as a norm entrepreneur or a moral entrepreneur that is part of the industrial entertainment complex. 2. As for instance Hahl and Zuckerman’s (2014) research on how status groups act in defined social situations show, a high-status position is frequently associated with insecurity. For instance, experimental research demonstrates that “subjects who are experimentally manipulated to see themselves as a member of the more competent, higher status of two social categories tend to regard their own social category as lacking in ‘considerateness’ or warmth toward others” (Hahl and Zuckerman, 2014: 506). That is, when being assigned a status position without such a position being justified on the basis of solid evidence in the eyes of the status group member (say, success in some competitive game), other high-status group members are perceived in less favorable terms on some key parameters (e.g., social competence or charm). “[S]uspicions of inconsiderateness and inauthenticity are inherent in the status attainment process unless there is credible evidence to override these suspicions,” Hahl and Zuckerman (2014: 530) write. This insecurity is the “soft underbelly to status hierarchies,” Hahl and Zuckerman (2014: 543) propose, in turn easily shifting the image of high-status actors “from public celebration to scandal” (Hahl and Zuckerman, 2014: 543). In this view, the sociological study of status reveals that status is for the most part a form of social capital, conducive to considerable advantages and benefits, but also indicates that status generates insecurity. Such perceived insecurities that pertain to the factual basis of this consecration translate into various forms of prosocial behavior, whereof, for instance, the preference for and appreciation of low-brow and popular culture (see Hahl, Zuckerman, and Kim, 2017) is one mechanism that balances an actor’s formal status position in the group and the individually perceived status. 3. Sellers (1991) calls attention to the long tradition of skepticism regarding the role of banks in the American economy. As banks were hugely profitable on the basis of their ability to collect interest on loans “considerably exceeding their real capital,” banks were from the very beginning seen as “threatening and fraudulent to the subsistent-oriented sector of American society,” Sellers (1991: 46) argues. Thomas Jefferson, for instance, thought banks were created “to enrich swindlers at the expense of the honest and industrious” (Sellers, 1991: 46), and John Adams declared, “Every dollar of a bank bill that is issued beyond the quantity of gold and silver in the vaults represent nothing and is therefore a cheat upon somebody” (cited in Sellers, 1991: 46).

4

Corporate Governance and Transnational Governance The Limits of Self-Governance

Introduction In Chapter Two, the roles of legislation and corporate law in particular were advanced as juridical frameworks wherein the corporation is enacted as a legal entity. This formal view of the corporation was complemented by the concept of the moral economy in Chapter Three, wherein norms and values determine the outer boundaries for what are legitimate behavior and decision-making in corporations. Laws in books and laws in real life, and norms and values thus together define the legal culture and social environment wherein corporations conduct their business. Few policy-makers, pundits, and scholars question the value of corporate legislation and other legal statutes, and nobody disputes the presence of various norms and values, regardless of their factual content. The domain of governance, structured around regulatory control and oversight, is midway between law and norm, being in many cases the de facto presence of the sovereign state in markets. Consequently, the question of governance is more controversial and cuts deep between various ideologies and political orientations. For instance, a neoconservative or libertarian view of the state assumes that central agencies can never surpass the information-processing capacity of self-interested and highly incentivized market actors, which on theoretical grounds stipulates that governmental regulation by definition imposes unnecessary costs and complications on what are portrayed as already functional and effective markets. In contrast, a liberal view, which in many cases rests on an institutional theory view of the market, is that the market is a joint creation that involves various marketmakers and includes not the least the sovereign state and its defined agencies on both national and transnational levels. In this view, the market as a strictly calculative and information-processing device is a piece of theoretical fiction that has little to do with real economy markets, always susceptible to social influences such as opportunistic behavior, speculation, attempts to manipulate the price-setting process, and so on. In this view, government activities, representatives of the

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sovereign state, are integral, even constitutive components of any real economy market. At the bottom line, the market is an economic device, abstract (as in the case of the global securities market) or tangible (as in the case of the Middle-East souk or Saturday town square farmer’s market), conducive to what Marti and Scherer refer to as social welfare, defined as “a normative concept that different people or social groups use to reflect on the ends—the ‘greater good’—that public policy should pursue to improve the status quo of society” (Marti and Scherer, 2015: 301). The crux is that various ideologies and theoretical frameworks prescribe different pathways to maximize the production of social welfare under determinate conditions. For instance, Marti and Scherer (2015: 303) argue, efficiency, stability, and justice (operationalized as, e.g., economic equality) are competing objectives that are valued differently: “When a specific issue is at stake, some groups may focus on efficiency, others may be willing to sacrifice efficiency in order to increase stability, and yet others may see justice as the most urgent end for public policy” (Marti and Scherer, 2015: 303). To further complicate the situation, concepts such as efficiency and stability are per se possible to define and operationalize in numerous ways, which results in prolonged disputes over how these terms are to be used (Marti and Scherer, 2015: 303). To at least temporarily silence such disputes, the sovereign state acts to balance various interests and opinions within its governance activities. In this view, governance is based on an institutional perspective on economic affairs, which includes market-making and market regulation (which, in most cases, are two sides of the same coin). For instance, the institutional economist John R. Commons (1924) formulated a theory of the “legal constitution” of competitive capitalism, wherein the sovereign state (“operationalized as “government” in the U.S. vocabulary) actively assists market-making and monitors market activities: Market processes are seen as historically specific and institutionally embedded, not autonomous. National law defines the nature and limits of the transactions that define the rights, duties, liberties, and exposures to risk of the parties participating therein. This structures the hierarchy of rights and obligations in the economic realm. In this vision, government is not a deus ex machina operating outside the logic of the market. Instead, the sovereign state and its courts of law define the very substance of market exchange in the context of the society’s governing constitution. (Chiong, Dymski, and Hernandez, 2014: 928) Furthermore, Commons (1924) advocated the more controversial idea that what Marti and Scherer (2015) refer to as the production of social

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welfare is a responsibility of the sovereign state. Commons even introduces the term “the commonwealth” to denote such a project: In Commons’s vision, the sovereign nation and its courts decide on what economic transactions are permissible by considering whether they serve any public interest, and, specifically, whether they protect or enhance the commonwealth of the people of a nation. The idea of the commonwealth, for which the state is responsible, provides an ethical (and legal) reference point for evaluating the (societal) gains or losses from letting any set of economic processes go forward. (Chiong, Dymski, and Hernandez, 2014: 928) Needless to say, to provide government and the political system with such almost unrestrained authority to determine market transactions to benefit an abstract principle such as the commonwealth is rejected out of hand by equally mainstream commentators and free-market protagonists. Yet, the point being made by referencing the work of Commons (1924) and his followers, institutional economists, is to underline that “politics” (for the time being undefined and introduced with citation marks) is an irreducible component of market-making. “There is no society more ‘political’ than the ‘market society,’ that is, capitalist society. The more economic a society becomes, the more political it is bound to be,” Sklar (1988: 88) remarks. Commons’ prescribed model of the market can be contrasted against the libertarian or free market theory view, wherein the principal role of the state is to legally define property rights to secure law enforcement so that disputes can be resolved in court cases. In this minimal theory of market-making, which represents a form of “technocratic financial regulation” (Marti and Scherer, 2015: 306), the vocabulary used is terse and narrowly defined, and consequently this mode of expression per se tends to insulate proponents of technocratic financial regulation against criticism as the discussion “[m]akes it more difficult for actors to introduce new topics into the regulatory discourse” (Marti and Scherer, 2015: 306). To advocate minimal state intervention on the basis of the virtue of efficiency maximization, the free-market view easily dismisses more ambitious roles for the sovereign state as being unnecessary complications. The politics of this discourse is conspicuously justified by laissez-faire preferences, wherein the good state is a passive state, factually leaving to market actors what they allegedly do best (or at least are stipulated to do better than regulators and other centrally located agents)—to process information and to determine market prices on the basis of available or induced information. The concern is that markets are less static than the free-market theory model tends to assume. What may appear as a robust theoretical model on the basis of propositions and theorems may only poorly translate into efficient and well-functioning markets. Factors such as opportunism,

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speculation, and other mechanisms that distort market prices are not secondary to market creation but are rather part of its constitutive features. Furthermore, not all markets are “thick” (i.e., include many buyers and sellers), nor are markets as informationally efficient as proponents of free-market theory models are prone to claim they are. In real economy markets, for example, self-regulation works with lower efficiency than the idealized model of such a market predicts, studies show (Harnay and Scialom, 2016: 412; Reinecke, 2010: 573; Citron and Pasquale, 2014: 22). For instance, Johnson (2013: 192) examines the over-the-counter (OTC) derivatives market, which is characterized by a considerable degree of self-regulation. More specifically, the OTC derivatives clearinghouses that determine the original market price of OTC are “directly controlled by a small group of elite banking institutions” Johnson (2013: 192). The concern is that these clearinghouses are neither government agencies, nor proxies of regulators, but are marketmakers that operates to assist certain market actors. In a free market theory model, self-regulation is a sufficient mechanism to ensure market stability that will eliminate opportunistic behavior as, for example, market price manipulation will either not be possible at all, or will be punished in a way that causes harm to market actors, which deters them from conducting illicit acts. In contrast, Johnson (2013: 203) believes this assumption is overoptimistic: “The difficulty with self-regulation lies in the presumption that regulated entities continuously introduce regulation that aligns market participants’ behavior with the public’s interest in financial markets regulation” (Johnson, 2013: 203). In the current situation, the OTC derivatives markets involve major finance industry actors such as JPMorgan Chase, Bank of America, Citigroup, Goldman Sachs, HSBC, and Morgan Stanley, all which share the characteristic of being the largest and controlling stakeholders of “several of the authorized clearinghouses” (Johnson, 2013: 192). By integrating vertically in the OTC derivatives market, and being able to operate in absence of “effective internal governance mechanisms,” clearinghouse members may “prioritize their individual interests ahead of the integrity of clearinghouses,” Johnson (2013: 221) suggests. That is, the integrity of marketmakers and market actors, stipulated in the free-market model to justify self-regulation, is unsubstantiated and results in lower market efficiency and other market deficiencies whose costs are carried by other stakeholders. When self-regulation fails or is compromised, net economic welfare falls below its optimum. Under such conditions, the faith in the market system is impaired, and considerable consequences follow. Given these difficulties in letting only laws versus norms and values embed the corporation in the social fabric, this chapter examines how governance activities complement legislation and norms in the institutional framework of contemporary competitive capitalism. As neither the free market approach, nor the command-and-control approach (in

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Johnson’s, 2013: 234, categorization), the two end points on a continuum, appear to be viable solutions to governance issues, governance practice, similar to legislation and normative control, needs to strike a balance between a variety of interests advocated by stakeholders and/or their agents. In real life economies, the issue of governance is indeed a political question, as suggested by Sklar (1988).

The Concept of Governance Governance is a highly disputed term and there are a variety of definitions of governance in the literature. Lobel (2004: 344) defines governance as a term that “[s]ignifies the range of activities, functions, and exercise of control by both public and private actors in the promotion of social, political, and economic ends.” Campbell and Lindberg (1990: 636) define governance more generally as “[t]he institutionalized economic processes that organize and coordinate activity among a wide variety of economic actors.” As Lobel (2004: 344–345) remarks, today, governance activities are distributed over a large number of organizations and agencies, whereof fewer are direct government agencies as private companies have been increasingly bestowed with a license to act as a regulator. This new model of distributed governance agencies generates a network-based and outward-growing structure that makes governance activities complicated to map and to fully understand. Lobel says: The adoption of governance-based policies redefines state-society interactions and encourages multiple stakeholders to share traditional roles of governance. Highlighting the increasing significance of norm-generating nongovernmental actors, the model promotes a movement downward and outward, transferring responsibilities to states, localities, and the private sector-including private businesses and nonprofit organizations. Lawmaking shifts from a top-down, command-and-control framework to a reflexive approach, which is process oriented and tailored to local circumstances. (Lobel, 2004: 344–345) These tendencies are particularly accentuated in the area of transnational governance, wherein local, regional, national, and transnational agencies collaborate to govern, for example, the global finance industry (Bartley, 2007; Bignami, 2005; Slaughter, 2004), with considerable concern regarding political accountability ensuing. The term corporate governance, the governance of the firm, is defined differently depending on the underlying theoretical framework enacted. Aguilera and Jackson (2003: 450), two management scholars, define corporate governance as “[t]he relationships among stakeholders in the process of decision making and control over firm resources.” In the same

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vein, Macey (2008: 2), a legal scholar, defines corporate governance in formalistic terms as being the totality of “[a]ll the devices, institutions, and mechanisms by which corporations are governed.” In this view, as was discussed in detail in Chapter Two, the corporation has many stakeholders, all making their own specific contributions to the team production efforts inside the firm that the corporation’s directors need to attend to and to satisfice by making informed decisions. In contrast, economists and law and economic scholars tend to reduce the concept of governance to practices pertaining to the reduction of agency costs that befall the firm’s investors, for example, its shareholders. La Porta and colleagues (2000: 4) say that “corporate governance is, to a large extent, a set of mechanisms through which outside investors protect themselves against expropriation by the insiders.” This definition makes a foundational assumption that “insiders” (i.e., managers and directors) of necessity are at risk to squander the resources being invested in the firm, and therefore corporate governance is the theory and practice of monitoring these insiders to the benefit of the firm’s investors. At times, this grand hypothesis of economic theory–derived corporate governance literature is clad in a more abstract economic theory vocabulary to express the same elementary idea: “Corporate governance is the means by which the externalities that controlling parties generate are regulated,” Hermalin (2013: 734) says. Also, management scholars tend to recognize this economic theory–derived version of corporate governance, including, for example, Benton (2016: 661–662), who suggests that corporate governance “[r] efers to the practices and structures within and around public corporations that allocate power among organizational participants, particularly shareholders, directors, and managers.” The theoretical and empirical literature on corporate governance is massive, and reviewing it is beyond the scope of this volume (for an overview, see Styhre, 2017, 2018). Instead, this chapter examines how governance practices embed the firm in a structure that seeks to carefully balance the firm as an autonomous and accountable legal and economic entity, and to keep the firm under the control of the sovereign state or transnational governance agencies that are established to reduce transaction costs in the global economic system. A core principle in the contemporary governance regime (with Campbell and Lindberg’s, 1990, apt phrase) is self-regulation, which Omarova (2011: 421) defines as “[a] regime of collective rulemaking, whereby an industry-level entity develops and enforces rules and standards governing behavior of all industry members.” That is, in a governance regime relying on self-regulation, it is primarily industry actors and their defined partners who jointly enact the regulatory rules to be followed to minimize the risk of opportunistic behavior, and, by implication, to maximize the net economic welfare generated. The very idea of self-regulation is also based on the belief that no centrally located agency has better access to information or can overview

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a regulated field better than the agents operating in the specific industry, which implies that centralized governance functions impose additional costs that befall third parties, for example, consumers. On the other hand, there is ample evidence of cases of failed self-regulation as in the case wherein the proponents of self-regulated governance regimes easily have overoptimistic expectations regarding the integrity and prudence of industry actors. Furthermore, failure can be explained on basis of the influence of behavioral biases such as positive asymmetry (the tendency to overrate the likelihood positive outcomes from a specific policy or action; Cerulo, 2006), herd behavior, pluralistic ignorance (the belief that everyone else is sharing certain belief and expectations regardless of individual concerns; Willer, Kuwabara, and Macy, 2009: 455), or residual phenomena such as free-riding (Albanese and Van Fleet, 1985; Olson, 1965), or moral hazard (Baker, 1996). In fact, there is no solid empirical evidence unambiguously demonstrating that self-regulating is a superior governance regime in comparison to qualified centralized governance— that is, governance that relies on professional agencies that monitor industries and markets as independent actors (Clark, 1989). In the following, the case of finance industry governance is examined. Formally based on ex ante self-regulation as credit rating agencies (CRAs) are granted the right to rate all issuances of industry actors to provide a mechanism for “pricing market risk,” the finance industry still relies on the sovereign state as a provider of ex post resolution systems in the case of failed self-regulation. In this view, as Pistor (2013) argues, it is no longer meaningful to speak about self-regulated or centrally regulated markets as the sovereign state or defined transnational agencies such as the IMF or the World Bank are always ready to step in to save finance institutions in distress. The embedded autonomy of the finance institute is thus accomplished on the basis of a variety of governance ideas, arguments, regulatory activities, and practices that need to be examined in detail while at the same time being effective through their mutual constitution and co-production. The combination of free-market theory advocacy and the reliance on the sovereign state as a provider of both ex ante governance systems and ex post resolution systems makes finance institutions the foremost example of the embedded autonomy of the corporation.

Cases of Governance: Resolution Systems in the Finance Industry Pistor (2013) outlines what she refers to as a legal theory of finance. In this theoretical model, finance and the finance industry are “legally constructed” inasmuch as the creation of IOUs (“I owe you,” a shorthand term for the creation of credit relation contracts) is a legally sanctioned activity backed by the sovereign state, which in turn has legislative power and the authority to collect taxes. Financial assets are “contracts” whose

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value depends in large part on “their legal vindication,” Pistor (2013: 315) says. As a consequence, law and finance are “locked into a dynamic process in which the rules that establish the game are continuously challenged by new contractual devices, which in turn seek legal vindication” (Pistor, 2013: 315). This means that the legislation sets the boundaries for how much credit can be issued within the finance industry.1 When finance industry actors create IOUs (e.g., by issuing loans), they also create complex and interdependent webs of contractual obligations that link heterogeneous participants to one another (Pistor, 2013: 317). For instance, a family takes out a mortgage loan to buy a house, and the loan originator can thus issue, in collaboration with various underwriters and brokers, a mortgage-backed security (MBS) to pass on its illiquid holding to the finance market investors. In the next instant, say, a mutual fund buys the MBS as one of the holdings in the fund’s portfolio of assets. In this way, the most elementary economic transaction generates a network of credit relationships with defined rights and obligations, all mandated or at least tolerated within the present legislation. However, as the economy is made up of illiquid assets (e.g., production capital such as firm-specific machinery) and liquid assets (e.g., cash money, i.e., currency, and various assets such as stocks and bonds), and there is a preference, all things equal, for liquid assets over illiquid assets (Mehrling, 2011; Minsky, 1986), the consequence is an inherently unstable finance market (Pistor, 2013: 318). The advanced contemporary financial systems that rely on financial innovations such as various exotic and increasingly illiquid financial assets thus generate considerable systemic risk. Such systemic risks are theoretically speaking absorbed by the distributed and allegedly resilient finance industry itself, but there is robust evidence of an increased frequency of smaller and more severe financial crises in the national and global financial system (Calomiris, and Haber, 2014; Friedman and Kraus, 2012). Under all conditions, the sovereign state and transnational governance agencies need to ensure that the finance industry system is restabilized as a failure to maintain the functionality of the finance industry has social consequences and costs in excess of the money committed to recapitalize financial institutions in distress. Expressed more to the point, in Pistor’s (2013: 328) formulation, “When staring into the abyss of a financial collapse, politicians like bureaucrats may opt for rescue rather than self-destruction.” For the moderate commentator, this legal-contractual constitution of the finance industry is a form of government charter, wherein privately owned firms act with the sovereign state as the lender-of-last-resort. While this model has many benefits in terms of capital formation and the supply of credit, it nevertheless opens up for externalities, which include moral hazards derived from the finance industry actors’ ability to privatize profits in, for example, the upward turn of the economic cycle, while being able, historical evidence indicates, to pass on losses to tax payers in

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the case of failure, mostly in the downward slope of the economic cycle. In addition, these insurances from the sovereign state lead to the underpricing of downside risk, which is reflected in the economic compensation and reward packages of finance market actors. The biased economic compensation model potentially attracts and selects risk-tolerant or riskseeking individuals, which accentuates the risk appetite in the industry. Under all conditions, Pistor’s (213) legal theory of finance opens up for a view of the finance industry that both explains the importance of and justifies resolution systems (discussed shortly). Pistor’s (2013) model also explains the hierarchical structure of the finance industry, which separates participants into prioritized to low-prioritized actors whenever a resolution system is put to work, notably regardless of the culpability of the actors on the different levels. Pistor (2013: 319) argues that “first order funders and their immediate counterparties,” being at “the apex of the system,” are the primary benefactors of resolution systems. The further down the system you move, the less the attention is from the federal agencies that manage the resolution system activities and consequently target system-relevant actors, for example, major investment banks. For instance, Pistor (2013: 319) says, during the 2008 finance industry collapse, “intermediaries lending to firms or consumers were last in order [to receive economic support], signifying their peripheral status.” This gradual decline of legal and economic support is clearly a violation of the proposition regarding equality before the law, stipulated in many modern democracies as a vaccination against the social costs of nepotism and inherited privileges, Pistor argues. In this context, Pistor refers to the “elasticity of law” during such episodes of finance market restabilization activities: A legal system committed to the rule of law is meant to apply law irrespective of status or identity. Contracts are designed to create credible commitments that are enforceable as written. Yet, closer inspection of contractual relations, laws and regulations in finance suggests that law is not quite as evenly designed or applied throughout the system. Instead, it is elastic. The elasticity of law can be defined as the probability that ex ante legal commitments will be relaxed or suspended in the future; the higher that probability the more elastic the law. In general, law tends to be relatively elastic at the system’s apex, but inelastic on its periphery. (Pistor, 2013: 320) As a consequence, actors at the apex of the system, which is also the place where opportunistic behavior is most likely to impair the stability of the system as systemic risk aggregates there, are de facto the agents who exercise “discretionary powers in times of crisis over whether to intervene and whom to rescue” (Pistor, 2013: 321). The temporal relaxation or

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even suspension of “ex ante legal commitments” is more likely to benefit actors at the top of the finance industry than actors on the periphery, a policy that triggers animated discussions about the accountability of finance industry actors and institutions; these discussions also address the issue why, for example, moral hazards and free-riding are tolerated by the sovereign state and its democratically elected entities. Such a critique of the ex post resolution system—commonly named bail outs—are understandable, but they turn a blind eye to the even greater costs of not tolerating moral hazards and free-riding when the event unfolds–namely, the collapse of a substantial proportion of the global finance industry. This situation would impose substantially higher economic costs on all social actors. The embedded autonomy of finance industry institutions is of a unique kind as it is de facto protected against bankruptcy, which is otherwise the legal mechanism that puts pressure on inefficient or failing companies to terminate their business activities (Rosas, 2006). Seemingly paradoxical, in the finance industry, ex post resolution systems sideline this legal mechanism to secure the stability of the finance industry on the basis of other alternatives, for example, capital infusions or modifications of the legal or regulatory framework. Rather than to enforce the bankruptcy code as an ex post regulation model, weaker and arguably more ineffective mechanisms such as social norms, or shaming, have been used to support prudent behavior in the finance industry, a strategy being disputed and subject to prolonged debates (Grossman and Woll, 2014; Block, 2010; Sjostrom, 2009).

The Mechanisms of Credit Supply in the Economy: Disentangling the State and the Finance Industry To better understand how Pistor’s (2013) legal theory of finance connects to the real world economy, the mechanisms through which the sovereign state and the finance industry are entangled need to be examined in some detail. Hockett and Omarova (2016) call for a scholarship that moves beyond the simplistic and idealized view of the finance industry as a form of intermediary function in the economic system of competitive capitalism. In this conventional view, the finance industry handles scarce finance capital so that it is allocated with the highest degree of efficiency and precision—for example, capital is reallocated from lowgrowth and mature industries to high-growth ventures in emerging businesses, which results in economic growth. Hockett and Omarova (2016: 146–147) say that finance institutions and markets do in fact intermediate, but that is not their primary function, nor is capital scarce as it is the assigned role of the finance institutions (and more specifically banks) to create credit de novo on the basis of informed decisions. Yet, the outcome from this legal framework and governance model is what

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Hockett and Omarova characterize as “chronic credit oversupply.” In Hockett and Omarova’s (2016) account, the modern financial system is based on a “public-private partnership,” a form of franchise arrangement wherein the sovereign state licenses private finance institutions to issue and to monitor the stock of credit in the economy. When operating in this franchisee role, financial institutions benefit from the sovereign state’s faith and credit, which de facto means that the sovereign state acts as a lender-of-last-resort to insure and protect credit-generating finance institutions from failing. In this model, the sovereign state is the principal, and therefore “[i]t is the sovereign public that ultimately generates and underwrites capital flows in a modern financial system” (Hockett and Omarova, 2016: 1149). As this role as credit-issuer is vital for the economic system, the finance industry is closely regulated and monitored by a variety of agencies and institutions: “No other competitive industry is subject to remotely comparable regulatory constraints and oversight,” Ricks (2011: 78) argues. At the same time, to function properly in the role to generate credit for the benefit of the larger economic system (a process that economists refer to as credit formation) that can now access a considerable stock of finance capital at limited cost, the sovereign state needs to provide socalled safe assets (say treasury bonds) that can serve to further propel the issuance of private financial contracts, which includes a variety of more or less complex financial assets, for example, securities, futures, and repos. To issue these safe assets on the national and global finance markets, the sovereign state per automata raises national debt: “Large sovereign debt markets are effectively prerequisites to the emergence and sustenance of large private debt and equity markets,” Hockett and Omarova, (2016: 1168) say. That is, national debt is not strictly a liability in a specific economy, but is also the mechanism through which the sovereign state supports the creation of private debt—that is, the supply of finance capital in the economy. The sovereign state and the private finance industry are thus entangled through both the insurances given to finance institutions and the issuance of safe assets that provide a form of infrastructural framework from which the private equity market expands. Hockett and Omarova (2016) underline that national debt is today a sine qua non for an abundant supply of finance capital in the economy: When the size of the U.S. national debt shows signs of shrinking—as it did in the late 1990s, for example—Treasuries’ reliability as benchmarks declines. The result is that securities markets become much more volatile and market-watchers worry about the prospect of there being too little U.S. federal debt. Somewhat ironically against the backdrop of popular “austerity” rhetoric, the Fed and White House economic teams have been especially alarmed by this prospect. (Hockett and Omarova, 2016: 1172. Emphasis in the original)

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Expressed differently, to claim that finance institutions primarily intermediate between profit-generating corporations and finance capitalraising ventures (e.g., entrepreneurial firms) to more effectively distribute scarce resources (i.e., finance capital) ignores the credit-creation mechanisms assisted by the sovereign state. This in turn implies that national debt is another concept for the production of safe assets that serve to stabilize the finance industry credit-creation process. Ultimately, the finance industry, purportedly being a market-based economic activity, is founded on the full support and assistance of the sovereign state in a public–private partnership, designed to secure the supply of finance capital at low cost. The Role of Collateral in the Credit-Formation Process To better explain the key role of safe assets in the finance industry, a more detailed level of analysis, which includes the housing and home mortgage loans market, needs to be presented. Min (2018) reports that in the United States, home mortgage debt makes up the vast majority (ranging from 66 percent to 76 percent) of total household debt (for a historical overview of the American housing market, see Glaeser, 2013). For individual households, home ownership is both a primary asset and a property that signals the individual family’s status as a credit-worthy economic agent within the domestic economic system. In addition, housing has immediate social benefits as the real estate is used in day-to-day life throughout the contract period and beyond, and offers households the possibility to share the fruits of the functional economic system wherein they participate. These benefits translate into a solidarity with the current economic system, hopefully also during periods of turbulence. As Min (2018: 921) remarks, housing is “extremely costly to purchase and develop, and has a very long depreciation period.” These qualities make housing the perfect collateral within the finance industry’s capital formation process. In the United States, two so-called Government-Sponsored Enterprises (GSEs), Fannie Mae and Freddie Mac (being anthropomorphic names constructed on the basis of the acronyms that denote the formal names of the GSEs), have been assigned the role by the U.S. Congress to finance the bulk of American home mortgage loans (Min, 2018: 901). By March 2016, these two GSEs accounted for roughly US$138.3 billion in “outstanding overnight collateral,” which represented roughly 60 percent of all safe assets in the American finance market. In more detailed terms, Fannie Mae and Freddie Mac issue three types of liabilities (referred to as “agency obligations”) to fund their activities: (1) corporate debt (known as “agency debt”), (2) “pass-through mortgage-backed securities” (known as “agency MBS”), and (3) collateralized mortgage obligations (known as “agency CMOs”) (Min, 2018: 912). The magnitude of this issuance of safe assets needs to be recognized: by March 2016, there

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were, for instance, “over $8 trillion in Agency obligations currently outstanding” (Min, 2018: 922). The GSEs function to both offer the service to provide home mortgage loans to the American public, members of which are increasingly relying on their homes as storage places for wealth, but also to create a stock of safe assets from which the finance industry can expand its credit supply. To better explain the key role in government-backed safe assets in the finance industry, the concept of collateral needs to be examined. The sovereign state can issue credit as most states (at least states within the OECD community) can easily raise capital on the global finance market, or finance the credit supply through the fiscal system. In contrast, for “private issuers,” the creation of assets that function as money is more complicated. While few distrust a sovereign state’s ability to repay debt under normal conditions, the guarantees of private issuers may not be regarded as being sufficiently robust to ensure the necessary liquidity of the asset. A private issuer, say, a finance institute, may default, or there may be new legislation or regulatory rules that render the issuer insolvent. Economists refer to this predicament in terms of the credit issued as being “informationally sensitive”—that is, new information released may seriously impair the liquidity of the assets, which reduces the asset’s capacity to serve as money—that is, currency. The role of collateral is precisely to eliminate this exposure to informational sensitivity, which allows finance market actors to rely on these assets as money without having to worry about new information. For example, a pawn shop owner who received good collateral for a loan (say, a pricey Swiss-made watch, reasonably expected to have stable market value over time) does not have to worry about the borrower’s credit history or ability to repay the loan as the collateral itself serves as “an enforcement and collection mechanism in the event of default” (Min, 2018: 910). Expressed differently, the role of collateral is to ameliorate the problem of informational asymmetry in financial intermediation (as in the case of the pawn shop owner who turns physical assets into credit, and vice versa to complete the business transaction). Collateral is thus a form of anchoring assets from which more complicated finance instruments and contracts can be constructed and issued on the market. As the housing market has many benefits in its role as a provider of collateral, not the least functional housing being a legitimate political issue, the home mortgage market is closely entangled with the finance industry, premised on the finance industry’s demand for safe assets. The American public traditionally holds home ownership in esteem, and the GSEs of Fannie Mae and Freddie Mac provide home mortgage loans to supply credit to satisfy the demand. To finance this politically sanctioned activity, the GSEs issue the three types of safe assets listed above (ultimately backed by federal institutions), which in turn benefit from the expansion of credit in the economy. Min (2018: 901–902) emphasizes

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that the supply of safe assets is a prerequisite for the creation of so-called shadow money, credit created within the shadow bank system, financial transactions that operate outside the system of bank regulation—that is, outside of the protection of the sovereign state. “Safe assets, which are thought to carry de minimis credit risk, are strongly preferred as collateral in shadow money transactions,” Min (2018: 902) argues. Shadow Banking and Capital Formation Ricks (2011: 97) uses the term “money-claims” to denote a variety of nongovernment money market instruments, including commercial papers, asset-backed commercial papers (ABCP), repos, money market fund “shares,” and so on, issued within the shadow banking system. These assets are not backed by the sovereign state but can de facto operate as money-claims as they are related to the safe assets. Sunderam’s (2014: 940) study of high-frequency trading demonstrates that there is evidence of “tight interlinkages between the markets for Treasury bills, central bank reserves, and short-term shadow bank debt.” That is, finance traders act as if private-backed money, or “money-claims,” investments are just as safe as government-backed assets (e.g., Treasury bills). This industry-wide trust in shadow money increases the stock of credit in the economy, and thus supplies capital at a low cost to, for example, business promoters, but it also generates new governance challenges. As Sunderam (2014: 942) remarks, the growth of ABCP is “representative of a broader shift in financial intermediation from traditional commercial banks to securities markets.” This will make it more complicated for the Federal Reserve, the Securities and Exchange Commission, the Financial Stability Oversight Council (FSOC), and other regulatory agencies to monitor the finance industry, which potentially increases the volatility of the economic system (for an overview of finance industry regulation, see Allen, 2018). As shadow banking (which, it is important to note, is by no means an illegal activity or not monitored by regulators; today it is part of the day-to-day finance industry operations) is significant in size, at times even claimed to be larger than the core banking business (Min, 2018: 904), both core banking and shadow banking are dependent on safe assets to sustain their credit-formation activities. These mutual dependencies between the sovereign state (which demands a generous supply of finance capital to support various activities) and the finance industry (which relies on the sovereign state as an issuer of safe assets) creates a concern for political actors, regulators, and others who are worried about the close-knit relationships across what Hockett and Omarova (2016) referred to as a franchise arrangement in credit formation. As Min (2018: 901–902) remarks, “[A]ny reduction in safe assets would in turn have important consequences for global money markets today.”

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This makes it difficult to disentangle public and private interests—that is, political and legal reforms that would reduce codependencies are complicated to implement. Some commentators have proposed that the current system, structured around government guarantees and the housing finance organized by GSEs, is untenable, and suggest that a higher degree of privately backed housing liabilities need to serve as safe assets in the future. Unfortunately, only the sovereign state can serve the role to guarantee the liquidity of safe assets, so a private issuer-based model will raise the cost of finance capital and/or create finance industry instabilities whose consequences are carried by all constituencies. “[A] reduction in government-backed safe assets will create contractionary pressures on the shadow money supply, which has become an important part of the overall money supply today,” Min (2018: 902) argues. As a consequence, the shortage of shadow money will have detrimental effects on finance industry stability and possibly on macroeconomic growth, two undesirable outcomes in the eyes of political actors and the wider community. Given these codependencies, the sovereign state is likely to maintain the franchise relationship with the finance industry, and continue to provide full protection against default as the supply of finance capital overrules thorny questions regarding moral hazards and state-sponsored subsidies to private businesses. Financialization and Its Consequences A scholarly critique of the current finance industry governance model addresses the question whether the finance industry de facto provides stipulated benefits for the real economy within the franchise relationship. From a macroeconomic perspective, the finance industry should assist the production of goods and services, which in turn generates jobs and taxable incomes (which finance the sovereign state’s activities), through the supply of sufficient credit, and preferably credit at a low cost so that a larger share of aspiring entrepreneurs and business promoters are motivated to start or expand their businesses. In addition, the primary argument underlying the franchise model, wherein credit formation and its monitoring is delegated to private industry, is that private businesses are stipulated to have a superior ability to collect and process market information. Private finance institutions are thus expected to issue credit more efficiently than any other agent, including the sovereign state and its defined agencies. Hockett and Omarova (2016: 1213–1214) question whether the credit issued does in fact benefit the real economy, and introduce the concept of “financialization” to denote the dysfunctional situation wherein “a disproportionate share of the flow of the monetized full faith and credit of the sovereign” is reabsorbed by the financial system itself rather than transferred to the real (i.e., nonfinancial) economy. That is, this is a situation wherein private financial institutions that operate as

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franchisees “misallocate credit by diverting it to uses other than investment in productive enterprise” (Hockett and Omarova, 2016: 1214). If the sovereign state provides the full support, including the supply of safe assets and various resolution systems to prevent private businesses from failing regardless of their own culpability, then credit cannot be issued to primarily (but not exclusively) benefit further finance industry expansion. In such situations, the franchise relationship is unbalanced as the one part is subsidized to increase the capital extraction from the public– private partnership. Hockett and Omarova (2016) stress how this “logic of financialization” needs to be recognized by political entities and regulatory agencies: The logic of financialization reflects the basic fact that these financial institutions find it more profitable to channel credit toward markets in financial instruments, in which they have significant informational and institutional advantages, than toward real-economy projects with long-term payoffs that depend on a variety of macroeconomic factors these financial institutions cannot control. (Hockett and Omarova, 2016: 1215) In summary, as suggested by Pistor’s (2013) legal theory of finance, the finance industry is not just any business, as certain finance industry actors (e.g., banks) are granted the authority to issue credit within the economic system. In serving this role, the sovereign state not only backs credit-generating institutions but also issues safe assets (historically primarily based on home mortgage lending, but also other public debt created by the state, including, e.g., student loans, can serve this role) that provide the infrastructural assets that enable the issuance of less liquid and riskier private-backed assets within, for example, the shadow banking system. In the upward movement of the economic cycle, or during periods of finance market stability, this franchise relationship serves its function, to supply credit within the economy, but during episodes of turbulence, in many cases the result of underpricing risk among distributed finance industry actors (as in the case of the financial crisis of 2008, caused in part by the deterioration of the quality of credit ratings, which was caused by the poor integrity of credit raters and an overoptimistic view of the American housing market), the codependencies are put to the test of loyalty. In many cases, at the trough of the business cycle, policy-makers and regulators are set to handle situations wherein moral hazards are endemic. Consequently, taxpayers have to finance rescue activities that for the most part benefit generously compensated finance industry traders as the questions of systemic risks and culpability are overshadowed by the larger concern, an imminent full-scale collapse of the economic system, no longer able to maintain the necessary mutual trust between suppliers of credit.

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During such episodes of turbulence, private finance institutions in distress are recapitalized through the bailout mechanism (discussed shortly) to restore faith in the finance industry. In most cases, this is followed by prolonged discussions regarding the resilience of the finance industry system and its economic, moral, and ethical justifications. For thick-skinned finance industry executives, such a post-resolution repentance is small price to pay as they recognize their larger role in the real economy as the supplier of credit under the aegis of the sovereign state. A few heads may have to roll to uphold political legitimacy and stability during the post-resolution period, but after that, it may be learned from history, the economic cycle once again returns to its initial optimism (Münnich, 2016; Cole and White, 2012; Gerding, 2005).

The Political Economy of Ex Post Resolution Systems: The Bailout Mechanism Rosas (2006: 176), a political scientist, defines “bank rescue” or “bank bailout” as “any government-sponsored delay in the exit of insolvent banks that is explicitly or implicitly funded by public resources.” Block (2010: 156) defines a bailout as “[a] form of government assistance or intervention specifically designed or intended to assist enterprises facing financial distress and to prevent enterprise failure.” A bailout is thus simply the process wherein the sovereign state or some other lender-of-last resort (i.e., the IMF or World Bank) makes a legal concession with the explicit objective of relaxing the burden on distressed finance institutions. It should be noted, however, as Block (2010) does, that the term “bailout” is not reserved for the rescuing of banks only: companies and institutions within any industry can become subject to ex post resolution activities whenever their inability to functionally operate would impose overbearing social costs. The alternative to the bailout is to follow what Rosas refers to as the “Bagehot rule” (after the British journalist William Bagehot, 1826–1877), which mandates the exit of insolvent institutions through, for example, bankruptcy codes and juridical procedures to terminate a business charter. The Bagehot rule is the primary choice for governments and regulators that want to uphold market mechanisms and to reduce the manifest and latent costs of moral hazards (Rosas, 2006: 176). The Bagehot rule offers the benefits of avoiding the “socialization of bank losses” and “eventually strengthens the financial system by eliminating weak banks” (Rosas, 2006: 176). Under certain conditions, a strict application of the Bagehot rule is politically unattractive as it generates additional social costs that are too large, regardless of the benefits of the resolution model. Block (2010) lists a few of the benefits of the bailout concept: [B]ailouts generally are immediate, emergency efforts to prevent imminent collapse, or backward-looking attempts to rescue private

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entities from economic damage that has already occurred. Stimulus, on the other hand, tends to be forward looking, designed to spark economic growth or redevelopment. (Block, 2010: 160) As “bankruptcy” is a legal term that is defined on the basis of accounting rules and best practices, firms can continue their activities after their declared insolvency if they are granted the legal right to do so. As a consequence, a bailout is any deviation from the current bankruptcy code to accomplish economic benefits for the focal firm or industry, despite evidence of violations of, for example, regulatory rules. Bailouts do not therefore of necessity include the transfer of finance capital to specific firms, but could also include more formal legal concessions “on paper” (Rosas, 2006: 176). In both cases, legislation or regulatory rules are temporarily relaxed or suspended. What Gerding (2005: 423) calls the “regulatory cycle,” wherein initial hyperbolic expectations regarding “endless growth,” “new economies,” or “inflation-free economic growth” among expert groups and commentators are succeeded by economic and financial decline at the trough of the economic cycle, there is always the predictable “never again” declaration in political quarters and among commentators. The circularity of episodes of liberal reforms and stricter regulation makes bailouts a recurrent political issue. For many commentators, such calls for either increased self-regulation, or, alternatively, more centralized monitoring of, for example, the finance industry are unrealistic as it can be learned from the historical record that while bailouts are costly and signal a tolerance for moral hazards and free-riding, they remain a politically and economically palatable solution to governance problems. “[P]olitical ‘no more bailout’ assertions—even those ultimately included in statutory text—simply are not credible as precommitment devices,” Block (2010: 154) argues. As a factual matter, Levitin (2011) adds, it is virtually impossible to create “a standardized resolution system” that will be “rigidly adhered to in a crisis.” Instead, when policy-makers stare into the abyss (in Pistor’s, 2013, Nietzschen formulation), politicians and other defined agents will inevitably chose the ex post resolution model with socially acceptable consequences as there is no other choice to make. That is, when policymakers make decisions in the shadow of a grim future, more prudent norms regarding the culpability of certain centrally located agents and norms regarding, for example, moral hazards and free-riding are priced differently and at a considerably lower rate than they would be if other options were available. As a matter of Realpolitik, Levitin (2011: 439) argues, “any prefixed resolution regime will be abandoned whenever it cannot provide an acceptable distributional outcome. In such cases, bailouts are inevitable.” For both Block (2010) and Levitin (2011), in the present highly differentiated and globalized finance industry system, bailouts are “inevitable fact of modern economic life” (Levitin, 2011: 443).

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At the same time, Levitin (2011) continues, bailouts can still be more or less competently administrated to minimize the taxpayers costs and to carefully manage the process so that they remain politically legitimate in the eyes of various constituencies. Furthermore, Levitin (201: 4811) continues, “each bailout is a system unto itself,” which makes it complicated for policy-makers and regulatory agencies to formulate universally applicable standard operation procedures on the basis of one bailout activity, and to transfer these rules to the next resolution activity. Couched within Pistor’s (2013) legal theory of finance, the bailout resolution system becomes intelligible: the bailout models offer the opportunity to restore the finance industry system and to uphold its central credit-creating function in the contemporary capitalist economic system. The negative externalities are that finance industry actors can rely on the sovereign state in the case of failure; this creates a situation where financial industry actors may be inclined to underprice economic risks and bias risk management practices in ways that benefit risk-tolerant or risk-seeking actors. Whether such insurances of private businesses are tolerable needs to be debated in political entities, and policy-makers may justify stricter ex ante regulatory rules regarding, for example, risk exposure and similar measures that may serve to reduce future ex post resolution costs. Under all conditions, the legal theory of finance and the bailout literature indicate that the finance industry cannot assume any independent role or position vis-à-vis the state. Instead, as Pistor (2013: 322) says, “[f]inancial systems are not state or market, private or public, but always and necessarily both” (Pistor, 2013: 322). As a corollary, the term “deregulation” is a misnomer as that very term presupposes managerial autonomy and discretion that are theoretically undone: There is therefore no such thing as “unregulated” financial markets, and deregulation is a misnomer. . . . It signifies not the absence of regulation, but the implicit delegation of rule making to different, typically non-state actors, with the understanding that in all other respects they enjoy the full protection of the law. (Pistor, 2013: 321) The finance industry is thus a foremost case of an industry based on embedded autonomy, wherein industry actors assume a considerable autonomy vis-à-vis the sovereign state, yet can rely on ex post resolution systems in the event of imminent failure. Industry and regulatory agencies are of necessity bonded by joint interests.

In What Ways Does Governance Fail, Leading to Ex Post Resolution Activities? The legal theory of finance that Pistor (2013) advocates represents an embedded autonomy model of the corporation, and more specifically, the

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finance industry institution. Pistor shows that the lines of demarcation between state and market, regulator and regulatee, and ex ante and ex post are blurred in the finance industry as credit relationships are ultimately legal contracts, defined by legislation, and sanctioned and backed by the sovereign state and its defined agents. The legal theory of finance does not provide sufficient explanations for why this aggregate of state agencies and privately owned, sometimes listed, companies fail in the first instant. By drawing on a handful of studies in economic sociology, it will be indicated that regulatory failure and market meltdowns are in many cases derived from behavioral conditions including cognitive lock-ins among key actors—in many cases highly qualified and respected actors who should, practically and morally speaking, “know better.” In the economic sociology literature, and also in the economics corpus, there is a great deal of writing that addresses various “biases” that affect decision-making processes. Scholarly terms such as “group think,” “cognitive dissonance,” “pluralistic ignorance,” and so forth are all indicative of the fact that even highly qualified agents who access state-of-the-art data and information are at times biased in how they assess the data and information and how they make inferences from factual conditions. As, for example, Allison (1971) demonstrated in his detailed analysis of the Cuban missile incidence during the Kennedy presidency, highly experienced and qualified groups may be unable to fully appreciate the complexity of the situation at hand, or tend to structure their decisionmaking along predefined scripts with stipulated outcomes. Fligstein, Brundage, and Schultz (2017: 882) examine how the Federal Open Market Committee (FOMC), the Federal Reserve’s “primary policymaking body,” which includes some of the American society’s most renowned and experienced economists and economic advisors, failed to fully anticipate the 2008 finance industry collapse on the basis of overoptimistic interpretations of “discordant information.” For instance, Fligstein, Brundage, and Schultz (2017: 880) use the concept of cognitive and theoretical “frames,” defined as “[a]ny primary frame operates as a filter through which a group understands its world,” to explain this failure. All of the committee members and the speakers invited to provide testimonies in front of the committee had a background in macroeconomics, the field of economic theory that has arguably been the most influential theoretical framework in informing policy-making in the United States during the last few decades (see, e.g., Chari and Kehoe, 2006). Before reporting findings from Fligstein, Brundage, and Schultz’s (2017) study, some of the macroeconomic doctrines that guided economic policy prior to 2008 need to be examined in detail. Macroeconomic Doctrines and Their Limitations Borio (2011: 88) argues that by construction, the macroeconomic models used by policy-makers’ economic advisors prior to 2008 “could not

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incorporate financial instability” (see also, Allen, Vayanos, and Vives, 2014; Awrey, 2013). The predominant economic doctrine was that while individual institutions may fail, the financial system as a whole remains resilient as low inflation (i.e., “price stability”) enables accurate assessments of risk levels within the industry. This “microprudential approach” treated systemic risk as exogenous with respect to the behavior of each individual institution and of all institutions taken as a group, and therefore the monitoring of asset prices and other macroeconomic fundamentals were, theoretically speaking, enacted as precursors of “the collective behavior of financial firms.” (Borio, 2011: 89). This analytical model was translated into the practice to identify and monitor outliers within the economy, but unfortunately this approach could not assess “whether the average institution in the system, and hence the system as a whole, is taking on too much risk” (Borio, 2011: 89. Footnote 1). Even though a contagion was recognized within the macroeconomic framework, regulators’ view of systemic risks tended to “underplay the role of common exposures across financial intermediaries” (Borio, 2011: 90). That is, the analytical framework recognized “the failure of individual institutions for idiosyncratic reasons,” but underestimated systemic risks (Borio, 2011: 90).2 As this analytical framework was both well entrenched in the academic literature and assisted by empirical data, the accuracy of the macroeconomic doctrine and its role in policy-making were never questioned by insiders. Regarding empirical data, in the decade preceding the finance industry crisis, there had been “a secular downward shift in macroeconomic volatility,” which was referred to as the “great moderation” by economic advisors and academic researchers (Acharya and Viswanathanm, 2011: 103–104). According to authoritative macroeconomic theory, improvements in risk-sharing within and across economies were the explanation for this lower rate of volatility. The consequences were that the microprudential approach became increasingly entrenched in regulatory frameworks, which resulted in a monetary policy that distanced itself from “banking and financial stability concerns” (Borio, 2011: 91). The singular focus on interests rates (derived from inflation rates), widely treated as “sufficient statistics for the stance of policy” (Borio, 2011: 91), which in turn (as inflation and interest rates were stable in the period) made it “increasingly hard [for economic advisors and regulators] to find room for banks other than as invisible cogs in the smooth transmission of interest rate impulses” (Borio, 2011: 91). The macroeconomic doctrine and its microprudential approach blindsided economic advisors and policy-makers as they took macroeconomically sound measures as robust evidence of a smoothly functioning financial system. This doctrine optimistically predicted that if central banks and other regulatory agencies succeeded in stabilizing inflation and avoiding exogenous shocks such as the introduction of new fiscal policy, “the economy would take care of itself” (Borio, 2011: 91).3 Price

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theory, being at the center of the neoclassical economic theory synthesis, was therefore leveraged to serve as the one unifying theory that could successfully coordinate macroeconomic policy and monetary policy, and, by implication, the finance industry. In this view, macroeconomic theory honored its name, being considered an integrated theoretical system that could regulate the entire economic system and its mind-boggling complexity from the top down on the basis of a handful of universally valid economic fundamental measures. Macroeconomic theory, being at the very heart of economic policy, ignored some of the core literature in economics, including studies on “procyclicality” in particular, wherein “a voluminous literature” documented how measures of risk commonly used by financial institutions “moved heavily procyclically,” falling during booms and rising only during busts, and resulting in risks building up in the financial system in its expansion phase (say, in the 2002–2006 period) (Borio, 2011: 97). In addition, the literature on incentives indicated that inadequately designed incentive systems encourage individually rational actors to make decisions that on the aggregated level may result in undesirable outcomes, including, for example, soaring systemic risk (Borio, 2011: 97). As the macroeconomic framework being entrenched in the community of economic advisors and policy-makers rendered such finance industry conditions a marginal concern as the finance industry was understood to be comparably small vis-à-vis the aggregated economy, this line of research and accompanying empirical evidence never acquired the attention it arguably deserved. Therefore, Borio (2011: 100) summarizes, “The widespread failure to anticipate the recent financial crisis did not reflect mainly inadequate data, but the inadequate lens through which available data were interpreted.” Policy-Making at the FOMC The FOMC participants, who enacted a macroeconomic theory framework to conduct their assigned work, “[b]elieved that the large and complex U.S. economy could be successfully understood in terms of a small number of aggregate-level indicators, like the inflation rate, the unemployment rate, productivity, and growth in GDP” (Fligstein, Brundage, and Schultz, 2017: 880). As such disjointed economic fundamentals indicated that the economy was healthy and resilient, the FOMC participants turned a blind eye to the tendencies towards increased risk-levels in the finance industry, an industry that leading authorities declared ex cathedra to be self-regulating and resilient on the basis of its widespread use of derivative instruments, which resulted in the distribution of risk over a large number of geographically dispersed actors, in turn operating within different jurisdictions. Soaring housing prices resulted in more lax lending standards when the so-called subprime mortgage market quickly

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expanded in the 2002–2006 period, but this event was treated as a marginal deviation from prescribed models. Instead, rising housing prices were explained not so much on the basis of finance industry innovations as they were understood as a general shift towards a more risk-tolerant attitude among the American public, in turn justified by the very same reforms that the Federal Reserve and legislative bodies had themselves implemented. Fligstein, Brundage, and Schultz (2017: 880) argue that the FOMC failed to see the depth of the problems in the housing and financial sectors as its participants trusted their macroeconomic framework as a valid model for integrating and making sense of diverse economic data. This faith in the macroeconomic framework was also justified by institutional conditions as macroeconomic theory and modeling had “[a]chieved high consensus among academics and central bankers alike by the early 2000s” (Fligstein, Brundage, and Schultz, 2017: 880). For an outside observer, the strength of this framework and its ability to bury discordant information are overwhelming: already by 2003, four years before the first clear signals of the finance industry being in a dire state, the finance industry produced US$4 trillion in mortgages at the same time as it accounted for “nearly 40 percent of the profits in the entire economy by 2003” (Fligstein, Brundage, and Schultz, 2017: 881). Such data indicated an unprecedented expansion of the finance industry and an emerging “rentier capitalism” that merited some more detailed analysis. Yet, the FOMC participants decided to rest on their macroeconomic laurels and initiated no actions. Fligstein, Brundage, and Schultz (2017: 884) provide data that substantiate the claim that the macroeconomic framework defined the issues in the economy that were attended to, not the least evidence that indicates the relative underrepresentation of participants with either a training in finance theory or work experience from the finance industry: 22 out of 36 (61 percent) of those with permanent or rotating votes on the FOMC had received an economics PhD with an emphasis in macroeconomics. Similarly, 73 out of 110 total speakers (61 percent), which include staff and others, were macroeconomists. . . . By contrast, only five governors and Reserve Bank presidents (14 percent) had prior experience working in the financial sector, and only 14 out of 110 total speakers (13 percent) had such a background. (Fligstein, Brundage, and Schultz, 2017: 884) Such data reveals that what Fligstein, Brundage, and Schultz (2017: 884) refer to as “the housing—finance nexus” was marginal in the discussions. In the board meetings where housing prices were discussed, only 7 out of 15 speakers expressed the concern that housing prices may be inflated, whereof 4 saw “low economic risk.” None of the remaining 3 speakers,

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who admitted there could be some risks involved, felt that this condition justified any initiatives or interventions from the Federal Reserve (Fligstein, Brundage, and Schultz, 2017: 887). Instead, participants such as New York Fed Vice President Richard Peach, who delivered a speech before the committee in 2005, addressed reporting in the press about inflated housing prices as being “anecdote-laden” and dismissed the claims made on the basis of such reported data that a housing bubble burst may have “disastrous consequences for the economy.” As this is precisely what happened less than three years later, Peach’s expert testimony was not to his reputational favor. Only a small minority of the participants with a finance industry background were more inclined to make use of their expertise, and were thus capable of complementing the conventional wisdom of macroeconomic theory, which treats the economy as what is reducible to a series of individual but interrelated components and their derived measures. By and large, the discussions in the FOMC in the period demonstrate a strong tendency toward “positive asymmetry,” which prompted an optimistic response to incoming data, which in turn justified the rational apathy that characterized the Federal Reserve’s response to aggregated systemic risk in the finance industry in the 2003–2007 period. It is noteworthy that even when the 2008 finance industry crisis erupted, the FOMC participants still maintained its macroeconomic framework; they were confident in its accuracy and robustness when they prescribed policies for regulators and political bodies. By the winter of 2007–2008, the FOMC had finally started to recognize the connection between the real economy and the financial system, but when the crisis unfolded during the spring of 2008, the “FOMC abruptly shifted focus, expressing concern that recent spikes in food and oil prices would increase inflation” as the “macroeconomics-trained FOMC members were thus inclined to pay more attention to commodity prices than to the financial system, because they viewed the former as more directly linked to overall economic growth” (Fligstein, Brundage, and Schultz, 2017: 901). Even at the height of the most severe crisis in the history of modern competitive capitalism, resounding throughout the global capitalist system and lingering on for at least a decade, the Federal Reserve’s expert advisors showed a limited ability to adjust their analytical framework to better understand the issues at hand. Fligstein, Brundage, and Schultz’s empirical material (2017), archival data from the FOMC meetings in the period, demonstrates that regulatory failure is not necessarily the consequence of opportunistic behavior, regulatory capture, or more simply incompetence. Instead, the overconfidence in inherited and collective resources such as macroeconomic theory may blindfold actors and make them underrate seemingly marginal phenomenon or tendencies in their field of expertise. The FOMC participants include some of the most celebrated and renowned economists in

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the United States, and yet the selection of a congruent group of experts failed to counteract the magnitude of the 2008 finance industry collapse.4

Industry Actors’ Ability to Anticipate and Price Risks The principle of self-regulation is based on the assumption that no centrally located agency is capable of collecting and processing market information more efficiently than the market actors themselves, as they have “skin in the game” and thus are incentivized to, say, maximize the economic return on equity at a stipulated level of risk (or the other way around, minimize risk at a certain performance preference level). As indicated in the previous section, not even the most highly acclaimed experts are infallible as they operate on, and perceive the world through, specific frameworks that in turn may underrate or marginalize certain empirical data, whereas other data is subject to overoptimistic interpretations in accordance with prescribed theoretical models. The regulation of the finance industry from the early 1980s and into the new millennium was essentially based on self-regulation and the idea that credit rating agencies would serve as the “regulator-of-choice” as they independently rate the quality (i.e., risk) of all issuances in the finance market. An extensive amount of literature demonstrates that credit rating agencies failed in this role, as overtly positive ratings were circulating widely (Alp, 2013; White, 2013; Bolton et al., 2012; Hunt, 2009; Rom, 2009). In addition, in many cases, as in the securities trade, and, more specifically, the trade of socalled Asset-Backed Commercial Papers (ABCP), rule evasion became a standard for many actors (Thiemann and Lepoutre, 2017): Whereas the economic reason for banks to set up a multiseller conduit was essentially to offer their clients access to money markets and to earn a fee for this service, the economic advantages in the securities arbitrage segment of the market were completely driven by rule evasion: a reduction in core capital requirements for the banks sponsoring these conduits. (Thiemann and Lepoutre, 2017: 1784) This rule evasion was made possible as different regulatory bodies were involved in the securities regulation activities, all designed and managed to serve different ends. As a consequence, Thiemann and Lepoutre (2017: 1795) argue, “ambiguity in transnational rules and the transient nature of these regulations created a space for national regulators to exercise their discretion and choose how and when to engage regulated banks and intermediate gatekeepers in the rule-making and rule-enforcement process.” In the next instant, this patchwork of regulatory oversight enabled securities traders to expose themselves to unreasonably high levels of market risks. Thiemann and Lepoutre’s (2017: 1814) study indicates that

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securities market regulation is a delicate matter that must include fairly simple but unambiguous rules that are respected by all market actors, or else rule evasion leads to a downward spiral as some market actors are unduly rewarded for their opportunistic behavior. If self-regulation is inefficient in terms of the pricing of market risks of holdings, and transnational regulation easily contains loopholes and thus provides possibilities for rule evasion, it is only the market actors themselves who are capable of monitoring their risk exposure in adequate ways, and thereby able to anticipate downturns in the economic cycle. Goldstein and Fligstein (2017) examine how the securities market, developed as a secondary market within the home mortgage industry, became a primary business activity, with mortgage loans serving as collateral in a lucrative trade of increasingly complex derivative instruments. What Goldstein and Fligstein (2017: 484) call the “mass-production of MBS products” in “vertically integrated pipelines” was thus the outgrowth of a system wherein market actors were de facto no longer monitored by either regulating agencies or credit rating agencies, or transnational governance agencies, but could assume an autonomous role within a quickly expanding segment of the global finance industry. Structural Changes in the Mortgage Lending Industry The shift away from the reliance on a handful of centrally located and prestigious banks (say, Wells Fargo or Bank of America), in many ways dependent on their reputation and thus susceptible to the threat of shaming and other penalties, to a more diverse group of finance institutions had significant implications for the home mortgage lending industry. This fragmentation of the finance industry, which at the same time resulted in an unprecedented concentration of economic power after 2008 (Blinder, 2013), has several implications. The restructuring of the mortgage industry highlighted in Jacobides’ (2005) study is exemplary of the consequences of the lost centrality of banks in the economic system. Jacobides (2005: 475) portrays the mortgage industry as a form of battlefield wherein “cospecialized, marketmediated mortgage-banking cum-securitizers” are challenging the integrated, traditional world of banking. Beginning in the 1970s, the process mortgage banks used to identify customers and issue credit to the banks benefit, including the securitization of those mortgage loans, was “tightly integrated,” and mortgage banks “were keen to originate only the loans they knew they could sell at a profit to securitizers” (Jacobides, 2005: 479). This integrated model ensured that the loan originating bank assessed all the risks generated throughout the entire process, in most cases to the advantage of the borrower, being able to make a business deal with a finance industry actor with a reputation to defend, and therefore likely to act with integrity, foresight, and prudence. In the 1980s and

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1990s, this model was challenged by a new market-based model, wherein the Securities and Exchange Commission, the U.S. federal agency monitoring the finance industry, granted licenses to a series of new actors. An “old-time CEO” accounted for the changes and emphasized the fragmentation of industry into specialized subprocesses: It is no secret that the strategies for loan origination have changed. Any number of companies have turned the corner from retail to wholesale originations or purchased servicing. [A reason for this is that] many of today’s major industry participants did not grow up in the industry. Most are ‘Johnny-come-lately’ entrants. Many CEOs of major mortgage banking firms have never originated, marketed or serviced a loan in their mortgage banking career [and thus do not understand why mortgage banks should be integrated]. (Mortgage bank CEO, cited in Jacobides, 2005: 483) As securitization is typically a fee-based business, wherein mortgage loan originators, underwriters, and intermediaries such as brokers collaborate to securitize illiquid holdings, there was a push towards a disintegration of the industry. Jacobides (2005: 490) argues that this fragmentation of the mortgage industry resulted in a blurred and incomplete industry perception, wherein professional actors could not account in detail for the value chain wherein they participated, partially because they had few incentives to get an image of the “whole of the elephant” as long as they were making sufficient money by, say, petting the trunk of the animal: Most of the interviewees I spoke to could not even describe the structure of the mortgage banking value chain; part of what made my project interesting to them was the fact that they could get this strategic overview. What they did know was that they were constantly changing their own boundaries to increase their margins, be more effective, or gain market share. This quest for profits and operational efficiency often came at the expense of their strategic prospects. (Jacobides, 2005: 490) In the end, this disintegration was “largely driven” by the participants’ desire to take advantage of the gains from specialized production in the securities industry, Jacobides (2005: 485) concludes. Rajan, Seru, and Vig (2015) examine how the securities market undermined the social norm of prudent levels of risk-taking on the basis of a number of interrelated mechanisms. First of all, to repeat, securitization “changes the nature of lending” from “originate and hold” to “originate and distribute,” which in turn creates distance between a home owner and the ultimate investor (Rajan, Seru, and Vig, 2015: 238). The price the investor pays for a security, say, an MBS, is dependent on the verifiable

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information transmitted by the lender, and such information in turn includes both “hard” and “soft” information. “Hard” information, such as a borrower’s FICO (named after the Fair Isaac Corporation) credit score (i.e., the estimated risk of the borrower defaulting within two years’ time; on the use of FICO credit scores, see Rona-Tas and Hiss, 2010; Keys et al., 2009), is easy to verify; conversely, “soft” information, such as the borrower’s “future job prospects,” is costly to verify (Rajan, Seru, and Vig, 2015: 238). As the borrower’s prospects for holding the contract until its contracted termination date—that is, that the borrower will repay the loan—is dependent on a variety of conditions, conveyed by these different classes of information, the securities pricing mechanism creates a moral hazard problem inasmuch as the lender has limited incentives to collect and distribute soft information as soon as the lender accesses the securities market, Rajan, Seru, and Vig (2015: 238) argue. Substandard loans (“subprime loans”) being securitized are easily and at low cost mixed up in a pool of loan contracts wherein the majority is not at risk: In the absence of securitization, a lender internalizes the benefits and costs of acquiring both kinds of information and adequately invests in both tasks. With securitization, hard information is reported to investors; soft information, which is difficult to verify and transmit, remains unreported. Investors, therefore, rely only on hard information to judge the quality of loans. This eliminates the lender’s incentives to produce soft information. (Rajan, Seru, and Vig, 2015: 238) As lenders have weak incentives to transmit soft information in a securitization regime, investors primarily trade on the basis of hard information— that is, information that is incomplete and potentially has lower quality. In addition to providing a mechanism that enables less-than-prudent lenders to operate at low cost and limited risk, securities markets and the loss of soft information create a situation wherein the interest rates become an increasingly poor predictor of the likelihood of default on a loan (Rajan, Seru, and Vig, 2015: 238). Unfortunately, the interest rate is widely understood by regulators, economic advisors, and policy indicators as the primary measure of the health of the economy, an “economic fundamental,” which results in statistical models that process historical data while it underestimates the risk of borrower default. As soft data is lost in the translation process from borrower to lender, and from lender to securities market investors, the interest rate becomes secondary to other measures: “As securitization increases, interest rates depend less on information observed by the lender but unreported to investors” (Rajan, Seru, and Vig, 2015: 238). In fact, Rajan, Seru, and Vig’s (2015: 239) empirical data demonstrates that the “prediction error”

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on “low-documentation loans” (i.e., subprime mortgage loans, loans at risk of defaulting) is “almost twice those on full-documentation loans during the high securitization regime.” Expressed differently, the expansion of securities markets not only provides possibilities for less-than-prudent lenders to operate, and to take advantage of the more detailed (and thus costly) work done by prime mortgage market lenders, securitization also undermines the favored regulatory mechanism, that of the monitoring the interest rate, so that current statistical models underestimate the risk of default in systemic ways, which ultimately leads to excessively risky lending propelled by the securitizes market expansion. Also credit rating agencies, being the watchdogs in the regime of market-based self-regulation, failed to anticipate the consequences of securities market expansion, either because they were unaware of or made the choice to “ignore the adverse effects of securitization on the quality of the loan pool over time” (Rajan, Seru, and Vig, 2015: 239)—two scenarios equally unflattering for credit rating agencies. The consequence was a faulty estimate of default risk among both investors and regulators, which undermined the possibilities for a proper assessment of market information, including, for example, the reporting of rising defaults for loans issued in the years 2001–2004. Such “warning signals” were basically ignored as investors care about the “overall loss suffered on a package of loans rather than the default rate per se” (Rajan, Seru, and Vig, 2015: 257). In a period of rising house prices—in this case recursively propelled by the “originate and distribute” business logic of lenders—a marginal increase in defaults can be mediated by the bank, foreclosing on a home and reselling the property at a reasonable price. This specific business decision does not result in any moderation in terms of more prudent lending practices as rising default risks are still examined in optimistic terms, which justifies the continuation of loan origination and securitization. In the end, however, when even subprime markets are saturated, in this case by the end of 2007 (Cheng and Xiong, 2014), “activity in the subprime loan market declined dramatically, with an abrupt decrease in securitization” (Rajan, Seru, and Vig, 2015: 257). This event in turn initiated the finance industry crisis of 2008, which resulted in the Great Recession. The expansion of the securities market and the changes in lender incentives ultimately resulted in a misallocation of capital and a loss of welfare, Rajan, Seru, and Vig (2015: 257) summarize. The Consequences of Deregulation Policy and Free Market Reforms Goldstein and Fligstein (2017: 505) argue that it is not enough to only examine the role of regulatory agencies such as credit rating agencies, or to discuss liberalized legislation to fully explain the finance industry

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collapse of 2008. Also the strategies and day-to-day work inside banks and finance institutions need to be studied to fully understand how, for example, finance innovation such as securities can serve to restructure entire industries. The deregulation of the securities trade in 1999 and 2000, by the very end of the Clinton presidency, served to transform the mortgage loan industry at its core. Whereas traditional banking was based on the principles of prudence and moderate risk exposure, in some cases leading to a shortage of credit in the market, and with individual presumptive mortgage loan borrowers being disappointed, the new “originate-to-distribute” model made mortgage loan lending more lucrative as illiquid holdings, with a contract period for about 30 years, could now be turned into securities and traded on an international securities market. The original “originate-to-hold” model wherein finance institutions created credit to the benefits of their clients, was displaced by the “originate-to-distribute” model, wherein the originator (i.e., the bank lending money) sells the loans to issuers, or to wholesalers, intermediaries who bundle loans to sell to issuers. The issuers’ role is to serve as an intermediary between originators and investors, “creating the bonds from pools of mortgages” (Goldstein and Fligstein, 2017: 486). In the traditional and more conservative “originate-to-hold” model, banking was a somewhat uneventful, even slightly dull activity, structured around “the 3–6–3 rule”—“to pay 3 percent interest on deposits on savings accounts, to lend money at 6 percent, and to be at the golf-course by three o’clock.” In contrast, the “originate-to-distribute” model turned banking into an exciting, high-risk venture with considerable returns at stake, and the feebased business of mortgage securitization quickly became more important for banks: “The share of revenue from fees among commercial banks increases from 24% in 1980 to 35% in 1995, and 48% in 2003” (Goldstein and Fligstein, 2017: 489). In the new millennium, fueled by the new legislative reforms, the mortgage securitization activities expanded quickly: “In 2001, 45% of nonconventional loans were securitized. By 2007, this had increased to over 93%” (Goldstein and Fligstein, 2017: 491). In addition, not only the “first-level” MBSs were issued, but as the market expanded, the second-level Collateralized Debt Obligations (CDO), much more complicated to price and thus more illiquid and risky investments, were traded in large volumes: “In 2003, banks did 45 CDO deals worth $25.5 billion. By 2006, they did 223 deals worth $231.7 billion, over 90% of which was backed by nonconventional MBS . . . CDO allowed firms to bundle otherwise unsalable mezzanine MBS into highly rated products” (Goldstein and Fligstein, 2017: 491). At this stage, the entire finance industry participated in a credit expansion at an unprecedented rate on the basis of first- and second-level securitization, which made so-called subprime mortgage loans the primary collateral. Just like in the case of the Federal Reserve’s FOMC, few insiders saw or recognized the risks involved in the expansion of securities.

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Within this framework of loan origination and securitization, mortgage securitization was increasingly located within what Goldstein and Fligstein (2017: 485) call “an industrial conception of control,” a term that refers to “[o]verarching dominant logics of organization and behavior, which shape the tactics and structures firms adopt.” As this industrial conception of control was established in the finance industry, MBSs were issued in ways that gradually raised the tolerance for market risk (again, Vaughan’s, 1996, “normalization of deviance”), which prompted banks to “securitize any mortgages they could acquire and issue ever-riskier MBS” (Goldstein and Fligstein, 2017: 485). In this view, the “industrial conception of control” is a misnomer as the term “industrial” denotes a professional and moderate assessment of risks to ensure long-term survival of the firm, and that legal and regulatory frameworks are complied with. In the case of the mass-production of MBSs, there was no such prudence observed among key actors. In fact, Goldstein and Fligstein (2017: 486) notice that within the sample of 163 large, publicly traded global financial firms, the investment losses on MBS/CDO assets in the aftermath of the crash “[w]ere significantly greater for firms who were more integrated in the production of MBS/CDO than for firms who were less involved in the production side of the market” (Goldstein and Fligstein, 2017: 486). That is, the industrial conception of control served to raise the level of risk exposure rather than to keep it at manageable levels, as the term would indicate. The industrial conception of control that Goldstein and Fligstein (2017) observed was in fact a condition that increased the risk of banks making losses when the crisis struck: “Contrary to the originate-to-distribute thesis, we find that integration—not fragmentation—drove deterioration in the quality of MBS” (Goldstein and Fligstein, 2017: 505). This finding runs counter to the conventional finance theory doctrine, which suggests that diversified actors are capable of minimizing risk. Instead, Goldstein and Fligstein’s (2017) empirical data indicates that not even industry insiders were capable of monitoring and handling risks. These insiders, being at the very heart of an industry that is commonly claimed by its protagonists to be so complex and sensible to market signals that no external regulator can assume a favorable position from which they can determine what is best for the long-term dynamics of the industry (see, e.g., Weiss and Huault, 2016), argue that this condition justifies selfregulation. Goldstein and Fligstein’s (2017) findings are disappointing for proponents of self-regulation as there is evidence of herd behavior that implies that if one major actor or a few fly-by-night actors make deals that violate good business standards and compromise the principle of prudent lending, more risk-averse and conservative actors are enticed to follow suit, which results in a vicious circle or “race to the bottom” phenomenon. If external regulators are unable to fully understand all the details and idiosyncrasies of day-to-day work and thus impose additional

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costs on finance industry operations, and intermediaries such as credit rating agencies are conforming towards client expectations under the influence of the current “the issuer pays” model, insiders are the only remaining actors able to ensure moderate risk exposure. Goldstein and Fligstein’s (2017) study casts a shadow of doubt over insiders’ capacity to establish robust risk management routines, at least during upward slopes of the economic cycle wherein authorities and regulators do little to signal their concerns regarding the leverage of systemic risk. The post-2008 governance model has unfortunately been unable to integrate very much novel thinking regarding risk management and risk monitoring. The predictable “never again” rhetoric has surfaced, but in fact the concentration of economic power has been further accentuated after 2008, with fewer and even more powerful gargantuan finance institutions operating in a variety of markets, including, for example, commodities trade (Omarova, 2013). Such tendencies in turn make the questions of accountability and the democratic deficit of transnational governance a core issue to handle in the coming decades.

Governance and the Question of Accountability The current conventional wisdom in the liberal understanding is that a globalized economy, effectively reaping the benefits of differences in production factor costs and therefore being beneficial for most, if not all constituencies, needs transnational governance to be effectively managed and monitored. This line of reasoning is credible but the separation of the democratically elected political entities on the national level—the traditionally legal basis for regulation and governance—and regulatory agencies on the transnational levels tends to generate what has been called a democratic deficit, a loss of democratic oversight of regulatory activities. In an overview of the governance literature, Fukuyama (2016: 92) addresses the perennial question, “What is good governance?”: Although governance in this sense clearly refers to behavior by traditional states, there is still considerable ambiguity as to its exact meaning. Does the ‘good’ in good governance refer to the political ends that government is supposed to serve, or is it restricted to the effective implementation of whatever end the political system establishes? In particular, does good governance include democratic accountability and protection of individual liberties, or is it possible to have good governance in an authoritarian country? (Fukuyama, 2016: 92) No matter how these questions are being answered, the term “governance” as such is still too amorphous and fluid to really denote specific qualities, Fukuyama (2016: 90) argues: there is no “consistent understanding of

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the meaning of the word governance,” and the term “governance” is “[a]pplied promiscuously to a whole range of activities that have in common the act of steering or regulating social behavior.” Fukuyama (2016) may engage in academic hairsplitting in the eyes of the skeptic,5 but the somewhat flexible use of the term “governance” has more material consequences as the difficulties involved in responding to the questions “What is good governance?,” or even “What is governance?,” are indicative of the loss of accountability in today’s increasingly transnational governance regimes. Bignami (2005: 809–810) discusses the current situation, wherein “more and more international cooperation in areas such as the environment and financial markets is occurring through networks of government regulators who exchange information, develop common regulatory standards, and assist one another in enforcing such standards.” In Bignami’s (2005: 810) account, the expansion of such “networks of government regulators” is a complicated political process as the traditional legitimation basis for public administration and governance has been democratically elected political entities such as governments and parliaments, whereas these new networks represent “a novel form of radically disaggregated administration” (Bignami, 2005: 810). This in turn creates concerns regarding the accountability of these transnational regulators. “The sharing of powers among national and supranational regulators in networks makes it difficult for national publics and parliaments to hold such regulators accountable,” Bignami (2005: 811) says. Critical commentators such as Wedel (2016: 11) are even ready to speak about a full-blown accountability crisis as she makes a distinction between the “personal corruption” of the ancien régime, wherein individuals could benefit from opportunistic and self-serving behavior, and the “structural corruption” being reported on the level of transnational governance. This “new corruption” (Wedel, 2016: 27) is one of the major challenges when accountability becomes complicated to uphold, diluted, or compromised in considerable ways. While Wedel (2016) may represent a skeptical position, there is evidence of a democratic deficit in transnational governance that sheds light on the difficulties involved when regulatory agencies are separated from the democratic institutions of the sovereign state, their principals. Transnational Governance and Regulatory Capture Levine and Forrence (1990: 167) discriminate between the “public interest” theory and the “special interest theory” of regulation, whereof the latter suggests that specific interest to a varying degree influences the legislation and design of regulatory activities. Public interest theory is based on the premise that democratically elected political entities or their defined agents are capable of establishing regulatory regimes

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that act in the interest of a variety of constituencies—that is, regulation reflects public interest in predictable ways.6 In contrast, special interest theory (also known as the “economic” or “government services theory”) recognizes such noble ambitions but rests on the proposition that actors with considerable economic stakes in what is subject to regulation inevitably seek to influence and inform the policy-making process, and outcomes therefore reflect “narrow, self-interested goals” (Levine and Forrence, 1990: 169). In both theoretical perspectives, policy-makers and regulators need to collectively and in collaboration with defined actors identify benchmarks and standards for what is the best interest of various constituencies. As the future is of necessity uncertain and future preferences are complicated to anticipate from the vantage point of the present—will future generations appreciate an expansion of the train system vis-à-vis more extended road mileage, for instance?—policymaking in regulatory affairs are complicated political processes. When policy-makers operate within the horizon of hazy futures and a present period of time characterized by the struggle over political influence and access to economic and political resources, regulation is a highly convoluted process, with choice alternatives being advocated and promoted by various groups, yet being complicated to assess. The outcome is commonly various forms of what has been called “regulatory capture,” the process wherein one or more stakeholders are capable of bending regulatory regimes in their own best interest, and in ways that transfer costs or other externalities to other stakeholders, or to third parties such as taxpayers. The literature on regulatory capture catalogues a number of classes of captures including “agency capture,” which includes the subcategories of “ideological capture,” “legislative capture,” “cognitive capture,” and “cultural capture.” “Agency capture” represents cases wherein regulators fail to demonstrate integrity inasmuch as regulatory agencies rely on industry actors for various inputs in the policy-making process and the regulatory activities that follow therefrom. Such input can include the distribution of industry-specific information, “revolving-door employment” wherein, for example, former regulators are hired by industry and vice versa, and so forth. Agency capture can also occur when regulators and industry actors are “[a]ll approaching problems with similar methodology, training, and experience, and through social chumminess between regulators and regulated entities” (Levitin, 2014: 2042). That is, agency capture is a concern whenever there is evidence of insufficient integrity on the part of the regulators, who then act as if the industry they regulate is more like a business partner than an entity subject to democratically justified monitoring. “Ideological capture” occurs in the situation wherein regulators and industry representatives are “[e]nthralled by a particular ideological view of how the world operates (or should operate)” (Levitin, 2014: 2042–2043), and wherein this ideological model serves as a blueprint

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for regulatory activities without any critical reflection. Third, “legislative capture” is closely connected to the expansion of the lobby industry, which provides industry actors with resources that leverage their political influence beyond what is desirable within the system of representational parliamentarism. In addition to direct lobbying, industry may also, especially in the United States, gain influence through political campaign donations to political actors who support, for example, industry-specific interests (Levitin, 2014: 2044). As both lobbying and campaign donations are carefully reviewed and are shown to primarily benefit “probusiness interests,” other social interests are underrepresented vis-à-vis business interest, which makes legislative capture a political concern (Drutman, 2015: 13). There are also a number of more behavioral science–oriented forms of regulatory capture such as “cognitive capture,” defined as a form of group think or sense of community across the regulator-industry boundary that occurs whenever two groups collaborate over time: “[E]xtensive professional and social contacts encourage regulators to align themselves with the outlook of industry officials, a phenomenon that analysts have described as ‘cultural capture’ and ‘cognitive capture’” (Wilmarth, 2013: 1417). Being a quite understandable human response to “the frequent interaction between regulators and the regulated” (Thiemann and Lepoutre, 2017: 1780), cognitive capture may justify a leniency in regulatory control so that that additional costs are imposed on, for example, third parties, or otherwise reduce net economic welfare. Wilmarth (2013) identifies at least two causes of cognitive/culture capture: The likelihood of cultural capture increases when (i) financial regulators feel part of an “in-group” with industry executives due to close professional contacts and shared “social networks,” and (ii) regulators view industry insiders as occupying a “higher status” based on wealth, intellectual achievement and social prominence. (Wilmarth, 2013: 1417–1418) In summary, regulatory capture is the outcome of legislation that enables certain influential groups to actively promote their preferred regulation models, or because the political, temporal, geographic, and professional line of demarcation between regulators is porous and at times increasingly blurred. In both cases, regulatory capture is a prioritized issue for commentators concerned with the democratic deficit of the current national and transnational governance regime. The term “democratic deficit” is undoubtedly rhetorical, being quite complicated to pin down in a lexical definition, or to anchor on an ordinal scale to determine “degrees of deficit” on the basis of unambiguous and widely agreed measures. Yet, the concern is that democratic deficit matters as it is an indicator of faltering accountability, which in turn for the most part remains a “nonissue” until the next crisis erupts.

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In addition, studies of, for example, transnational governance in the finance industry have demonstrated that regulation as policy and regulation as material day-to-day practice are not necessarily perfectly overlapping domains, and that the actual regulation-in-use system may contain many contingencies and unanticipated consequences. “Too often, regulatory reform is treated as an afterthought—something to be left to lower-tier implementers or even to market participants themselves,” Riles (2011: 232) writes. She continues: [L]egal governance is ultimately not so much a matter of grand design as it is a set of lived practices and techniques—techniques than are often disparaged or ignored but in fact are far more interesting, subtle, and full of transformative potential than we habitually recognize. (Riles, 2011: 246) This rift between regulation-as-policy and regulation-in-use is at the very core of the efficacy and accountability of regulatory reforms. While “laws in books” and “laws in courts” may be two quite distinct things in the Anglo-American common law tradition (Halliday and Carruthers, 2007), the same principle applies to regulatory activities; without highly skilled professional regulators with a full understanding of the industry they are monitoring, and equipped with the integrity to draw the line between, say, being “close” and “too close” to industry actors, regulation becomes inefficient and subject to forms of regulatory capture that erode the accountability of regulators and run the risk of reducing net economic welfare. The embedded autonomy of industry actors presupposes close, yet distinctively separated relationships with regulatory agencies, and when the balance is tilted, additional, mostly unanticipated, costs are generated.

Summary and Conclusion Governance and its implied derivative term “regulation” are controversial topics. At the heart of the dispute is the question of how to balance efficiency and stability in markets generally, and in the finance industry in particular (Allen, 2018; Lee, 2015). Some commentators argue that policy-makers and their defined regulating agencies should act to ensure the highest possible efficiency of the economic system. Any other objective generates less-than-optimal economic welfare. There are also free market theorists, representing an idea that arguably passed its zenith during the first years of the new millennium, who stipulate that rational markets are self-regulating, and that any attempts to regulate markets per automata impose unnecessary costs. Based on these premises, markets therefore should be left to themselves to stabilize over the economic cycle. Commentators who object to this view suggest that the finance industry is founded on the sovereign state as a lender-of-last-resort, and that this proposition is accompanied by a variety of insurances, subsidies, and exemptions that

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taken together create a situation wherein policy-makers and regulating agencies need to consider a wider set of concerns in addition to the singular efficiency criterion. In a democratic a society, policy-makers need to recognize the interests of a variety of stakeholders, whereof some may regard, for example, a reasonable level of finance market stability as a desirable and politically sanctioned condition, especially given that the cost to maintain an ex post resolution system befalls taxpayers (as in the case of the 2008 finance industry collapse). A reasonable assumption is therefore that qualified policy-making and market regulation should strive to optimize the capital formation process (i.e., finance capital supply, beneficial for economic growth) in the economy, given a certain stipulated maximal level of tolerated systemic risk (Ricks, 2011). In real world economies, such formalist propositions are complicated to translate in effective day-to-day practices, partially because the distributed decision-making in the finance industry is complicated—to put it mildly—to monitor, and partially because the legal-political system that regulates and monitors the finance market suffers from certain inertia that makes timely and precise responses to emerging problems and interventions costly to organize (Krawiec, 2013; Coffee, 2012). “It is very difficult to articulate a concrete job description for a financial stability regulator. . . . This is in many respects a data-driven task,” Allen (2018: 727) writes, discussing the regulatory work of the U.S. Securities and Exchange Commission. The deviation between market regulation in theory and market regulation in practice is a source of continuous and animated discussions, which in many cases result in various communities and even schools that advocate their own favored optimal combination of capital formation efficiency and finance market stability. From an institutional theory perspective, governance and market regulations are pillars in the economic system of competitive capitalism—that is, regulatory control is a relatively uncontroversial governance practice in comparison to, for example, the free-market theory view, which treats such market interventions as unfortunate events of policy-makers overreaching their authority. Institutional theory thus provides a more affirmative view of the sovereign state as a policy-making, market-maker, and legislative entity, preferably grounded in a democratic ideal. Such a model, which underlines the embedded autonomy of the finance industry, minimizes the risk of opportunistic behavior and rent-seeking among state officials, and regards the sovereign state as a legitimate actor that simultaneously cocreates markets with other market actors and serves as the regulator of market activities.

Notes 1. The access to credit is a key political objective (Krippner, 2017), and especially in economies like in the United States wherein stagnant real wages, shrinking

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benefits, and reduced welfare provisions have been compensated by higher degrees of debt on the household level (Peñaloza and Barnhart, 2011). Prasad (2012: xiv) argues that the U.S. policy has been to rely on what she refers to as “mortgage Keynesianism” since the early 1980s, which means that the supply of credit is a core mechanism in a functional economy. The role of credit in society and its factual meaning have changed over the course of history (Fontaine, 2014; Crowston, 2013), which suggest that credit is a cultural concept, rooted in norms and beliefs regarding the benefits and risks of being indebted (Mcfall, 2014). At the same time, credit supply and its disruptions are economic issues that are examined in detail by both economists (e.g., Peek and Rosengren, 2016) and economic sociologists (e.g., Carruthers, 2005). As the supply of credit is now what maintains consumption levels in large shares of American households (Calder, 2009), by and large a consequence of the expansion of the finance industry (Langley, 2008), many households struggle to maintain their creditworthiness to access further supplies of credit (Polillo, 2011). As many commentators have argued (e.g., Turner, 2015), the levels of indebtedness on federal, state, and household levels are now at a critical level, which makes various borrowers dependent on low-inflation rate policies to terminate their contracts. Such consequences of economic policy in combination with stagnant real wages and reduced benefits and welfare provisions make the finance-led economy vulnerable to both external shocks and systemic risks. 2. Acharya and Viswanathanm (2011: 102) argue that “a sudden adverse asset quality shock” (prompted by, e.g., political decisions such as a new fiscal policy, or exogenous changes caused by, e.g., political conflicts) to the economy after a period of high expectations with respect to fundamentals can generate a severe drop in asset prices. Such drops in asset prices are in turn caused by the lack of liquidity in the market. “By definition, a market is liquid if it can absorb liquidity trades without large changes in price,” Allen and Gale (1994: 934) write. When a majority of the market participants demonstrate a lowliquidity preference—that is, they hold only small reserves of cash—there are an insufficient amount of actors who can take advantage of, or absorb a sudden drop in asset prices, which leads to the situation wherein relatively modest external shocks can cause a significant drop in asset prices (Allen and Gale, 1994: 934). From the microprudential perspective, grounded in macroeconomic theory and the analytical framework that guided economic advisors’ analysis and statements in the first decade of the new millennium, in turn affecting how the economy’s diverse actors interpret the current economic situation, this systemic risk largely remains concealed until after the fact, with considerable consequences ensuing. Acharya and Viswanathanm (2011: 103) explain this nonlinearity between sudden adverse shocks and momentary asset price changes on the basis of the high level of leverage in the finance industry. In good times, for example, during the upward movement of the economic cycle, the low cost of credit leads to the entry of thinly capitalized firms, but when the economic cycle reaches its peak, the economy becomes increasingly unstable as these actors hold large portfolios of illiquid assets—that is, assets that cannot easily be absorbed by the finance industry when the aggregated risk-tolerance is adjusted downward. When an adverse shock materializes, highly leveraged finance institutions cannot “roll over short-term debt,” and thus induce socalled fire sales of assets, which lead to non-proportional asset price drops. During episodes of asset price changes, various finance industry actors are affected, beginning with the “worst-capitalized entities,” including the first socalled special purpose vehicles (SPVs), which were part of the shadow banking

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system (Fernandez and Wigger, 2016; Lysandrou and Nesvetailova, 2015; Adrian and Ashcraft, 2012; Stein, 2010), and thereafter spreading to broker dealers, then to hedge funds, and finally to “the relatively better-capitalized commercial banks” (Acharya and Viswanathanm, 2011: 106). Empirical data illustrates how the process unfolds. In the second quarter of 2007, the cost of issuing an Asset-Based Commercial Paper (ABCP) over the federal fund rate (the baseline benchmark) was seated at the 10 to 15 basis points level, but after August 9, 2007, when the French bank Paribas announced financial difficulties (the adverse shock in this episode), the cost to issue an ABCP rose to over 100 points over the federal fund rate (Acharya and Viswanathanm, 2011: 103). As many financial institutions were highly leveraged to reap the financial benefits from abundant credit supply, there was a shortage of liquidity in the market. When highly leveraged financial institutions started to sell off assets to reduce systemic risk exposure, the price of these assets dropped substantially, which initiated the downward spiral that eventually brought the finance industry to a stalemate. In Acharya and Viswanathanm’s (2011: 102) model, finance industry instability and crises are endogenous to the model as the capital structure of the finance industry as a whole, in combination with various actors’ incentives, is crucial for the understanding of its vulnerability of adverse shocks. A period of “build-up of short-term debt and entry of highly levered firms” in good times are thus followed by episodes of “asset-side shocks that lead to problems in rolling over debt, substantial de-leveraging, fire sales, and liquidity discounts in asset prices,” Acharya and Viswanathanm (2011: 106) summarize. 3. Dow (2017) addresses how inadequate macroeconomic doctrines have undermined the capacity of central banks to serve their defined role in the economy, to ensure economic and financial stability (for a broader critique of the “independent” central bank policy, see, e.g., Hartwell, 2019; Wansleben, 2018; McNamara, 2002). The current macroeconomic doctrine—what Dow (2017: 1541) refers to as the “new consensus”—focuses entirely on monetary stability. In this doctrine, “money is simply a technical input into exchange, financial markets are efficient, inflation is a monetary phenomenon and it is in the power of central banks to control it” (Dow, 2017: 1541). Advocating a postKeynesian theory of central banking, Dow questions this singular objective to monitor monetary stability as this model ignores the wider economic context wherein credit relationships (the true essence of money and money supply) are initiated. Even in the fictive case where monetary supply could be controlled (an assumption which Dow questions per se), this accomplishment alone could not ensure monetary stability, which consequently makes it unreasonable to let central banks monitor inflation only (Dow, 2017: 1543). “Far from just being a technical input to exchange, money is a social relation,” Dow (2017: 1543) says. Consequently, the role of central banks is inevitably a matter of monitoring and supporting social relations, conducive of a stable and growing economy. For instance, the sharp growth of shadow banking, which de facto serves to expand the range of assets with “money attributes,” is one measure of how credit is provided through alternative sources “on a massive scale” (Dow, 2017: 1544). To turn a blind eye to such structural changes in the finance industry undermines the long-term objectives of central banks, and therefore, Dow (2017: 1543) advocates a central bank policy wherein factors such as the distribution of income and wealth, and a concern with the trust in institutions that “support money as a social relation” are key issues. As was demonstrated during the Great Recession period, beginning in 2008 and sustained for roughly a decade, there is little correlation between the “massive increase in

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base money and the rate of retail price inflation” (Dow, 2017: 1546), which makes the inflation rate objective relatively marginal in comparison to the financial instability caused by “credit-fueled asset price inflation” (say, in the mortgage lending market), and issues related to the economic instability caused by the low correlation between bank reserves and new credit. In summary, Dow (2017) advocates a new central banking policy and a new economic theory doctrine that abandons the singular focus on inflation, and that more effectively monitors a wider set of conditions constitutive of credit relationships and thus, on the second level, of the economic stability being a key concern for central banks. 4. The French philosopher Michel Serres was once assigned the role to sit on a board of directors of the Aswan dam project, a major civil engineering project in Egypt (Eco and Carrière, 2012: 220). When being interviewed by a news reporter about his role on the board, Serres exclaimed that he thought it was outlandish that the board did not include an Egyptologist, a historian specializing in Egypt’s history and culture. When the reporter continued to ask in what way a philosopher could possibly contribute with to such a complex civil engineering project’s board of directors, Serres responded that philosophers could serve the role to point out the importance of including Egyptologists on the board. This Groucho Marx–style response to justify his own role indicates, if nothing else, the potential value of diversity in the directorship of agencies that oversee complex and insufficiently understood affairs. 5. For instance, Kapeller and colleagues (2018: 319) identify five “stylized policy options” that governments and transnational governance agencies can implement to avoid future finance industry crises: (1) “bailing out banks”; (2) “fiscal stimulus”; (3) “bailing out households”; (4) “establishing a bank fund to safeguard against bank failures”; and (5) “increasing financial regulation.” Based on simulation data, Kapeller and colleagues (2018: 325) suggest that the bank fund alternative (4) in combination with tighter finance industry regulation (5) is the most effective policy choice, not the least because these two policies institute accountability as a key factor, which increases the legitimacy of the policy. Furthermore, policies establishing bank funds and imposing financial regulation “[h]ave the crucial advantage that they do not inflict any burden on government debt,” Kapeller and colleagues (2018: 325) say; this provides policy-makers with the financial means for supporting a faltering economy, frequently one of the consequences of a deep-seated and long-lasting finance industry crisis. The research of Kapeller and colleagues (2018) indicates that governance is not simply some kind of play on words, as Fukuyama (2016) may hint at. 6. As Omarova (2011: 669) notices, to define the substantive meaning and the exact nature of “public interest” is far from trivial. As scholars have remarked, Omarova (2011: 669) continues, defining public interest as an independent rationale for economic regulation is “[i]nherently vulnerable to criticisms as excessively abstract, vague, and analytically weak.”

5

Concluding Remarks Re-Embedding the Corporation

Introduction Historians have carefully examined how the Catholic Church’s ban on usury, money-lending against interest, a tradition partially justified in Christian liturgy and scriptures, partially inherited from Hellenic philosophy and Aristotle in particular, was a perennial issue for centuries in Europe (Wood, 2002; Le Goff, 1988; De Roover, 1974). According to this doctrine, time belongs to God, and therefore, to capitalize on time is to violate the rules of God’s creation, and therefore, religious authorities deduced, “usury is damnable” (De Roover, 1974: 336). The strictness of this code (which the Catholic Church itself unsurprisingly violated in the commonplace double standards that religious leaders tolerated or even benefitted from) in fact not only rendered usury a crime, but made it a “sin,” the harshest violation a good Christian can commit, with dreadful consequences ensuing (Le Goff, 1988: 27). However, intellectuals also stressed how the ban on usury was justified by Aristotle’s claim that money is “sterile,” a point made by Nicholas Oreseme in his De moneta (“On money”; published in 1355): It is by this reasoning that Aristotle proves . . . that usury is against nature, because the natural use of money is as an instrument for the exchange of natural wealth, as has frequently been said. Anyone therefore who uses it otherwise, misuses it. (Nicholas Oreseme [1355], cited in Carruthers and Espeland, 1991: 39) Also Thomas Aquinas, the leading scholastic theologist and medieval intellectual, adhered to this Aristotelian principle, and claimed that “nummus non parit nummos”—“money does not reproduce itself” (cited in Le Goff, 1988: 29). It is not difficult to imagine how this religious doctrine in many ways disrupted economic development in the medieval period and imposed additional costs on all social actors as finance capital could not circulate

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freely to assist business promoters and aspiring entrepreneurs. Members of the Jewish community, in Venice and other cities and commercial centers, while subject to various legal and regulatory restrictions in the public sphere, were assigned the role to handle financial affairs. In England, the history took another course when Henry VIII broke with the Catholic Church, which made usury acceptable (Kindleberger, 2007: 41), but still an activity surrounded by unease and a poor reputation, which mirrored predominant religious doctrines. Jones (1989) examines how the English economy gradually managed to release itself from medieval theology to better handle the supply of credit for the benefit of economic growth and welfare. By the end of the sixteenth century, representatives of parliament argued that the state had the right and the authority to regulate usury, and that the Church’s claim to have the right to monitor the obedience to God’s law was no longer sustainable. Secular and economic objectives thus justified regulated money-lending (Jones, 1989: 199). In Jones’s view, these accomplishments mark the end of the Middle Ages and paved the way for the secular society and the administrative state, supportive of enterprising. Protestants marching under various banners but united by their anti-Papism such as Martin Luther and Jean Calvin also agreed that “there were very few biblical commandments that were directly binding on Christians” (Jones, 1989: 203). Instead, they argued that the Old Testament laws could be read as “general guidelines, not specific orders”: “[I]f the Bible says we are not to oppress our brother with usury it does not mean that we may not practice usury, it means that we may not oppress our brother” (Jones, 1989: 203). English Protestantism, in various ways deviating from the teachings of the continental movements represented by Luther and Calvin, also contributed in substantial ways to modernize society and its economic policy (to use the term avant la letter). In Jones’s (1989) account, English Protestantism “created a rationale that sanctioned economic self-aggrandizement,” which had two major consequences: (1) economic behavior was “relegated to the realm of private consciousness”—that is, economic affairs and choices became a matter of personal morals and ethical beliefs—and was increasingly separated from the influence of theological authorities; and (2) economic regulation was limited to improve “the secular economy.” As one of the foremost consequences, the dramatic moralist vocabulary of medieval Church authorities, using terms such as sins, became obsolete and ceased to be a public concern, and instead more modern vocabularies that addressed questions of “public order and economic efficacy” took its place in official discourses and debates (Jones, 1989: 203). In the long run, the decline of the ban on usury paved the way for the elementary forms of the modern democratic state, which relies on legislative processes with democratically elected political entities as legislators and policy-makers, although the process was far from linear or devoid of

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difficulties, culminating with events such as the American and the French revolutions, which in their own idiosyncratic ways advanced democratic egalitarianism: In the end the law was the victor. Where once the dictum had placed the king under God and the law, only the law remained as the final public arbiter of human behaviour. In the case of usury we can see how Protestant theology and an increasingly complex economy had combined to force theology from the field, leaving social good as the only effective measure of public right and wrong, and profit as the highest cause in economic affairs. (Jones, 1989: 205) In what way is this historical record tangential to the theme discussed in this volume? The case above can be examined along a variety of diverging storylines, but its primary role here is to serve as a parable showing how social norms can change considerably whenever they either become outmoded, or when there are considerable socioeconomic benefits that may materialize if only one or a few central norms can be relaxed, marginalized, or buried altogether. In the current volume, the embedded autonomy of the firm has been portrayed as a legal, moral, and governance-based feature of the corporation. Furthermore, this embedded autonomy is not a haphazard outcome or coincidental condition but was accomplished on the basis of the careful design of the corporate system and legal and regulatory systems that are supportive of economic production, conducive of economic welfare. As discussed in the beginning of Chapter One, various forms of shareholder activism have again made the question regarding if the efficacy of the embedded autonomy of the corporation is a pressing concern. Perhaps it is reasonable to follow the shareholder primacy prescription and just assume that the doctrine that “what is good for shareholders is good for all constituencies,” as repeated in the literature affirming this governance model is correct. In such cases, the financial engineering of companies such as Valeant and Turing (discussed by Coffee, 2017) may be perfectly tolerable as such practices would lead to long-term efficiencies that will be good for all of us. Alternatively, the activities that lead to enormous increases in the costs of medication may in fact be regarded as intolerable and violations of good, ethical business practices. If this latter alternative is chosen, legal reform, increased regulatory activity, and the application of other forms of “soft power” are part of the arsenal that policy-makers can deploy to signal to the business community, the business elites, and other relevant actors that there in fact are costs associated with a violation of social norms. Dumping toxic waste in nature, cutting down salaries through advanced offshoring and outsourcing schemes, participating in tax evasion by relocating to tax havens—these are some

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examples of business practices that have been treated as violations of social norms. There are always chances for turning the tide and making the corporate system—this major legal invention of the eighteenth and nineteenth century—better adjusted to the conventional wisdom regarding what respectable business practices are, and business practices that add to economic welfare in desirable ways. In this final chapter, the practical and theoretical consequences of the three forms of corporate embeddedness—legal, normative, and regulatory— will be discussed. In the first sections, the practical implication of lower degrees of connectedness between the finance industry, and more specifically the banks that traditionally have served as the hubs in corporate elite networks, and nonfinancial industry will be discussed. The decline of traditional business elites coincides with the fragmentation of the finance industry, and in the absence of lost business elite authority, there is a need for novel ways to integrate and monitor the interests of industry and the business community per se. The second section of the chapter examines the broader theoretical implications of an institutional theory view of the corporation that includes legal, normative, and regulatory mechanisms. Not the least is this analytical model contrasted against its foremost competing model, that of the shareholder primacy governance model, which enacts the corporation as a bundle of financial and productive assets, regulated by contract relationships, and wherein the firm’s shareholders are claimed to have the right to the residual cash. The institutional theory model of the corporation is considerably more complex in its outline and content, yet it mirrors and apprehends the variety of mechanisms and operations that define the corporate entity with greater precision and detail. Expressed in somewhat schematic terms, the shareholder primacy governance model is a performative theory whose value and function lies in its ability to convince corporate decision-makers, policy-makers, and regulatory agents that its prescriptions generate net economic welfare that benefits most, if not all, constituencies. The institutional theory framework, in contrast, is an analytical model intended to illuminate the more complicated practical concerns and trade-offs that policy-makers, legislators, and regulatory agents need to consider to render the corporate entity the foremost vehicle for economic value creation in the era of modern competitive capitalism.

Practical Implications: The Marginalization of Corporate Elites Mizruchi (2017, 2013) argues that one of the key institutional changes occurring in the United States during the last few decades is that the traditional business elites, seated in the banking sector, have been displaced by a new finance industry–oriented economic elites. The traditional business elites were certainly no enemies to pro-business policy as they

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actively supported “[f]ree markets, minimal government intervention in the economy, low taxes, and strong opposition to the right of workers to organize into independent unions” (Mizruchi, 2017: 102). At the same time, the business elites tolerated liberal reforms and could forge meaningful alliances with political bodies to both promote their own interests and to ensure that various constituencies would benefit from productivity growth in industry through, for example, increased economic compensation, job growth, or combinations thereof. In the 1970s, following the major recession caused by soaring energy prices and persistently high inflation rates, also accompanied by the political crises following the termination of the Nixon presidency and the embarrassing American exodus from Vietnam, the business elites allied themselves with the neoconservatives and libertarians who historically had played a most marginal role in industry and in politics (Gross, Medvetz, and Russell, 2011; Philips-Fein, 2009; Smith, 2007; Durham, 2006; McGirr, 2001; Jenkins and Eckert, 2000; Himmelstein, 1992). This mobilization of pro-business activists was remarkably swift and successful, with the neoconservative president Ronald Reagan entering the White House in early 1981 as its crowning moment: By the time of Ronald Reagan’s election in 1980, the business community had achieved virtually all of its goals. Organized labor had been significantly weakened. Government intervention in the economy had been delegitimized. Corporate taxes had been sharply reduced. And even with a Democratic president and Democratic control of both houses of Congress, a series of liberal ventures, including the proposed Consumer Protection Agency, had been soundly defeated. (Mizruchi, 2017: 108) Yet, the victory of the alliance, which included business elites, conservatives, and libertarians, proved to be a pyrrhic affair, Mizruchi (2017) argues. By the early 1990s, there was no longer any consensus in the business elite community, and it was now impossible to act collectively to address current problems, for example, the rising costs of healthcare services (Mizruchi, 2017: 108). To this date, this fragmentation of the business elites remains,1 and the Republican party, the traditional party of choice of business elites, has become increasingly antediluvian in its attitude towards the welfare state and social and economic reform. Mizruchi (2017) locates the banks at the center of this process of gradual decline in consensus by the business elites. In the 1980s, banks turned away from lending and increased their fee-for-service activities. Deregulatory reforms during the Reagan administration had created a junk bond market that provided companies with means to access finance capital (Bratton and Levitin, 2013; Baker and Smith, 1998; Bruck, 1988; Kaufman and Englander, 1993; Lipton, 1987), and this process

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of disintermediation made banks an obsolete business partner in many cases. As banks noticed that their role as the primary supplier of finance capital to industry was less pronounced, banks reduced the appointments of nonfinancial chief executives to their boards—that is, the banks gradually isolated themselves from industry. The consequence was that the banks abandoned their central position in the corporate system and the business network, which led to a situation wherein banks “[n]o longer played a role in forging a cross-industry unity among the various segments of the business community” (Mizruchi, 2017: 109). Relaxed regulation of the finance industry in combination with economic policies that targeted price stability—that is, inflation—generated a burgeoning finance industry (Krippner, 2011), which in the next stage served to further push banks to the margin. This ultimately reduced the number of ties between the nodes in the business elite network. Chu and Davis (2016: 723) provide empirical evidence supportive of Mizruchi’s (2017, 2013) argument, and report data from a sample that includes 27,000 directors who served on almost 2,500 corporate boards in the United States during the 1997–2010 period. Chu and Davis (2016) find that what they call the “inner circle” of directors, one of the durable features of the U.S. corporate system over the twentieth century, had essentially disappeared: “Since the turn of the 21st century . . . well connected, multiboarded directors have lost their advantage. This change had important consequences for the aggregate structure of the network” (Chu and Davis, 2016: 716). As this inner circle business elites, who served to both manage corporations and participate in political life, was in decline, “[t]he prospects for broad-based, moderate political action by corporate elites are lowered,” Chu and Davis (2016: 716) argue. What took roughly 100 years to build disappeared during a decade as “the U.S. corporate interlock network suffered a striking decline in connectedness” (Chu and Davis, 2016: 749). Mizruchi (2017: 109) suggests that the post–World War II period was characterized by American CEOs’ ability to operate with a high level of autonomy as they were largely insulated from shareholder activism. CEOs honored this discretion and authority by as carefully considered the longterm implications of their actions for the larger business community, but also, Mizruchi (2017: 109) emphasizes, “the society as a whole.” To some extent, CEOs in major, multinational corporations served a quasi-political function as they made the industries they managed move in lockstep with the expansion of economic welfare (as indicated by, e.g., the close correlation between productivity growth and real wage compensation until circa 1970; Gordon, 2015a: 542; Tabb, 2012: 39; Wolff, 2003: 451) and welfare provisions offered by the federal state. In the 1980s, when the new doctrine of shareholder value creation increasingly became the primary focus of executives, this discretion vanished and managers complied with the new conventional wisdom that unless shareholders are

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satisfied, executives can be replaced by new managers who offer these services. This shareholder-centric governance model undermined the business elites’ capacity and incentives to engage with broader and longterm economic and social issues. Whereas the “corporate leaders of the postwar era believed in a strong cooperative relation between business and government” (Mizruchi, 2017: 109), the new generation who entered executive suites in the 1980s and thereafter had few incentives to think and act in such terms. Furthermore, in terms of political and partisan implications, “[t]he American corporate elite is no longer able to exercise decisive influence over the Republican Party,” Mizruchi (2017: 111) summarizes: “It is the elite that is now marginalized.” The “enlightened selfinterest” that the traditional business elites represented included at least a minimal degree of statesmanship, but in the new regime, such a sense of noblesse oblige was replaced by “a narrow, short-term self-interest” (Mizruchi, 2017: 114). This drift away from social affairs and even joint business interests was applauded by neoconservative and libertarian intellectuals who were now assigned the role to advise, for example, the U.S. president on economic issues (Jones, 2012). The finance industry is the business where this tendency has been the most pronounced, with a fragmentation of the industry into islands of technologically sophisticated and esoteric forms of financial engineering that prevents a full overview of the economy, perhaps for the benefit of maximized economic value extraction, but at the cost of the loss of a socially responsible business elites. Economic Consequences and Implications Krippner (2017) argues that the political issue to ensure the supply of credit is an “indispensable tool of statecraft.” For many individuals, the access to credit, for example, home mortgage loans and student loans, is what defines and therefore completes the promise of full citizenry (Fuller, 2016; Mcfall, 2014; Peñaloza and Barnhart, 2011; Polillo, 2011; Hyman, 2011), and many individuals struggle to maintain and preferably enhance their creditworthiness to be able to access credit, now and in the future. In the United States, with declining real wages and fewer benefits provided by employers, the access to credit does in many ways become a substitute for salaried work income and a prerequisite for “full inclusion in the marketplace” (Krippner, 2017: 2). Competitive capitalism is a highly efficient system for the creation of economic value, but it is also an economic system that is at risk of generously rewarding behavior that transfers costs onto third parties, as in the case of speculation. The finance industry–dominated competitive capitalism is therefore inherently unstable as it is complicated, especially in the midst of everyday business activities, to ex ante distinguish between, for example, a regular trader and a speculator (Kahan and Rock, 2007: 1069). This so-called

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financial instability thesis is at times associated with the heterodox economic theory of Hyman Minsky (1986), whose theories are still disputed despite empirical evidence amassing in support of the proposition. In the new economic regime, the creation of credit and the monitoring of the risks derived from credit issuance is a core activity. Traditional banks, characterized by their risk-aversion and concern for their status in the economic system, act for the most part with prudence when they issue credit, whereas newly established finance institutions may be less concerned with such long-term privileges and status positions, and instead issue credit on the basis of other objectives, wherein the securitization of underlying asset holdings is the key mechanism that propels the restructuring of the finance industry. The long-term consequences of institutional changes in the finance industry and in the broader economic system have yet to be determined, but the short- to medium-term consequences of the Great Recession that followed the events of 2008 have been that the top 10 and the top 1 percent income groups have advanced their positions further, whereas the remaining 90 percent have suffered the consequences, not the least those ending up in poverty: “[T]he percentage loss [following the 2008 crisis] was much greater for the bottom 90% than the top 1%. Even more importantly, there is no evidence of a post-2009 recovery in the wealth of the bottom 90%, yet the top 1% has almost fully recovered their lost wealth,” Redbird and Grusky (2016: 194) report. They (2016: 194) continue: “The average real wealth of the bottom 90% of families is no higher in 2012 than it was in 1986, whereas the average real wealth of the top 1% is approximately 2.7 times greater in 2012 than in 1986.” A substantial proportion of this wealth, aggregating at the apex of the economic system, has been reinvested in the finance industry (Lysandrou, 2011: 332–333), at times also in various tax havens. During the Great Recession, “between 2009 and early 2015,” Zucman (2015: 60) writes, “the total amount of foreign wealth managed in Switzerland has increased by 18%.” Furthermore, the bottom of the income pyramid thickened on the basis of deregulatory policies, as the official American poverty rate increased from 12.5 percent in 2007 to 15.1 percent in 2011 (Redbird and Grusky, 2016: 191–192). Whether such changes are politically tolerable and/or supported by median voter preferences are disputed, but there is a considerable acceptance for an aggregation of wealth at the top of the income pyramid in a “winner-takes-all-society,” an issue examined by Bonica and colleagues (2013): [C]learly, efforts to reduce inequality are not especially popular. For example, Barack Obama campaigned in 2008 and again in 2012 to raise marginal tax rates only on the relatively small slice of households earning over $250,000 and eventually in early 2013 accepted

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One interpretation of such evidence is that the American public does in fact have the finance system it opted for, no more no less. At the same time, Coffee (2017) remarks, one of the weaknesses of the agency capitalism model, which makes intermediaries the key players and de facto decision-makers, is that there are no reliable mechanisms that determine what the beneficiaries’ preferences in fact are, leaving this question to intermediaries such as fund managers to second-guess or to determine by making inferences from trading data (see, e.g., Hirst, 2018). Fund managers (“trustees” in Coffee’s, 2017: 247, vocabulary) may still consult with their investors, or may consider “prevailing social customs and values” to determine how to avoid “socially controversial activities posing financial risks to their portfolios” (Coffee, 2017: 247). Regardless of such possibilities to better monitor investor preferences, investor preferences remain largely in the dark: [N]o one knows the actual preferences of the ultimate beneficial owners of the firm because our existing system of agents keeps their preferences hidden. We live today in an age of “Intermediary Capitalism,” in which beneficial ownership is divorced from any voice in the firm. (Coffee, 2017: 252) The pluralism of views and the concern for various stakeholder interests of the board-centric governance model is thus at risk to be substituted by a more rectilinear shareholder-centric governance model, wherein a more limited variety of interests are considered. If that is the case, the current agency capitalism regime represents a dedifferentiation of the corporate system, which arguably make it less, not more, socially responsible, and thus further separates the corporation from its wider socioeconomic context. In summary, the decline of business elites, and business elites in the traditional banking systems in particular, has contributed to a situation wherein the corporate system is increasingly dis-embedded inasmuch as, for example, shareholder activism and the restructuring of industries on the basis of deregulatory reform establish new governance practices. If Mizruchi’s (2013, 2017) thesis carries some broader empirical significance, then the question is whether the economic system of competitive capitalism should continue along a pro-business policy path, or if the

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original legal invention of the business charter, granted by the sovereign state, is to be rehabilitated. No matter what route is taken, there is literature that calls for more prudent governance of the corporate system to make the current model sustainable. Certain degrees of inequality are apparently tolerated as they reflect individual differences in talent, ambition, work ethics, charisma, and sheer luck to varying proportions (Osberg and Smeeding, 2006)—or, alternatively, a self-reinforcing change in attitude towards higher tolerance of inequality when it appears to be an inevitable social condition (Kelly and Enns, 2010). Still, no economic system can tolerate soaring levels of economic inequality without certain costs and social consequences surfacing (Gilens, 2012; Prasad, 2012; Frank, 2007). In the end, as Jencks (2002: 64) remarks, the “positive case for economic inequality” seems to rest on tenuous theoretical grounds and limited evidence: “The case for inequality seems to rest entirely on the claim that it promotes efficiency, and the evidence for that claim is thin.” Hence it is important to consider how the corporation as a legal device can serve the end of counteracting economic inequality but without violating other legal rights and liberties. Coping with Lost Business Elite Authority: Promoting a Community of Fate Mentality Speaking explicitly about the finance industry, legal scholar Saule Omarova (2011: 420) advocates what she refers to as a “community of fate mentality” to better incentivize finance industry managers and coworkers to recognize a socioeconomic sustainable role of the finance industry within the system of competitive capitalism.3 Being impatient with the consequences of the self-regulation model, apparently being unable to monitor and price market risks as credit rating agencies have enacted their clients as business partners rather than regulatory subjects, with overoptimistic ratings that insufficiently discriminate between high quality and lower quality issuances as the result, Omarova (2011) calls for some novel thinking in the domain of market regulation. Omarova (2011: 420) argues that it is “unfashionable” after 2008 and the Great Recession to advocate increased self-regulation, but she is convinced that if the finance industry was more distinctively separated from the state and could no longer assume that taxpayers would bail out distressed finance institutions whenever the skies darken, the finance industry would be more efficient in recognizing, assessing, and pricing risks, with considerable net economic welfare as one of the primary consequences. The lack of incentives supportive of effective self-regulation can be explained on the basis of a variety of factors, including the “heterogeneity of interests” in the industry, little direct public involvement in the monitoring of industry performance, and “insufficient political pressure on the industry” to selfmonitor systemic risk, Omarova (2011: 420) suggests. In addition, the

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finance industry currently enjoys a combination of “extraordinary security” through its access to an extensive public safety net, including “the near certainty of government bailouts in the event of a crisis” (Omarova, 2011: 420), and the capacity to extract private rents during run-of-themill periods (say, in the upward movement of the economic cycle). This ability to privatize gains while pushing the costs of downside risk onto third parties (e.g., clients or taxpayers) does not represent a sustainable basis for a mature industry: [M]odem financial institutions do not have meaningful incentives to create a system of embedded self-regulation. This absence of incentives to self-regulate is due to a variety of factors, including regulatory fragmentation and heterogeneity of interests throughout the industry, little direct public involvement in monitoring the industry’s performance, and insufficient political pressure on the industry to selfmonitor for systemic risk. Perhaps the most important obstacle to self-regulation is the lack of a “community of fate” mentality within the financial industry, which currently enjoys extraordinary security through its access to an extensive public safety net and the near certainty of government bailouts in the event of a crisis. (Omarova, 2011: 420) Omarova (2011) makes a comparison between the finance industry after 2008 and attitudes in the chemistry industry, wherein, for example, the Bhopal disaster in Madhya Pradesh in India in 1984 called for some moderation, and the energy industry, where the Three Mile Island nuclear plant incident in Pennsylvania in 1979 played a similar role. Omarova (2011) suggests these are two cases prompted various reforms and managerial changes, but also served to institute more socially responsive managerial practices in the two industries. Omarova thus proposes that the 2008 finance industry crisis was the moment from which the industry can create a more sustainable image of itself and its role in the wider economic system. Unfortunately, there is little evidence of such moderation to date, and political authorities and academic scholars still tend to declare their firm and unconditional belief in the efficacy of the current finance industry model (Mian and Sufi, 2014; Wilmarth, 2013; Crotty, 2009). Also studies of the implementation of ex post resolution systems demonstrate that, for example, politicians regarded the events of 2008 in lenient terms and they tended to regard the outcome as being caused by a combination of unfortunate conditions and the presence of a handful of illicit actors who exploited loopholes and venturing possibilities within an otherwise robust economic system (Münnich, 2016). This optimistic and forgiving view of the finance industry’s resilience, wherein discordant information is normalized, downplayed, or explained on the basis of additional ad hoc hypotheses does not indicate a willingness to address

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the overbearing issues at hand.4 How this new community of fate mentality, which Omarova (2011: 1) prescribes as a remedy for undesirable behavior is to be implemented remains unclear, but as a diagnostic overview of current conditions, the statement put the finger on some acute concerns and thorny governance issues that are still with us, more than a decade after 2008. Coffee (2017: 222) argues in a similar reformist tone that a campaign to reinstitute the board of directors as “the corporation’s superego,” a term imported from Freudian psychoanalysis theory, which denotes the component of the psychological topography that structures moral beliefs and helps the individual to constitute him- or herself as a moral and ethical subject, is a promising way forward. In the current situation, when shareholder activism is a factor that influences managerial decision-making, Coffee (2017) inquires whether the board of directors, assisted by corporate law as it is written, interpreted, and enforced, can serve an extended role that recognizes other stakeholders than the owners of stock, and better attend to medium to long-term issues. Coffee’s (2017) model is highly speculative and its advocacy is essentially structured around the belief that there need to be some mechanisms that counterbalance the shareholder primacy governance advocacy, today putting the corporate system at risk unless directors and managers learn how to navigate in milieus wherein shareholder activism is prominent and endemic. The decline of centrally located business elites is a deep-seated institutional shift, but Omarova’s (2011) and Coffee’s (2017) calls for new attitudes and moderation more largely are faute de mieux statements, late-hour pleas in the absence of vital alternatives. In the American political climate, currently coping with the partially chaotic, partially stationary (i.e., few decisions are implemented) Trump presidency, which is putting the American constitution and its political system to a formidable test, there is little reason to believe that legal or regulatory reform is in the making as this political system offers few incentives to take responsibilities beyond the individual senator or congressman or congresswoman’s individual career (Levitin, 2014: 2053). No matter what the outcomes will be, the issue of the disembedding of the corporation, and the finance industry institutions in particular, should be addressed by policy-makers, commentators, and scholars.

Theoretical Implications: The Institutional Theory of the Embedded Autonomy of the Firms versus the Shareholder Primacy Model As discussed in the first chapter of this volume, Hayek (1978) advocated a theory of markets as being “spontaneous orders” that optimize efficiency in the use of input resources, but only in the absence of regulatory control. This economic idea, that markets are naturally occurring and

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self-correcting systems, has been advocated to justify the shareholder primacy model that today is the dominant norm in corporate governance. Hayek’s (1978) work may have lost some of its attraction outside of libertarian circles, and mainstream card-carrying economists may be only marginally concerned with his propositions, but the wider consequences of this economic idea are still relevant as they justify that the corporation is untangled from the legal and socioeconomic web that motivated the legal invention of the incorporated business in the first place. Economic theory is based on a deductive research design, wherein allegedly “vague terms” such as culture, norms, beliefs, and so on are excluded on the basis that they add unnecessary complications to the theoretical framework. Instead, economists and economic theory–inspired scholars maintain their own idiosyncratic vocabulary, which include terms such as “rationality,” “efficiency,” and “opportunistic behavior.” The vocabularies used by economists and their allies are of relevance in this context as the disembedding of the corporation has been justified on the basis of a series of highly venturesome propositions that contain abstract concepts such as agency costs, residual cash, managerial malfeasance, and so forth. These propositions, in turn, have been used to make inferences regarding policies and practices. For instance, the proposition that managers act in selfaggrandizing ways on a predictable basis, a claim that rests on no solid evidence but the sheer suspicion that such could be the case, is paired with the proposition that this behavior generates considerable agency costs— costs that are rarely, if ever, are calculated but merely play a metaphorical function5 and introduced to justify the first proposition regarding managerial malfeasance. In the end, the corporation is understood strictly as a bundle of financial assets to be monitored by shareholders through the “market for management control”—that is, the finance market—and nothing else. From an institutional theory perspective, such venturesome conjectures cannot be accepted out of hand, but need theoretical refinement and empirical substantiation to be taken seriously. Based on these concerns, the epistemological basis for economic theory needs to be critically examined to better understand how the social norms of shareholder primacy governance have served to dis-embed the incorporated business charter. Economic Theory Doctrines and Their Implications for Governance In a broader perspective, economics and its expansion in size, relative proportion, and authority (see, e.g., Fourcade, 2009; Christensen, 2017) also make the scholarly community of economists unique among the social and economic sciences inasmuch as economists are “[a]mong the few who aspire to tell society how it should be managed” (Offer and Söderberg, 2016: 1). “The arguments of economists are supposed to have

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a special authority, quite different from the pleadings of other parties: they are the counsels of reason, disinterested and objective,” Offer and Söderberg (2016: 2) write. Self-confidence is a sine qua non in politics and science, providing actors with both the normative and moral impetus to engage with complex and multidimensional problems, but too much confidence can also be a problem when there is more that needs to be known or discussed prior to decisions being made and formal statements being issued. Offer and Söderberg (2016: 2) argue that “economics is not easy to master, but easy to believe,” and add that several of “core doctrines” of economics, which economists do not hesitate for a second to bring out as universally recognized truths beyond a reasonable doubt, have oftentimes yet to be substantiated. “Economics is supposed to be a predictive science, yet many of the key predictions of neoclassical economics can easily be rejected,” Stiglitz (2010: 245) writes. For instance, the statement that “the pursuit of self-interest is socially beneficial,” a proposition that serves as an axiomatic principle in shareholder primacy governance advocacy and is invoked in numerous other cases, has “never been proven, except in an abstract and exotic form,” Offer and Söderberg (2016: 48) say. This does not suggest that economists are of necessity always wrong, nor that economists represent a unified voice (economic theory is separated into many schools and orientations), nor that economists are unaware of these various challenges (in fact, the most potent and insightful critique of economic theory is unsurprisingly articulated from within the discipline of economics). Yet, dominant economic ideas and doctrines and their formulation into propositions that equally guide scholarly work and, eventually, policy-making need to be subject to critical assessment. Lazear (2000: 100), in a conspicuously self-celebratory and triumphant text about economic theory, argues that economists make three elementary assumptions: (1) they “assume that individuals engage in maximizing rational behavior”; (2) “economics adheres strictly to the importance of equilibrium as part of any theory”; and (3) economists place “a heavy emphasis on a clearly defined concept of efficiency.” While the second assumption is quite technical in nature and is far from uncontroversial among economists (see, e.g., Kaldor’s, 1972, scathing critique of equilibrium theory economics), the first and the third assumptions are more immediately applicable within social science research projects. The claim that individuals are “rational” and that “efficiency” is granted a privileged status vis-à-vis other possible analytical benchmarks is more based on the assurance that there needs to be some shared theoretical ground in empirical work than on saying that these terms are in any way intrinsically “better” or “more true” than any other conceivable concepts. Yet, this is exactly what economists are inclined to claim, that their favored analytical vocabulary is in fact superior to, say, a sociological or legal theory framework. For instance, in a review of the literature that examines

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how and in what way macroeconomic theory has contributed to policymaking, Chari and Kehoe (2006: 18) argue that fiscal policy and monetary policy have changed “policy in response to macroeconomic theory’s changes.” However, Chari and Kehoe (2006: 18) argue that there could have been even further changes if only macroeconomists would have been more effective in communicating “the policy implications of their theoretical research.” This declaration assumes that if only policy-makers knew more and knew better about macroeconomic theory, their decisions would have converged even further towards the macroeconomic framework being presented. Chari and Kehoe (2006) do not consider the situation that policy-makers may disagree regarding the implications for fiscal and monetary policies; nor do they examine her political factors or conditions that would be equally or more helpful in designing policies. The connections between the macroeconomist’s theoretical work and policy-making is straightforward and short, but unfortunately complicated by the recipients’ (i.e., the policy-makers’) capacity to digest the wisdom of card-carrying economists. In the end, the ability to translate macroeconomic theory into policy is essentially a matter of “communication” and little else.6 These specific cases should not be overstated, yet it remains indicative of a world wherein the authority to dictate how policies should be formulated is treated as a privilege beyond a reasonable doubt. Bennet and Friedman (2008) critically examine rational choice theory, which they believe offers “an all-too simple view of an all-too-transparent world.”7 Bennet and Friedman (2008) are skeptical regarding the hard-science argument of economists as such self-promotion tends to ignore the burden of empirical evidence that befalls scientists: [E]conomics is not necessarily a science that confers expertise about reality, as natural sciences do. The opinions of those who hold economics Ph.D.s do not stem from the results of controlled experimentation. . . . Unlike mathematical axioms, the assumptions taught to economists are supposed to describe the real world, and we think that they often do. But without empirical testing of a type that is usually unavailable in social science—controlled experimentation— they cannot merely be assumed to do so, a priori. (Bennet and Friedman, 2008: 202) In the same vein, Bookstaber (2017: 183) is doubtful regarding the use of strictly deductive theoretical models as they tend to overstate rectilinear theories and unambiguous demarcations among taxonomies in a world characterized by curved and ambiguous lines: This is ultimately the basis of the deductive approach [used in economics]. You cannot only be somewhat right, and you can find many

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ways to be completely and precisely wrong. When applying deductive thinking to economics, the neoclassical economists usually set up an as if model based on a set of tight axiomatic assumptions from which consistent and precise inferences are made. (Bookstaber, 2017: 183) Bookstaber (2017: 183) argues that this theoretical model separates empirical data into discrete categories in a way that eliminates contingencies and nuances: Because the deductive approach draws conclusions from axioms, its relevance depends on the universal validity of the axioms. . . . [But] reflexive systems are time- and context-specific, not timeless and universal. We have to at least justify our disregard for the gap between the nature of the real world and models of it. (Bookstaber, 2017: 183) This is a principal challenge for economists who simultaneously sell themselves and their services as an engineering science of sorts, based on the promise that it can fabricate and uphold a serviceable economic system that is, for the most part, known for most, but not all (see, e.g., Downer, 2007, 2011; Kroes, 2010), and as a “hard science” (comparable to, e.g., physics or the biosciences, the jewel in the crown of scholarly pursuits) inasmuch as economists purport to provide universally applicable laws that economic processes obey and from which accurate predictions can be made. The willingness to “rush to conclusions” and to promote highly controversial propositions regarding the nature of economic affairs as if they were not only conjectures but already proven to be robust by the test of empirical data is unflattering. As Kaldor (1972: 1239) remarks in his account of “equilibrium economics” (one of Lazear’s [2000] “three assumptions”), “[t]he main lessons of these increasingly abstract and unreal theoretical constructions are also increasingly taken on trust—as if in the social sciences, unlike the natural sciences, the problem of verification could be passed over or simply ignored.” If economists are unwilling to invest the time and effort to verify the propositions being advocated, as Kaldor (1972) suggests, then the trust in the economist’s claims is what remains.8 Unfortunately, no science can exclusively run on trust. Accurate predictions, meaningful and logically consistent descriptions of empirical conditions, or other valued contributions are what make a scientific discipline authoritative. More specifically, in this context, the larger question is to what extent deductive reasoning based on propositions that per se are disputed can justify legal or regulatory reforms or new practices in corporate governance. In the area of the scholarly inquiry at hand, that of the of embedded

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autonomy of the firm, now being challenged by shareholder activism and other attempts to separate the corporation from its wider socioeconomic context, economic theory has been applied instrumentally to marginalize, for example, legal theory, the management studies literature (including, not the least, accounting theory), and economic sociology to justify a more schematic and rectilinear image of the firm that is consistent with the shareholder primacy governance model.

Summary and Conclusion The history of economic thinking reveals a clear line of demarcation between a liberal view, celebrating enterprising and the institutionalization of the corporation as a major accomplishment, and conducive to increased economic welfare, and a conservative view, which sees little more than the loss of traditional values and social conventions, smashed to smithereens by the unrelenting forces of modernization. David Hume, a patron saint–like figure for Anglo-American liberalism, sang the anthem of economic liberalization: “The greatness of a state, and the happiness of its subjects, how independent soever they may be supposed in some respects, are commonly allowed to be inseparable with regard to commerce” (Hume, 1996: 154). In contrast, Edmund Burke, the great proponent of the ancien régime and its monarchy-based political and economic system, and one of the icons of conservatism, saw little else than decline where Hume saw the future unfolding: “[T]he age of chivalry is gone—That of sophisters, economists, and calculators, has succeeded; and the glory of Europe is extinguished forever,” Burke ([1790] 2006: 74) dourly prophesized in a much-cited passage. In Burke’s ([1790] 2006: 78) view, commerce, trade, manufacture, and the creation of economic policy are now what is “worshiped” in society. Writing in the same period, the era of the two great revolutions that marked the passage point to modernity and democratic egalitarianism, both the cause and effect of the liberal economy and part of the historical process wherein the bourgeoisie displaced the aristocracy as the dominant social class,9 David Hume and Edmund Burke represent two distinctively different political ideologies: Hume saw the morning redness on the horizon of modernity, whereas Burke saw a society cast into chaos and conflict as the old world was overturned and left in ashes. The advancement of modernity, including the legal invention of the chartered business with limited liability that promoted financed capital accumulation from diverse sources, was a long and nonlinear process, but ultimately it contributed to a society that generated considerable material welfare for its subjects. Proponents of democratic political systems such as Thomas Paine, crossing the Atlantic to actively participate in both the American and French revolutions and the lawmaking activities that followed, understood that the process of overturning the political

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system centered around the monarchy, the aristocracy’s preferred political system granting them authority and considerable privileges, would take time and effort. Yet Paine had a firm belief in the close connection between “reason and liberty,” and in the inevitable force of historical processes once they gained momentum. Paine cited Archimedes, who spoke of “mechanical powers” when he said, “Had we a place to stand upon, we might raise the world.” The world was indeed raised on the basis of novel ideas, new institutions, and new legal inventions. The incorporated business, this volume has argued, is one such legal invention that’s at the very heart of a specific economic system that has accompanied the modernization of society. All societies are dependent on the material means they are capable of producing, and therefore legal inventions such as the incorporated business, which provides a legal model for how to balance the need for venturing and enterprising (i.e., a mechanism that promotes and rewards risk-taking) and the protection of property rights, are a key when explaining the successes of economic liberalization that Hume embraced and Burke dreaded. At the same time as economic systems such as competitive capitalism generate unprecedented levels of economic wealth, the development of differentiated and dynamic socioeconomic and legal systems cannot be reduced to its material components or input factors: ideas matter. Yet, as anthropologist Marshall Sahlins (2000: 181) remarks, “Capitalism is no sheer rationality: it is a definite form of cultural order, or a cultural order acting in a particular form.” That is, capitalism needs to be understood as what is rooted in norms and beliefs, ideas and ideologies, to some extent generated within the economic system that prevails in a specific society, yet always already in place prior to the expansion of the economic systems. Fernand Braudel (1977), the renowned French Annales school historian, argues that capitalism is “[u]nthinkable without society’s active complicity.” Capitalism is an economic system that can only “triumph” when it is “identified with the state, when it is the state,” Braudel (1977: 64) says. In this sociocultural and legal view of economic affairs, Braudel (1977: 75) suggests that capitalism itself did not invent any of the principal features of the contemporary competitive capitalism, including hierarchies, markets, production, or consumption, but “merely uses them” to the benefit of many participants. “In the long procession of history,” Braudel (1977: 75) contends, “capitalism is the later-comer. It arrives when everything is ready.” Seen in this view, the dis-embedding of the corporation from its social context, originally introduced as a vehicle for economic venturing within the realm of interest of the sovereign state, represents a departure from the legislator’s intention. The incorporated business was enshrined by corporate law to benefit multiple constituencies, and bold propositions regarding, for example, overbearing yet hypothetical agency costs derived from managerial opportunism do not in any way change these legal

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statutes, nor justify legal reform. The last three decades of campaigning to render the incorporated business a more straightforward mechanism, conducive to shareholder enrichment, has considerable externalities and social costs that befall other actors than members of the group who promote themselves as the residual claimants. To put it more to the point, shareholder primacy governance is “not good for all,” as its proponents state in passing but with no further justification than a most general efficiency theory assertion. Instead, the socially dis-embedded corporation is “good for some,” and those who benefit have proved to be more concerned with reinvesting their residual cash in high-return assets in the finance industry, as indicated by the ballooning financial services industry, than in new ventures and other essentially illiquid production factors, as stipulated by economists such as Joseph Schumpeter.10 In fact, the image of the shareholder-centric corporate governance model, now being able to fill the shoes of the board-centric model that dominated in the regime of managerial capitalism, is in Schumpeter’s ([1928] 1991b: 239) memorable term, an “ideological fantasy.” Consequently, the embedded autonomy of the corporation remains a vital issue worthy of extended scholarly attention and policy discussions, at least if commentators and more broadly citizens in states hosting differentiated economies are pleased with how the corporate system has functioned for most part of the post–World War II period, managed in balanced ways to attend to both specific constituencies’ interests and matters of joint concern. Such accomplishments should not be abandoned simply on the basis of a handful venturesome propositions derived from efficiency theory–induced models of the corporation, but need to be understood within the horizon of historical processes, and by considering alternative models for the structuring of economic affairs, preferably rooted in solid empirical evidence.

Notes 1. Wright and Nyberg (2017) explore how managers in Australian firms cope with sustainability issues, and argue that managers are neither naïve, nor ignorant, and yet they do not even themselves believe that they are in the position, regardless of their jurisdictional authority and decision-making discretion, to accomplish very much in the various greening of industry projects being initiated. The short-term orientation of the shareholder value governance model has largely undermined managerial maneuverability: The managers we interviewed were, for the most part, emotionally invested and morally concerned about the social and environmental consequences of climate change. However, they were also well aware of their limited room to maneuver and that if they did not fulfill market demands they would be replaced. These managers were pragmatic, rather than cynical or naive. They recognized the tension between meaningful engagement with the grand challenge of climate change and an organizational focus on short-term profitability. (Wright and Nyberg, 2017: 1655)

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3.

4.

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Wright and Nyberg’s (2017) research is therefore supportive of Mizruchi’s (2017) claim that managerial elites are no longer to the same extent capable of jointly responding to social, economic, and, in this case, environmental challenges. Graham’s (2017) study indicates that Americans are much more tolerant of economic inequality than Europeans are, partially because Americans tend to think of poverty and destitution as being self-inflicted predicaments rather than structural features of any given society: “29 percent of Americans believed that the poor are trapped in poverty [due to personal shortcomings], while only 30 percent believed that luck rather than effort or education determined income,” Graham (2017: 6–7) writes. “In contrast, the figures for Europeans were nearly double that—60 and 54 percent.” Such beliefs and attitudes may, at least in part, explain how U.S. policy has been increasingly focused on, for example, fighting crime rather than its source, poverty (Hinton, 2016; Prasad, 2012; Desmond, 2002; Wacquant, 2009). A similar argument is made by Anabtawi and Stout (2008), who draw on fiduciary law and claim that shareholders should be subject to fiduciary duties (for an overview of the literature, see Styhre, 2018). The problem of shareholders overreaching is a major concern in the era of shareholder primacy governance, Anabtawi and Stout (2008: 1260) argue, and propose that fiduciary law can serve as a legal concept that neutralizes and minimizes the influence of “opportunistic and self-serving” shareholders. Fiduciary law may also serve, as an auxiliary benefit, to “constrain managerial misbehavior,” Anabtawi and Stout (2008: 1260) propose. Managerial malfeasance and self-serving behavior is widely stipulated in the economic theory–inspired governance literature (in, e.g., agency theory), but there is no proper evidence of nor any convincing theoretical propositions that exclude, for example, shareholders from acting in self-interested ways so that they impose costs on other constituencies: “[T]here is no reason to assume that activist shareholders are somehow impervious to the same temptations of greed and selfinterest that are widely understood to face corporate officers and directors,” Anabtawi and Stout (2008: 1262) argue. For this reason, shareholders should be conferred with fiduciary duties towards the beneficiary, the corporation as a legal entity. In a few places, such as Iceland, political bodies actually treated managerial malfeasance and excesses in the finance industry as criminal offences, which eventually materialized as a series of prison sentences (Murdock, 2012). In addition to this juridical process, which reflects widely held beliefs regarding the individual’s responsibilities for his or her actions, this steadfast response to the issues at hand helped the Icelandic economy to recover faster than, for example, the Irish economy did. In contrast, Irish political entities handled the finance industry with greater leniency as political actors were concerned that legal charges would damage the Republic of Ireland’s reputation as a pro-business stronghold, a campaign that was successfully launched in the 1990s and that for some time granted the Republic the moniker “the Celtic Tiger” (Murdock, 2012: 545–546). To say that a term has a metaphorical function implies that a metaphor does not have some innate meaning but is merely part of a specific language game. That is, the metaphor is introduced as being a rhetorical device rather than being a scientific proposition to convince an audience of the accuracy of, say, a proposition. In this view, the use of a metaphor is a form of “artistic” device, as stipulated by Donald Davidson (1978). Davidson (1978: 31) characterizes a metaphor as what is fundamentally determined by the context wherein it is introduced, rather than having some definite descriptive or ostensive qualities: “There are no instructions for devising metaphors; there

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is no manual for determining what a metaphor ‘means’ or ‘says’; there is no test for metaphor that does not call for taste. A metaphor implies a kind and degree of artistic success.” Consequently, in economic theory, metaphors are rhetorical devices amid what is otherwise purported to be value neutral and technical vocabulary. 6. In hindsight, Chari and Kehoe’s (2006) praise of macroeconomic theory has not aged to their merit. For instance, in 2014, Larry Summers, a major authority in the discipline testified to the changes over the last period of time: Macroeconomics, just six or seven years ago, was a very different subject than it is today. Leaving aside the set of concerns associated with long-run growth, I think it is fair to say that six years ago, macroeconomics was primarily about the use of monetary policy to reduce the already small amplitude of fluctuations about a given trend, while maintaining price stability. (Summers, 2014: 65) Macroeconomic theory is still the centrepiece of economic theory and policy, but finance theory has arguably advanced its position as a consequence of the centrality of the capital formation process located to the finance industry. The declaration of the end of history was of course, as always, mistaken. 7. In a similar line of reasoning, Rizzo and Whitman (2009: 909–910) argue that behavioral economists, another branch of economic research in microeconomics, are constructing overtly simplistic models to substantiate trivial theories about human behavior. That is, Rizzo and Whitman (2009) argue, these experimentalists were “guilty of the fallacy of the misplaced concrete: simple models were mistaken for a simple world.” 8. What Engelen (2017: 66) refers to as the “the white coat effect” of professionally-trained economists”—that is, their ability to position themselves as neutral and disinterested commentators while they simultaneously claim to have the expertise needed to inform and to prescribe economic policy—is closely bound up with elite power. As Engelen (2017: 64) says, the ability to generate political action and inaction in varying proportions, depending on the situation at hand, hinges on elites’ discursive power that convinces citizens, voters, and taxpayers (i.e., “the public”) that the interests of the elites “serve their preferences.” That is, the ability to tell “convincing”—or, alternatively, distracting or confusing—stories is not so much dependent on what Engelen calls the “truth value” of these stories as on a claim of academic authority. The ability to promote a certain professional community as being comprised of value-neutral commentators who act on behalf of all participants and consider all interests is thus one of the constitutive elements of elite power. 9. Ivan Goncharov’s novel Oblomov (1859) is one of the finest literary accounts of this shift in power relationships. Oblomov was published in the same year, 1859, as Charles Darwin’s Origin of the Species, the scholarly work that unintendedly best captured the spirit of the bourgeoisie revolution as it emphasizes that also in nature and biological systems, it is the venturesome and ambitious individuals that thrive and secure a future for themselves and their kind. In contrast, the eponymous protagonist of Goncharov’s novel, a member of the rentier class of the Russian aristocracy, still being able to live a comfortable and quiet life on the basis of the rents generated in the rural economy and on the basis of serfdom by the mid-nineteenth century, is the counterpoint of this enterprising class. In fact, it takes Oblomov roughly the first 100 pages to even get out of bed, a literary stunt serving the purpose to signal the indolence of the rentier aristocratic class.

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Lounsbery (2011: 44) argues that the stasis of Oblomov is used as a contrast against the changes occurring elsewhere in the industrializing world, also in Russia, including “industrialization and modern financial practices, the impending abolition of serfdom and the expansion of wage labor, the advent of railroads, and a marked increase in the population’s (especially the peasantry’s) spatial mobility” (Lounsbery, 2011: 44). The predicament of Oblomov is that to participate in and to recognize economic liberalism and its emphasis on “boundary-crossing, exchange, circulation, and modernity’s demand for mobility (of both people and goods)” (Lounsbery, 2011: 44) would deprive Oblomov of his identity, rooted in aristocratic privileges and an economic regime based on the exploitation of the rural proletariat. For Borowec (1994: 561), Oblomov therefore epitomizes “the obsolete, feckless aristocracy made possible by serfdom in Russia in the mid-nineteenth century.” In contrast, Oblomov’s friend and companion Andrey Stolz—whose German family name is suggestive as it is associated with a European cosmopolitanism that contrasts sharply against Oblomov’s murky inherited Russian privileges, rooted in a rural economy—is constantly on the move, travelling to places and exploring a new world in the making. For Lounsbery (2011: 51), Stolz “is capitalism,” an embodiment of an economic doctrine and modus vivendi, always ready to dissolve what already exists for the benefit of what may come, and thus making social and economic reality simultaneously solid in its material manifestations (in, e.g., infrastructures and manufacturing facilities) and fluid and changeable. In contrast to Oblomov’s rural, circular conception of time, rooted in the seasons of the year and recurrent agricultural practices, Stolz’s conception of time is chronological and progressive, which makes time the route of an industrial future, but also equates time with money, the primary operational principle of economic liberalism, as eloquently summarized by Benjamin Franklin. 10. Roberts and Kwon (2017: 529) argue that “shareholder corporate governance further privileges financial elites over production-based workers and less affluent households by re-orienting corporate strategy to increase the short-term valuation of firms while divesting from production-based labor.” Within this institutional context, Roberts and Kwon (2017: 529) continue, “elites are able to greatly expand their income in the form of financial rents” (see also Collins and Kahn, 2016; Lin, 2016; Tomaskovic-Devey, Lin, and Meyers, 2015; Fligstein and Shin, 2007).

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Index

Adams, J. 101 agency capitalism 25, 27, 54, 150 anti-corporate protests 74 Aquinas, Thomas 142 Archimedes 159 Aristotle 142 Bagehot rule 118 Barclays 58 Berle-Means corporation 13 betrayal aversion 77 Burke, E. 158–159 California 58 Calvin, J. 143 catallaxy 6 Catholic Church pedophilia scandal 76 Cayman Islands 56 Central bank 122, 140–141 chief risk officers (CROs) 86 clientelism 10 constitutional law 34, 41, 49 coordinated market economies (CMEs) 36 credit rating agencies (CRAs) 108, 126–127, 130, 133, 151 Darwin, C. 162 Delaware General Corporate Law (DGCL) 49, 51 deliberative democracy 97–98 Deloitte & Touche 56 Disney Corporation 75, 101 distributive justice 7 Dubai 56 Dutch East-Indian Company 37–38

economic inequality 7, 10, 18, 20–22, 49, 151, 161 efficiency theory 41–43, 160 Enron 45, 56 Equal Employment Opportunity (EEO) law 32 Ernst & Young 56 ethical banking 85 executive favor rendering 89 Fannie Mae 113–114 Federal Bureau of Investigation (FBI) 58 Federal Open Market Committee (FOMC) 121 fiduciary law 161 Financial Services Authority (FSA) 57 Financial Stability Oversight Council (FSOC) 115 fissured workplace 25 Florida 58 Foreign Direct Investment (FDI) 56 Freddie Mac 113–114 Goncharov, I. 162 Government-Sponsored Enterprises (GSEs) 113 Grotius, H. 34, 37 halo effect 76–77 Hegel, G.W.F. 35–36 Henry VIII 143 Hume, D. 38, 62–63, 158–159 Iceland 161 Initial Public Offerings (IPOs) 18 internal labor markets (ILM) 18, 32–33

186

Index

Jefferson, T. 101 Korean War 16 KPMC 56 Lasalle, F. 36 legal culture 32, 102 legal theory of finance 6, 108, 110–111, 117, 120–121 liberal market economies (LMEs) 36 libertarian paternalism 90, 91, 93, 96–99 LIBOR scandal 57–58, 85 Locke, J. 6, 35–36, 47, 109 Luther, M. 143 mechanical solidarity 15, 73 mock-bureaucracy 83 Modigliani-Miller theorem 20 moral crusader 72, 74, 79, 88, 90 natural law 35 negative freedom 36 New Jersey 50 New York Diamond Dealers Club 73 Nikefication 25 Nixon, R.M. 55, 146 norm entrepreneurs 72, 75, 79, 88, 90, 101 obligational norms 66–67 Oblomov 162–163 Oreseme, Nicholas 142 organizational grey zones 83 over-the-counter (OTC) derivatives market 87, 105 Paine, T. 158–159 Pareto optimality 49 Paribas 140

Peach, R. 125 private equity firms 26 PriceWaterhouseCoopers (PWC) 56 property rights 34–37, 104, 159 Reagan, R.W. 16, 54, 146 Redgrave, V. 75 Republican Party 146, 148 Republic of Ireland 161 reputational entrepreneurs 72, 90 Revlon rules 52 Roman law 37, 55 Roosevelt, F.D. 43 safe assets 112–117 Securities and Exchange Commission (SEC) 115, 128, 138 shadow money 115–116 Smith, A. 62 social capital 69, 72, 101 spontaneous order 5–10, 153 tax avoidance 56 tax evasion 56, 69, 144 tax haven 51, 56, 144, 149 Turing Pharmaceuticals 1–2, 144 U.S. Commodity Futures Trading Commission (CFTC) 57 U.S. Department of Justice 57, 59 Valeant Pharmaceutics 1–3, 144 Vereenigde Oost-Indische Compagnie (VOC) 37 Walmart 17, 75 welfare economics 7, 9 Wilde, O.F.O.W. 73–74 Wilson, W. 50