Fort and Schipani: Competitive Corporations with Moral Integrity: A Blended Modal of Corporate Governance

COMPETITIVE CORPORATIONS WITH MORAL INTEGRITY: A BLENDED MODEL OF CORPORATE GOVERNANCE

Timothy L. Fort*
University of Michigan

and

Cindy A. Schipani**
University of Michigan

Cite as 1 ALSB INT'L BUS. L.J. 62

The point is that capitalism, albeit on another level and not in such trivial forms, is struggling with the same problems [as communism]…it is well- known, for instance, that enormous private multinational corporations are curiously like socialist states; with industrialization, centralization, specialization, monopolization, and finally with automation and computerization, the elements of depersonalization and the loss of meaning in work become more and more profound everywhere…IBM certainly works better than the Skoda plant, but that doesn't alter the fact that both companies have long since lost their human dimension and have turned man into a little cog in their machinery, utterly separated from what, and for whom, that machinery is working, and what the impact of its product is on the world.¹

I. Corporate Governance: Efficiency and Equity | II. Comparative Corporate Governance | III. A Blended Model: Business as a Mediating Institution | IV. Conclusion

Capitalism has an enviable record of creating wealth, opportunity, and technological advances. No other economic system in human history has produced an equivalent standard of living. Yet apart from the important issues raised by environmentalists and abstracted from the passion of protests in Seattle² and Davos,³ there is an unease associated with capitalism, an unease captured by Vaclev Havel, the President of the Czech Republic, in the opening quote. On the one hand, it is absurd to compare the dreariness of an Eastern European plant with the clean efficiency of a U.S. technology firm, even one as large as IBM. On the other hand, the unease that Havel expresses is one in which human beings lose a sense of their personhood in the midst of a centralized, controlling, corporate megastructure. Although people in free market capitalism undoubtedly have vastly superior freedom to choose what companies they work for, the logic of efficiency and bureaucracy requires them to adopt roles that can change persons into cogs.

This problem has not gone unnoticed. Indeed, it is a central concern of what can be called communitarianism. Communitarians worry that human beings lose a sense of their social identity in free market economics, a free market dominated by a contractarian approach to business relationships.⁴ As a result, a substantial portion of the twentieth century featured debates among American corporate theorists as to whether corporations should be considered a natural entity with responsibilities for its stakeholders or instead the resulting web produced by a nexus of contracts among individuals, who are self-interested and who measure the success of the firm through profitability.⁵ In addition, this question of the meaning of the purpose of the firm is one raised in comparative literature, where Japan and Germany are seen as emblematic of countries with communitarian corporate governance structures, in contrast to the U.S. and U.K., which feature contractarian models.⁶

In this paper, this divide is explored by comparing the governance structures of the United States, Japan, and Germany. In Section I, the communitarian and contractarian schools of thought are briefly reviewed. Section II provides the comparative foundation, analyzing salient features of corporate governance in the U.S., Japan and Germany. With this background, Section III then attempts to address the problem Havel raised by engaging in a thought experiment about what a blended model, a model combining features of contractarianism and communitarianism, might look like. The model we propose is one that considers businesses as mediating institutions, that is as corporate communities that compete in the marketplace as well as support the moral dispositions of its employees and shareholders. Section IV contains concluding remarks.

I. CORPORATE GOVERNANCE: EFFICIENCY AND EQUITY

Corporate governance can be described as the top management process that manages and mediates value creation for, and value transference among, various corporate claimants in a context that ensures accountability toward these claimants. This definition of corporate governance emphasizes the roles of both claimants and accountability. Claimants include shareholders, employees, customers, creditors, suppliers, competitors and even society at large. Including accountability in the definition of governance reflects the principle that good governance is a two-way street. Just as the corporation is responsible for governance to its stakeholders, governance practices determine how the stakeholders monitor and control the firm. At the heart of good governance, therefore, are methods for dealing with both efficiency and equity.

The corporate governance models followed by the U.S., Japan, and Germany reflect two dichotomous schools of thought regarding the roles and purposes of the corporation in modern society. At one extreme are contractarians, who view the corporation as a nexus of contracts whose sole purpose is to serve the shareholders. At the other extreme are communitarians, who consider the corporation a separate legal entity, with responsibilities not only to shareholders but also to other stakeholders and to society at large. The U.S. provides an example of a country heavily rooted in a contractarian, shareholder primacy approach whereas Japan and Germany have traditional appeared more aligned with the communitarian ideals. Upon closer examination, however, shifts in the corporate governance systems of Japan and Germany suggest a trend in these largely communitarian-based countries toward a more shareholder-based approach. At the same time, commentators have recommended that the U.S. consider the virtues of systems that "encourage, if not command, corporations to take into account the interests of workers and other nonshareholder constituencies when making strategic decisions."⁷

A. Communitarianism

The communitarian theory views the corporation as a separate entity, independently capable of doing harm and good. As such, the corporation has social responsibilities not only to shareholders but also to the firm’s other stakeholders and to society at large. Under this paradigm then, non-shareholder constituencies are given legislative protections. Difficulty arises, however, when these separate interests begin to conflict, as it becomes difficult, if not impossible, for management to consider the needs of every possible stakeholder, and there is no clear delineation in the social, political or economic realm to help management make choices.

One of the most positive features of a more communitarian paradigm is lifetime employment. It gives employees a greater incentive to develop and supply firm-specific human capital and encourages stronger employee loyalty. It may facilitate team efforts, and lifetime employees may be more willing to make concessions in times of financial distress.

The more concentrated, relatively permanent ownership structure of corporations in communitarian regimes such as Japan and Germany offers additional advantages. Large shareholder involvement means shareholders can intervene quickly when a crisis hits. Block ownership facilitates a great deal of mutual monitoring. It could lower the cost of equity capital. Banks may facilitate the governance process. They have a great deal of access to inside information, can lower the cost of debt, and resolve financial distress much more informally than in a contractarian regime.

Communitarian systems, however, are not without costs. The most serious long-term competitive issue for communitarian countries such as Japan and Germany may be the bias in their systems against start-ups, research and development and human-capital intensive industries.⁸ The average age of a listed firm in the U.S. is 14 years for the NYSE and 13 for NASDAQ.⁹ For the German stock exchange, the average age is about 55 years.¹⁰ In the U.S., 40% of the companies listed on the stock exchange are less than ten years old; in Japan this figure is .7%.¹¹ The OECD has concluded that compared to the U.S., both Japan and Germany have a comparative disadvantage in the high-technology sectors.¹² For example, neither Japan nor Germany has a true U.S.-style venture capital industry.¹³ And the bank-centered nature of businesses in communitarian regimes have related consequences. Banks have a bias against risk that manifests itself in a bias against start-ups.¹⁴ Banks focus on assets that can be collateralized, creating a bias against intangible investments, including research and development. This may lead to excessive hedging and excessive investment in insurance.

Communitarian infrastructures often are characterized by inflexibility in a number of areas, including sourcing strategies, labor markets, and corporate restructurings.¹⁵ These companies are less likely to be able to move quickly to meet competitive challenges from the global product market arena. Globalization strategies may be hindered because of a vertical chain of relationships. These relationships, often due to differences in legal regimes, may not be portable across borders. Intercorporate holdings pose similar problems for firms considering a global strategy.

For example, in 1996, the average German manufacturer paid approximately $32 per hour of employee work, while Japanese manufacturers paid approximately $21 per hour.¹⁶ In the U.S. the rate was approximately $17.75 per hour.¹⁷ Inflexible labor markets contributed to high unemployment rates in Europe in the 1990s, whereas unemployment has steadily declined in the U.S. over the past two decades.¹⁸

Communitarianism is thus under strain in a world where international capital flows, human-capital intensive technologies have become the norm, and there are more nebulous organizational boundaries. The strain comes from the nature of corporate strategies that communitarian styles of governance engender. These styles result in excessive risk avoidance, overinvestment in capacity, brand/product proliferation, excessive hedging, absence of external controls, and insufficient attention to shareholder wealth creation. Nonetheless, even if the future shuns communitarian governance, it need not shun socially responsible corporations exemplifying communitarian values.

B. Contractarianism

Contractarians consider the firm’s shareholders as the primary constituency of concern to management. Because they view corporations as a nexus of contracts, they tend to prefer to rely on voluntary contracting and market forces to align the interests of managers and shareholders. Other stakeholders are presumed to have the knowledge and means to make Coasian bargains with those persons managing the corporation.¹⁹ Integral to this approach to corporate governance, then, are the various market forces, including the capital market, the product market, the managerial labor market and, perhaps most importantly, the market for corporate control. Market forces will discipline management to act in the interest of the shareholders, the residual claimants. The market will penalize inefficient contracting. Also imperative to this schematic are public policy and a legal regime facilitating freedom of contract.

The problem with this approach, however, is the inevitable lack of perfect market conditions. Instead, the environment includes disputes due to ambiguities in language, unforeseen circumstances, information asymmetries, transactions costs, and unfortunately, outright fraud. Even greater problems arise when contracts are attempted in a global environment in which different legal regimes may make contracting inefficient and property rights unenforceable.

The problems of communitarianism and contractarianism reach their zenith when their models are applied at large-scale levels. For communitarians, as Havel implies, the creation of large bureaucratic structures typically does not mean that institutions are operated for the benefit of all constituents, but rather for the benefit of elites that control centralized power. As the last decade has shown in Japan and Germany, the communitarian design can dampen creativity, initiative, and adaptiveness.²⁰ Although the rhetoric of communitarianism is one that values solidarity, empathy, integrity, and responsibility, the linkage of these virtues to vast nation-states, and to large corporations, undermines communitarian virtues themselves both by reducing their competitiveness vis-à-vis the rest of the world and, more subtly, by the internal dynamics of the community itself.

For contractarians, the focus on efficiency and access to capital makes the manipulation of employees necessary. Employees easily become known as "labor inputs" and thereby become depersonalized in a way like, although not to the same degree as, the depersonalization of socialist states. The need for treating employees as "labor inputs" or "cogs" is why Havel says the issues facing IBM and old socialist factories are the same. In both, human beings adopt a role at work that can restrict rather than enhance their ability to approach work in a way meaningful to them. In short, corporations can be alienating and sometimes resemble socialist (or feudal) states uninterested in human beings because economic criteria is simply too narrow.²¹

Moreover, it has been argued that the contemporary world is bureaucratic.²² A decision made by, for example, corporate managers, "disguises and conceals and it depends for its power on its success at disguise and concealment."²³ In a bureaucratic system, people do not ask ultimate questions because they assume that they cannot ultimately adjudicate among various moral traditions. Instead they rely upon a process which will generate choices and allow them to determine autonomously what particular option maximizes individual self-interest. This is precisely the basis of free-market economics. It is based not on determining the "good" of a product, but on how to efficiently produce a product that meets market demand.

Consumer choice, legal regulation, and competition then determine what products are acceptable. The manager does not ask ultimate questions, because asking such questions simply is not his job as an agent. The argument is that the model depends upon its power (of managerial efficiency) and the ability to conceal the fact that deep values are at stake in corporate affairs. This paper focuses on the development of a corporate governance structure that blends a contractarian model that values transparency, efficiency, and initiative with a communitarian model that values empathy, solidarity, integrity, and identity. Put another way, the proposed blended model seeks to create corporate communities that can compete aggressively with other corporations in a global marketplace.

II. COMPARATIVE CORPORATE GOVERNANCE

What differentiates the governance structures of the U.S., Japan, and Germany are the roles the various stakeholders play in monitoring and controlling the firm. For example, in the U.S., the primary stakeholder has been the shareholder, whereas in Japan and Germany, labor historically also has had a relatively strong voice. However, none of these countries take an all-or-nothing approach. Rather it appears that some of the more communitarian features of Japan and Germany are finding their way into U.S. governance practices,²⁴ as the more contractarian features of the U.S. are gradually being incorporated into Japanese and German practices.²⁵

The structure that typifies U.S. capitalism traditionally has been differentiated from both Japan and Germany in the way it configures the factors that create accountabilities. In focusing on the well-being of the shareholder, the U.S. governance system has emphasized efficiency, with impressive results. A market designed to transparently provide information to a wide range of investors has been able to generate effective discipline for managers to run efficient operations.

The contractarian governance model prevalent in the United States in large part may be the result of the greater reliance U.S. corporations place on external capital markets to provide corporate funding. Investors in such markets are concerned with returns on their investments and thus demand efficiently-run businesses. This has resulted in a much larger equity market with relatively liquid funds. There are over 9,000 firms listed in the three major stock exchanges in the U.S., the New York Stock Exchange, the American Stock Exchange and NASDAQ.²⁶ In contrast, Japan lists only 1,800 firms,²⁷while in Germany fewer than 700 firms are listed in the equity markets, although there are nearly a half million German corporations.²⁸Listed firms account for only about 20% of the corporate revenue in Germany,²⁹and stock market capitalization as a percentage of GDP is less than 40%, compared to 57% in Japan and 136% in the U.S.³⁰

The liquidity provided by American markets also makes possible contested ownership of corporations themselves. In recent years, the U.S. has accounted for more than half of all merger and acquisition activity worldwide.³¹ The combination of liquidity and potential competition provides further incentive to executives to manage their businesses efficiently, lest they lose control.

In contrast, the market for corporate control is relatively inactive in Japan. Between 1985 and 1989, mergers and acquisitions accounted for just over 3% of the total market capitalization, and all were friendly transactions.³² The words used to describe takeovers in Japan include miurisura (to sell one's body), baishu (bribery), and notorri (hijack), suggesting a cultural aversion to takeovers.³³ Anti-takeover defenses such as poison pills and golden parachutes are rarely found in corporate charters or by-laws. Cross-shareholding is used as an anti-takeover device, although it is limited by Japanese law. Cross-shareholdings by subsidiaries in their parents is prohibited, and voting by companies with large cross-shareholdings is restricted under the Japanese Commercial Code.³⁴

The market for corporate control is also poorly developed in Germany. Between 1985 and 1989, only 2.3% of the market value of listed stocks were involved in mergers and acquisitions, compared with more than 40% in the U.S.³⁵ Corporate combinations tend to be friendly, arranged deals, rather than hostile takeovers and leveraged buyouts.³⁶ While there are informal guidelines, there is no commonly-accepted formal German takeover law, and anti-takeover provisions, poison pills, and golden parachutes have not been introduced.³⁷

Disclosure rules also distinguish the U.S. from Germany and Japan, in part due to the dependency of U.S. corporations on the stock market for external financing. For example, the Organization for Economic Cooperation and Development (OECD) has collected survey data to rate corporations on their disclosure based on three standards: "full disclosure," partial disclosure," or "not implemented." Two-thirds of U.S. firms surveyed met the full disclosure standard, with the remaining one-third meeting the partial disclosure standard.³⁸ In contrast, in Japan, only 1% of the firms met the standard of full disclosure, while in Germany, no firms met the full disclosure standard.³⁹ The high level of disclosure in the U.S. is likely due in large part to the Securities and Exchange Act of 1934, which mandates disclosure of corporate activity and delegates power to regulate proxy communications to the Securities and Exchange Commission (SEC).⁴⁰

Rather than focus on the protection of creditors, employees or other stakeholders, U.S. accounting rules emphasize the provision of accurate economic information to potential investors and shareholders.⁴¹ Thus, for example, U.S. securities are evaluated at market price rather than historical cost.⁴² In Germany, marketable securities are carried at historical cost, and tangible fixed assets are carried at cost, less depreciation, resulting in an understatement of true asset values.⁴³

Despite the emphasis on shareholder wealth, few people see the current U.S.-style of corporate governance as blindly profit-oriented at the expense of the community. While employees suffered greatly at the hands of corporate downsizing in the 1980s, such pain generally was not associated with the takeovers of the 1990s. Further, employees can use stock ownership to protect themselves and force management to consider their interests as part of the fiduciary duty to shareholders. According to a recent study by the National Center for Employee Ownership, employees now control more than 8% of total corporate equity in the U.S.,⁴⁴ compared with 1-2% ten years ago.⁴⁵ NCEO estimated that as of August 1997, employees owned $663 billion of the estimated $8 trillion in corporate equity, $213 billion through employee stock ownership plans, $250 billion through 401(k) and profit sharing plans and $200 billion through broadly granted stock options and other broad ownership plans.⁴⁶ The growth and impact of employee ownership is illustrated by the July 1994 acquisition of 55% of United Airlines by the pilots and machinists unions in exchange for $4.9 billion worth of salary and other concessions.⁴⁷ Five years later, the company is operating profitably, and the unions have realized a profit of several billion dollars.⁴⁸ It is therefore no coincidence that the attitude of labor toward management also has become less confrontational. Despite some high-profile strikes such as the United Parcel Service strike in August 1997⁴⁹ and the General Motors strike in June 1998,⁵⁰ the number of major strikes in the U.S. reached a record low of 17 in 1999, idling a total of 73,000 workers for an average of 16 days per strike.⁵¹

Recent events suggest that the traditional distinctions between the U.S., Japanese and German systems may be changing. The Tokyo Stock Exchange recently has ruled that in filing their results, all listed companies must disclose their efforts to improve corporate governance.⁵² Increasing pressure for transparency and corporate accountability has led to the implementation of significant accounting reforms over the past year.⁵³ In Germany, landmark legislation was passed last spring to authorize share option schemes and share buybacks, curb voting restrictions and allow companies to use more liberal, non-German accounting standards.⁵⁴ New financial disclosure rules also have been suggested,⁵⁵ and insider trading laws have been introduced.⁵⁶

With the apparent convergence toward a more open, transparent, and liquid external market, it is worthwhile to compare the corporate governance features of the U.S., Japan and Germany in an attempt to pull from each approach the best practices that might be included in a blended model. The next part thus compares the corporate governance features of the U.S., Japan and Germany along the following lines: (1) goals of the corporation; (2) ownership structure; (3) board composition; (4) managerial labor markets; and (5) executive compensation.

A. Features of Corporate Governance 1. Goals of the Corporation

In the U.S., federal law has not been involved in the internal workings of the corporation and has not weighed in with a corporate purpose. Instead corporate law has primarily been the province of the states. Historically, legislatures only granted corporate status to organizations that would benefit the public generally, such as municipalities and public utilities.⁵⁷ Through the dynamics of 19^th Century industrialization, the rise of the influence of Adam Smith's invisible hand theory of social benefits from self-interested economic acts, and the populist reforms that swept the nations after the presidential election of Andrew Jackson, the granting of corporate charters became ministerial rather than a legislative act.⁵⁸ This move undermined cronyism that accompanied legislative grants of corporate charters, but it also minimized the public purposes for which a corporation had to be accountable.⁵⁹ Thus, historically, even in the United States, there was a tension between public and private accountabilities of the corporation, a tension that has raised its head throughout American corporate legal history.⁶⁰

Nevertheless, for the past one hundred years or so, a corporation has been able to be formed for no more specific purpose than to "engage in any lawful act or activity for which corporations may be organized."⁶¹ In 1919, the Michigan Supreme Court made it clear that "[a] business corporation is organized and carried on primarily for the profit of the stockholders."⁶² The American Law Institute also asserts that a corporation’s primary objective should be "corporate profit and shareholder gain."⁶³ However, the adoption of other constituency statutes by most states has changed long-standing conceptions of corporate purpose. Previously shareholder primacy was based upon, and ensured by, the director’s exclusive duty to shareholders. Other constituency statutes alter the nature of a director’s fiduciary duty by allowing, and in some circumstances requiring, consideration of non-capital stakeholders.⁶⁴ This change is not as fundamental as it may appear, however, because Delaware, the place of incorporation for more than 300,000 American corporations,⁶⁵ has not adopted legislation allowing or mandating directors to consider the interests of non-shareholder constituencies. In addition, although there have not yet been efforts to repeal the statutes, they have been heavily critiqued as nothing more than a shield used to expand the discretion given to directors, making the board less accountable to all stakeholders.⁶⁶ Another school of thought argues that constituency statutes "simply ratify preexisting corporate law" and therefore will not produce social change.⁶⁷

Traditionally, Japanese corporations have operated to benefit a small group of owners, rather than to maximize shareholder value.⁶⁸ The corporate governance system emphasizes the protection of employee and creditor interests as much or more than shareholder interests.⁶⁹ Management has had few direct incentives to enhance shareholder value.⁷⁰

German law clearly defines the goals of German corporations.⁷¹ In 1937, the German government adopted a new business corporations statute, consolidating nearly fifty years of corporate laws and amendments. The law reads: "The managing board is, on its own responsibility, to manage the corporation for the good of the enterprise and its employees, the common weal of the Volk [citizens] and the Reich [State]."⁷² The law also provides that if a company endangers public welfare and does not take corrective action, it can be dissolved by an act of State.⁷³ Although this statute thus contains the first non-shareholder constituency clause, it is equally noteworthy for its omission of shareholders from the constituencies to be considered in management decisions. Shareholders were not specifically mentioned until the statute was revised in 1965.⁷⁴ Still, German corporate law clearly shows that mangers must operate the firm for the benefit of multiple stakeholders, not just shareholders.⁷⁵ The propagandist language used throughout the 1937 Act was common to Nazi propaganda of the Interwar Period urging Germans to sacrifice personal interests in the name of the Reich. However, modern Germany clearly demonstrates that this scheme of corporate governance does not inevitably lead down the road to statism, collectivism and the destruction of individual entrepreneurialism.

This history of the German statute allows us to foreshadow a central claim of this paper, to be developed in Section III. To the extent the German structure is an example of a communitarian regime that attempts to link an individual to a megastructure, it can pose serious risks of coercion and excessive sacrifice of individual needs to those of the community. Human beings authentically develop the sentiments communitarianism champions — for example, empathy, solidarity, and commitment to the common good⁷⁶ — in much smaller "mediating institutions," not in large communities where such sentiments often are rhetorical fig leaves covering coercive leadership.

2. Ownership Structure

In the last 25 years, the role of the institutional investor in U.S. corporations has grown dramatically. In 1997, public mutual funds and other similar investments accounted for almost 50% of all equity in U.S. corporations.⁷⁷ Pension funds hold close to 25% of U.S. shares.⁷⁸ U.S. households own slightly more than 50% of all outstanding domestic shares, representing more than double the percentage owned by German or Japanese households.⁷⁹ Ownership by banks and other U.S. corporations is small relative to other developed nations.⁸⁰

Traditionally Japan’s industrial organization system has been defined by the keiretsu, groups of networked firms with stable, reciprocal, minority interests in each other.⁸¹ Typically the firms in a keiretsu are separate, independent, joint-stock companies that have implicit and relational contracts with each other on such matters as ownership, governance, and commercial contacts. Keiretsus can be either vertical or horizontal. Vertical keiretsus are networks consisting of a loose collection of firms from the supplier to the distributor chain. Horizontal keiretsus are networks consisting of a loose collection of businesses in similar product markets. A large main bank that conducts business with all of the member firms and holds minority equity positions in each of the firms usually will be a member of a horizontal keiretsu.⁸² Relative to the total number of joint-stock companies, the number of keiretsu in Japan is small. However, collectively, keiretsu firms represent approximately 25% of the total sales in the Japanese corporate sector and close to 50% of the value of all listed stock in Japan.⁸³

History provides a good illustration of how a keiretsu operates. In 1974 Mazda Motors faced bankruptcy when sales of its rotary-engineered cars plummeted as a result of the oil crisis.⁸⁴ Mazda was a member of the Sumitomo keiretsu, and the group’s chief bank, Sumitomo Trust, was a major lender and shareholder in the car company. Sumitomo Trust took the lead in reorganizing Mazda, dispatching seven directors and forcing it to adopt new production techniques. The other members of the keiretsu switched their automobile purchases to Mazda, the parts suppliers reduced prices, and lenders provided the necessary credit. As a result, Mazda survived without requiring any layoffs, although management and workers received smaller bonuses.⁸⁵ Taken alone, none of the decisions to save Mazda by the members of the Sumitomo keiretsu made economic sense. Whether the decisions taken together made economic sense remains a much-debated question.⁸⁶ The example, however, serves to illustrate the degree of sacrifice members of a keiretsu are willing to undertake to prevent one of its members and that member’s stakeholders from experiencing the pains of market change, pains that American management would argue ensures efficiency. Many people contend that the painful downsizing of U.S. corporations in the 1980s is at least in part responsible for the U.S.’s current economic boom and, similarly, that Japan’s refusal to accept such pain has created its current economic crisis.⁸⁷

Evidence suggests that many of the keiretsu bonds are now beginning to soften or break. For example, parts procurement in the auto industry has long been viewed as a model of Japanese vertical keiretsu, but Japanese automakers purchased $15.5 billion of U.S.-made parts in 1993, a six-fold jump since 1986.⁸⁸ In 1994, Japanese car companies did business with 1,245 companies, compared with only 298 in 1987.⁸⁹ Purchasing companies, pressured by global competition, have sought lower-cost suppliers outside of their keiretsu networks.⁹⁰ The merger of the Industrial Bank of Japan (IBJ), Fuji Bank and Dai-Ichi Kangyo Bank (DKB) announced in the Fall of 1999, and any further banking consolidation, will undoubtedly have an significant impact on the keiretsu system.⁹¹ The most likely effect will be the dilution of the major keiretsu groups’ power and influence. In addition, banks involved in the mergers may have to divest at least part of their stakes in related industrial companies in order to comply with Japanese law.⁹²

Frequently, in Japan, a small group of four or five banks will control between 20 and 25%.⁹³ Thus, despite a prohibition on Japanese banks holding more that 5% of a single firm’s stock, banks may be the only shareholders who can easily influence a firm’s management.⁹⁴ In practice, however, bank shareholders often will not intervene in firm management unless the firm performs poorly.⁹⁵ The largest bank shareholder is also usually the largest debtholder.⁹⁶

The role of banks in financing has been decreasing in the past decade. Historically Japan’s legal and regulatory regime was heavily biased against non-bank forms of finance; however, since the mid-1980s, these restrictions gradually have been relaxed.⁹⁷ Cross-shareholding is declining, as companies recognize that they may no longer have practical value and in fact may even create obligations which are not good for business in the long-term.⁹⁸ Between 1992 and 1998, company cross-shareholding decreased from a high of 52% to 45%.⁹⁹

The ownership structure of equity in Germany also differs substantially from that in the U.S. Ownership in Germany is concentrated and controlled in large part by banks. Banks own approximately 14% of shares of German corporations, while roughly 40% are owned by other German corporations.¹⁰⁰ Bank ownership is high in Germany, in part because a substantial portion of equity in Germany is in the form of bearer stock and left on deposit with banks.¹⁰¹ Banks are permitted to vote the shares on deposit by proxy unless the depositors explicitly instruct the bank not to do so.¹⁰² However, here, too, there are signs of change. For example, banks are being encouraged to divest their corporate shareholdings and to reduce their lending exposures to individual companies.¹⁰³ In addition, new laws require German investors to disclose the details of share ownership of greater than 5% in a company,¹⁰⁴ and foreign ownership in German corporations have increased as a result of relaxed foreign share ownership rules.¹⁰⁵

3. Board Composition

In the U.S., shareholders typically elect directors at annual shareholders meetings. Similarly, shareholders have the power to remove directors either with or without cause, unless the articles of incorporation or by-laws limit this power to removal for cause only.¹⁰⁶ Labor is rarely involved in the corporate governance system. In the majority of U.S. corporations, several directors will be named from outside of the company.¹⁰⁷ The role of the board of directors is to monitor a management team that it hires to carry out the day-to-day operations of the company.

Japan, like the U.S., uses a single-tier board structure.¹⁰⁸ Traditionally, Japanese boards have been large, increasing with the size of the firm.¹⁰⁹ One of the primary reasons for the large board size is that directorships were given to company managers as rewards for loyalty and long service.¹¹⁰ Some of the largest Japanese firms have had more than 50 directors.¹¹¹ Another traditional characteristic of Japanese boards has been a domination by older men, nearly all of whom are insiders of the company.¹¹² Most typically, board members will be current or former senior and middle management.¹¹³

There are, however, signs of sweeping change within the Japanese boardroom. For example, in April 1999, Nissan announced a reduction in its board size from 37 to 10, with a younger average age and three new directors from Renault, the French car maker which purchased a 36.8% stake in the company.¹¹⁴ Sony was one of the first Japanese companies to reform its board, reducing the size from 40 to 10 in 1997 and including three independent, non-executive directors.¹¹⁵ Following the changes commenced by Sony and Nissan, nearly 200 other companies, including trading houses, leasing companies, insurers and supermarket chains, have announced plans to shrink their boards.¹¹⁶ Reasons for the reductions range from simple cost cutting to, in Sony’s case, a deliberate effort to remove day-to-day managers and enable the board to focus on hard strategic decisions.¹¹⁷

Some Japanese firms have retained large boards but shifted management decisions to other forums. For example, Matsushita is now run by a group management committee which meets weekly and consists of four board members, who bring in other managers as needed.¹¹⁸ This enables the company to make much faster decisions than the traditional approval method.¹¹⁹ Other companies similarly have shifted away from consensus decision-making to a more top-down management system. Mitsubishi now has a single management committee, composed of the heads of its previous multiple committees system.¹²⁰ In addition to shrinking their boards, Japanese companies have discussed importing outsiders to their decidedly inward looking boards. The Keizai Doyukai, an association of corporate executives, has recommended that at least 10% of board directors come from outside the company.¹²¹

The system used in Germany is significantly different from those in either the U.S. or Japan. In large German firms, employees select half the board of directors.¹²² It is speculated that this practice — known as codetermination — traditionally influenced firm management and stockholders to limit the flow of information to the board and otherwise minimize its functions.¹²³ Modern German companies manifest the co-determination philosophy through a two-tier board structure. Large firms with over 500 employees are required to have this structure, which divides the oversight role into two functions. A supervisory board performs the strategic oversight role, while a management board performs the operational and day-to-day management oversight role.¹²⁴ There can be no membership overlaps between the two boards; membership overlaps between boards of different corporations are restricted and rare.¹²⁵ In firms with over 2,000 employees, employees of the firm must comprise half of the supervisory board; shareholder representatives make up the other half.¹²⁶ Typically, the supervisory board chairperson is a shareholder and has the tie-breaking vote.¹²⁷ Supervisory boards also may include representatives of firms with whom the corporation has vertical relationships, such as suppliers and customers.¹²⁸ The supervisory board appoints and oversees the management board. The management board is comprised largely of the firm’s senior management.¹²⁹ Consequently board members tend to posses technical skills related to the firm’s product(s), as well as substantial firm- and industry-specific knowledge. The German board structure thus functions to explicitly represent the interests of non-shareholder constituents and ensures that major strategic decisions cannot be made without the consent of employees and their representatives.¹³⁰

4. Managerial Labor Markets

While the U.S. has an active market for managerial labor, inter-corporate mobility is limited in Japan and Germany. Historically, employees in these countries have tended to stay with one company for most of their careers. In Japan this has been due primarily to the practice of "lifetime" employment, which causes closure of the external labor market.¹³¹ Employees have been encouraged to remain at firms which traditionally have provided much greater levels of responsibility, discretion, benefits and guarantees to their employees than comparable U.S. corporations.¹³² An early retirement age of 55 years also has contributed to the limited managerial labor market.¹³³ In Germany limited inter-corporate movement may be due to extensive apprenticeships and training which build firm-specific human capital.¹³⁴

5. Executive Compensation

In the past few years, U.S. newspapers and magazines have headlined rising U.S. executive compensation levels. Last year, the average U.S. Chief Executive Officer's (CEO's) total pay was 442% higher than in 1990.¹³⁵ The pay increases largely have been due to the growing use of stock options, a measure initially introduced to better align executive and shareholder interests by rewarding CEOs for driving up stock prices. A bull market has made stock options especially lucrative. As a result, in 1998 the average total pay for a U.S. CEO was 419 times greater than the average pay of a blue-collar worker.¹³⁶ This compares with a multiple of 15-20 in Japan and Germany.¹³⁷

Stock options were behind the huge differential between the compensation levels of the heads of Chrysler and Daimler-Benz at the time of the 1998 merger of the U.S. and German companies. While Bob Eaton and Jurgen Schrempp had similar salaries, in the $1-2 million range, Eaton’s total pay was seven times that of his counterpart, largely because he received a $1.2 million performance-share payment and $10 million in options.¹³⁸ In 1988, the average CEO who was a member of the Financial Executive Institute received four times his or her base salary in stock options.¹³⁹

Outside of the U.S., stock options are infrequently used as compensation, and when they are, it is to a much lesser degree.¹⁴⁰ This may in part be due to complicated laws and cultural conditions. Stock options were illegal in Japan until 1997.¹⁴¹ Now, in order for a U.S. multinational with more than 50 employees to issue stock options, it must go through a cumbersome annual notification process with the Ministry of Finance.¹⁴²

The Japanese culture traditionally has supported an egalitarian pay structure. Directors’ pay has been low and fixed.¹⁴³ Although change to pay arrangements has been slow, recently some large companies have announced plans to give more weight to individual performance rather than length of service.¹⁴⁴ This shift is likely to be buttressed by government-initiated reform. For example, the Japanese government recently has announced plans to further deregulate the banking, securities, foreign exchange, and insurance sectors by 2001.¹⁴⁵

In Germany, stock options became legal in 1998.¹⁴⁶ However, the response of German Daimler-Chrysler shareholders to the compensation discrepancy between Eaton and Schrempp suggest significant cultural resistance to stock-option programs.¹⁴⁷ Few major Germany companies have introduced stock option schemes.¹⁴⁸ Instead, management compensation is usually in the form of fixed salaries and bonuses.

B. Benefits and Shortcomings of the Various Approaches

Shareholder primacy, though slightly amended, is still the rule in the U.S., and with a greater swath of the population owning shares and the unsurprising fact that bad community relations hurt profits, the adoption of communitarian values in this still very contractarian regime is understandable. If it is true that a contractarian regime produces more wealth, it is also true that a community of shareholders can re-invest that wealth as they see fit — a very American twist on the centralized control of corporate social conscience as exercised by Germany and Japan.

The benefits of free markets, transparency, and efficiency provide opportunities for large organizations that can take advantage of efficiencies of scale in intra-organizational synergies and in increasing market share. This risks, however, simultaneously turning the human beings who work in large corporations into mere labor inputs. To use Havel's term, it makes them "cogs." Two conditions particularly threaten this kind of alienation. One is the extent to which workers, whether managers or line-workers, have a sense of ownership of their jobs and with such ownership, a right as citizens of the corporation to participate in the governance of the institution.¹⁴⁹ The second is the extent to which the corporation acts as a social construct where important relationship are formed among those who work there.

The heart of the problem is that the anonymity of markets and the anonymity of large corporate bureaucracies tend to overwhelm the individuals working in them.¹⁵⁰ Contemporary governance structures tend to make individuals into what Havel feared: cogs. While efficiency is a good value, it must be balanced with work that is valued by the worker. Ironically, although purporting to provide a social connection to work, communitarian regimes have similar problems of alienation when they attempt to provide "community" in megastructures.

The German system, for instance, is not immune to its own creation of elites in opposition to a full-fledged participatory notion of corporate governance.¹⁵¹ To be sure, employees do have a greater potential role in shaping German corporate behavior. To the extent such a voice can be raised, the German system has a mechanism to broaden corporate concern beyond that of monetary goals. Yet an insular group of creditors and investors could be even more dangerous to social concerns. One reason this could be true is the lack of accountability. Centralized control of information and a lack of American-style sensitivity to pluralistic concerns could make a board less concerned with a broad range of stakeholder issues. To the extent the U.S. system requires significantly enhanced disclosure to the public and investors, it counteracts the elitism of the German model. Thus, a model that, like the German model, allows key stakeholders, such as employees, to have a vote may be an improvement for the protection of their stakeholder interests, but to avoid a new set of cronyism, governance decisions should also be transparent, as U.S. governance requires.

Two important lessons can be gleaned from the German situation. First, a mechanism for enhancing stakeholder concerns can be designed in the form of oversight boards. Second, in doing so, it is important to not simply create another "in-group" which can dominate corporate policy. If an oversight board is to be designed, it must be small enough to be practical, yet diverse enough to function as a proxy for pluralistic interests. Joined with the transparency of an American system, such a board would have the benefits of a protected group of stakeholders — the employees — subject to the review of other stakeholders.

Many of the same benefits and criticisms of the German model also apply to Japan. What is highlighted in the Japanese model is the view of corporate life as a social one. Perhaps more accurately, the Japanese model is more a family model. It is not surprising then that the Japanese corporation is described as being seen by employees as a social entity as well as an economic one.¹⁵² The reasoning connects with a normative framework in Japan that is more relational than what we might expect to acknowledge in the United States.¹⁵³ In Japanese thinking, "a person becomes a full person only through a social network, and an independent person without a social network is, even if it is possible, a deviation or negation of its original form."¹⁵⁴ This social network is part of a person's life, but the relationships also continue after death.¹⁵⁵

In this relational context, it has been argued that the task of ethics "is to define the structure and the mechanism of this relationship that already exist in our social life through customs and mores."¹⁵⁶ Rather than beginning with a western notion of self-consciousness regarding one's autonomy, this structure "starts with the two-person community, the smallest unit of human relationships."¹⁵⁷ This two-person community may be that of husband-wife or parent-child, but can also include a relationship between friends.¹⁵⁸ The kinds of trust involved in these relationships differ according to the relationship itself. Thus, there are three kinds of relationships.

In the first context, there is a close-knit relationship such as family and intimate friends where the presumption of mutual basic trust is beyond reasonable doubt. In the second context, one has a relationship akin to neighbors and casual acquaintances, where mutual trust is reasonable. In the third context, there are no reasonable presumptions of trust; people are strangers.¹⁵⁹ This stage is analogous to what the law considers to be arms-length transactions. For the Japanese philosopher, Mitsuhior Umezu, the kinds of relationship we have and the rules associated with those relationships differ. He is critical of the western approach of analyzing business relationships in an arms-length way. This may be a helpful model for negotiating with strangers, but it the nature of the relationship and the moral principles governing that relationship are much different in the community where one works. In that community, one at least has the opportunity for bonding in the form of casual acquaintance and neighbor and possibly even more intimately as close friends and colleagues. Umezu's approach suggests that between the notion of individualism and communitarianism associated with megastructures — Germany or IBM — there may be models where communitarian sentiments can flourish in a contractarian global setting.

III. A BLENDED MODEL: BUSINESS AS A MEDIATING INSTITUTION

The U.S. governance model offers advantages of freedom and transparency, the German governance model provides notions of citizenship and participation, and the Japanese model offers a sense of communal identity. Each offers advantages, but each also threatens to overwhelm the human beings working for such a megastructure. Considering business as a mediating institution (BMI) may provide a framework for blending these three factors. In this Section, we engage in a thought-experiment of what a blended model might look like. In conducting this thought-experiment, we believe the result will provide the freedom and flexibility provided by a contractarian model while also being attentive to communitarian sentiments. This section has four key parts.

First, it provides an overview of BMI distilled by current scholarship to date.¹⁶⁰ This part particularly emphasizes the logic and moral epistemology behind why small groups must be formed within a megastructure in order to foster communitarian sentiments. The groups, existing as a collective, have strong contractarian positions from which to engage the outside world.

The second part sketches the idea of a blended model, which acts as its own self-reinforcing model for governance. In this model, regulation of corporate activities comes more from a system of checks and balances that empowers those within the organization to have an effective voice than from outside regulation. In particular, the voice activated is that of employees, who we believe to be a special case of stakeholders, along with shareholders.

The third part describes three main pillars of this governance model, with attention to the specific structures that ought to be built to achieve the self-regulating system of checks and balances we advocate. These pillars include economizing, power-aggrandizing, and ecologizing, natural forces that exist in all aspects of life. In erecting these pillars, the lessons of comparative governance strategies become critically important.

The fourth part then assesses what kind of an impact this model may have on the five comparative criteria set out in Section II. That is, it analyzes how this blended model would account for the goals of the corporation, ownership structure, board composition, managerial labor markets, and executive compensation.

A. Business as Mediating Institution: An Overview¹⁶¹

Mediating institutions are those institutions standing between individuals and the larger society. It is in these structures that human beings obtain their moral knowledge and personal identity. Traditional mediating institutions include family, religious institutions, neighborhoods and voluntary associations. These associations are typically rather small and consequently allow for, indeed make inevitable, face-to-face interactions with others. Because of these face-to-face interactions, an individual’s actions make a difference. Unlike bureaucratic structures, where an individual's actions can become lost in a megastructure's maze,¹⁶² in a mediating institution the actor witnesses the impact on another person. That knowledge, together with the peer pressure from others in the institution, influence a person to take into account the effect of actions on others. The individual’s conscience is thereby formed and the community provides a monitoring and nurturing function for moral behavior.

For example, sociologist Robert Jackall describes a central problem of contemporary, large corporations in separating an individual from the consequence of her actions.¹⁶³ In a large corporation, an individual often cannot see the difference it makes to shortchange quality or even to embezzle, because she will not get caught. Moreover, others have written about the "moral muteness of managers."¹⁶⁴ Frederick Bird studied managers and found that even those who did care about ethical behavior often were silent about it because it did not seem tough enough for hard economic assessment of business strategy or because introducing moral behavior, produced "notoriously indeterminate" discussion.¹⁶⁵ In contrast, it is difficult in a small group, such as a family, neighborhood, or voluntary organization, for an individual to avoid the consequence of her actions. In such organizations, it is likely that either moral values are agreed upon in advance so that accountability criteria are clear or the members of the group know each other well enough to be able to confront each other.

In addition to traditional forms of mediating institutions, much of a person's conscious life will be involved with work. Because so much time is spent working, perhaps more so than has been spent in previous eras of human history, there is a need to consider the extent to which businesses should also be mediating institutions.

There are some who have attempted to apply the concept of mediating institutions to the free market. Unfortunately, in doing so, they take a phrase — "mediating institution" — and use it without regard to the moral forming content resulting from a small community, which nourishes ethical behavior through face-to-face interactions. Richard Madden provides a classic description of the corporation and weds that description to the mediating analogy when he writes that the corporation provides jobs and benefits to employees and various other economic benefits to suppliers, investors, customers, and charities.¹⁶⁶

In this notion, what the corporation mediates is the relationship between the individual and an amorphous ambiguity of life by providing the monetary return so that individuals can have financial security, owners can realize profit, and charities can be funded. Virtually nothing is said about obtaining identity except that identity is characterized by the ability of the individual to choose what he or she can do with this monetary return. Madden is clear that ethical virtues are necessary for the proper functioning of business, but he also argues that size "has relatively little to do with whether or not an organization can serve as a mediating structure."¹⁶⁷ If, however, others are correct in describing these structures as "the people-sized, face-to-face institutions where we work day by day at our felicities and our fears,"¹⁶⁸ then the large corporation can rarely be called a mediating institution.

What is missing from the classical description of the corporation is the communal element necessary to provide meaning and identity.¹⁶⁹ Of course, the corporation, even as a megastructure, can very well foster the common good by satisfying customers, making a return for investors, creating new wealth and jobs, generating upward mobility, promoting invention and ingenuity, promoting progress in arts and sciences, and diversifying the interests of the republic.¹⁷⁰ But such goods are not goods of creating meaning and identity. Nor are such institutions necessarily communities that foster virtue and solidarity. Thus, although there is a sense in which some may wish to characterize businesses as mediating institutions, businesses do not necessarily nourish solidarity, compassion, empathy, and respect for others. Saying that businesses are not necessarily mediating institutions does not mean, however, that they cannot become mediating institutions.

What considering business as mediating institution provides is a sense of individual empowerment and responsibility and an account of human nature that takes seriously the hardwired nature of human beings as social creatures formed by their moral communities. Because it takes the issue of size seriously, it does not suggest that corporations are responsible to all facets of the community, but instead that business should take itself as a community seriously.

Indeed, at the heart of communitarian sentiment is the belief that the community’s common good is connected to the individual. This belief requires stakeholder confidence in the community. American constitutional history provides an example of the relationship between the size of the community and the confidence of its members in it. To draw from U.S. Constitutional history¹⁷¹ it has been argued that both the Federalists and the Anti-Federalists agreed that in a democracy, obtaining and maintaining the confidence of the people was critical because, without it, authority would have to resort to "force and the coercion of the sword."¹⁷²

Obtaining this confidence, according to the Anti-Federalists, was dependent upon personal interaction between representative and citizen.¹⁷³ The Anti-Federalists believed in a relationship between the governed and governor that was fairly rich. It was not based on a particular interest, but on the character of a more complex relationship among people within their community.

In small electoral units, leaders had to mix with and even prostrate themselves before votes.¹⁷⁴ As wild as some of these campaigns may have been, the leaders got to know voters and visa versa. This style of politics, however, was doomed by the Constitutional opponents who saw "that representatives who were not known personally and could not mix with voters would lose the confidence of the people. Distancing politicians from politics, they understood, would come with a cost."¹⁷⁵

Eventually, it was Madison and Jefferson who formed the first political party as a response to addressing this problem.¹⁷⁶ This reliance on parties, sometimes classified as a kind of mediating institution,¹⁷⁷ is one also noted by organizational theorist/business ethicist Michael Keeley.¹⁷⁸ Keeley notes that the founders' solution for avoiding the religious and other warfare of the centuries leading to the American Revolution was to place governance in the hands of the people.¹⁷⁹

Furthermore, Keeley contends that although an Aristotelian view of ethics, such as those expressed by the Anti-Federalists as well as contemporary business ethicists relying on virtue and communitarianism, is not bad, it may not be enough to prevent "abuses of power by bosses or cynical reactions by workers."¹⁸⁰ What more is needed, according to Keeley, is emphasis on governance structures.¹⁸¹

Employees, like shareholders, are a special case of stakeholders. Keeley concludes his view of the challenges for 21st century business by saying it is "to devise more popular theories of the corporation, to close the gap between governing fiction and reality in the workplace."¹⁸² It is this kind of model, with special attention to participatory form of governance, to which we wish to turn.

B. A Blended Model

Because reliance on coercion and ideology will inevitably require excessive sacrifice of the individual for the common good, it is necessary to rely on "legitimate institutions" which balance the importance of individual human beings with communal goods.¹⁸³ Those institutions take into account the importance of small groups combined with property protection and individual rights.¹⁸⁴ In short, a balanced corporation would be one where participants within the organization have the requisite voice and power to have economic and non-economic concerns expressed and integrated into their business communities. Put another way, in such structures there is a sense of partnership among the participants because of a rich feedback loop.

As noted above, the most tangible mediating institution is a family, which is the most basic community. Yet, "[f]amily members do not ordinarily experience themselves as part of this family structure. Every human being sees herself as a unit, a whole, interacting with other units."¹⁸⁵ In order to preserve the reality of autonomy with the reality of one's networked identity, family therapist Salvador Minuchin creates the term "holon" to describe the idea of holos (whole) and the suffix on suggesting a particle or part such as a proton or neutron.¹⁸⁶ Holons belong to the whole of the family, but are also part of other wholes as well.¹⁸⁷ Thus, families are examples of systems thinking in which "objects are interrelated with one another."¹⁸⁸ In such systems, a feedback loop is necessary in order to grow and maintain a state of dynamic equilibrium.¹⁸⁹ By analogy, the basis of a corporation acting as a mediating institution is one which provides a way for individuals to act within the mediating unit while simultaneously being linked to other systems. What fosters interaction and empathy is the enhanced opportunity to actually communicate with others in a "human-sized" setting. It is this interactive engagement that develops communitarian sentiments of affection and empathy.

In family businesses — unique combinations of two kinds of mediating institutions — an important way to develop a notion of community spirit is the unsurprising, and often unpracticed, solution of "listen, establish two-way performance evaluations, encourage open communication in the family."¹⁹⁰ In short, one central way of creating a system which functions in a state of balance is to engage the most relevant stakeholders in the system unit. And, in fact, a leading proposal for a self-enforcing model of corporate law suggests a "direct participation of shareholders, directors, and managers rather than judges regulators, legal and accounting professionals as well as the financial press."¹⁹¹

Yet, shareholders are not enough. Employees are also a special case of stakeholders, and as two scholars of corporate culture note, "[l]ike family, villages, schools, and clubs, businesses rest on patterns of social interaction that sustain them over time or are their undoing. They are built on shared interests and mutual obligations and thrive on cooperation and friendships."¹⁹² Corporations are the loci for a good deal of other social interaction which, in fact, is directly related to the financial success of the corporation itself. To be a self-enforcing model attuned to the realities of the workplace, corporate governance should be configured to foster an active engagement of shareholders and employees. It may be true that involving all stakeholders in corporate governance creates "too many masters,¹⁹³ reinforces managerial authority,¹⁹⁴ and risks gridlock."¹⁹⁵ A limited set of stakeholders — shareholders and employees — would significantly diversify the voices heard in corporate governance. These parties could act as proxies for the concerns of other stakeholders, because employees are also members of the community at large. Thus, by adding employees to the corporate governance structure, both empathy and efficiency are given voice.

C. Governance Prongs

In his influential book on business ethics,¹⁹⁶ William Frederick provides significant evidence from nature that there are three recurring values in all elements of life. The first is economizing, which is the basic activity of converting raw materials into useful resources.¹⁹⁷ The second is power-aggrandizing, which is the quest for status and power that occurs in all life forms to some degree.¹⁹⁸ The third is ecologizing, which refers to the linkages between members of species and species themselves that create the diverse web of life that supports long-term survival.¹⁹⁹ This tri-partite structure relates to a characterization of various aspects of political economy in terms of the political, economic, and cultural/moral sectors²⁰⁰ and is a helpful model to utilize when considering business as a mediating institution.²⁰¹

1. Economizing and Property

Economizing is a priority of any corporation. As Frederick describes it, economizing acts as a culture's metabolism, converting raw materials into useful products and services.²⁰² To do so in an adaptive way places a priority on efficiency. To the extent corporations can maximize the value they produce in relation to the cost incurred by their effort, they are rewarded with profit and a higher market valuation.²⁰³ The optimal goal of this process of efficiency is survival and growth of the organization. As a result, efficiency and the transparency that makes corporations efficient (through vibrant and liquid capital markets) promotes an adaptability to be valued.

One key governance step, then, is to encourage the open markets that the U.S. is known for. Indeed, as indicated in Section II, this is already occurring in other countries. They see the efficiency and competitiveness that an open, transparent system provides and the obvious economic rewards associated with it. Strong disclosure laws, accounting principles that value assets according to their market value, liquidity of markets, and free transferability of shares all promote this kind of corporate efficiency. In short, corporations ought to be accountable for their economic performance and these legal regimes foster that accountability.

In addition to this kind of efficiency, there is the dimension of how each significant stakeholder can maximize her economic utiles. The open market mechanisms of the previous paragraphs go a long way to achieve this for shareholders. We have already argued that employees are a special group of shareholders. One traditional way of assuring that individuals have the ability to control their own work is to emphasize the property interest they have in their work.

Anthropologists and historians have noted cultures recognizing property rights in songs and rituals²⁰⁴ and today, of course, we recognize property rights in patents and copyrights.²⁰⁵ Similarly, following John Locke's²⁰⁶ logic linking an individual’s work to a property interest in his work and Abraham Lincoln's emphasis on the priority of labor over capital,²⁰⁷ so the notion of property rights could be enhanced in an individual’s work. Property rights enable individuals to feel more like they have an ability to influence the factors that affect their lives. Mediating institutions have this kind of influence; the individual is not simply at the mercy of an amorphous "society," but instead is a constitutive part of that community with an influence on it. In particular, by strengthening the right of employees to vote in their corporate community, they become citizens of their corporate community. This could be done in the following ways (ways that are meant to be suggestive rather than exhaustive).

One way would be for employees within various divisions or teams to state what their norms are and should be. Without that, the members of the organization do not relate to each other as human beings, but as interests, stereotypes, and ciphers. By engaging in the development of aims or norms, or by simply telling stories, the individual presents a richer revelation of his person. In addition to the norms required by laws such as the Federal Sentencing Guidelines, the members of these smaller communities-within-a-corporation at least should have the ability to vote for the norms that govern the behavior within their group and to put it in writing. For instance, subgroups can meet to determine what values they believe their subgroup should respect. Evidence suggests that the list of values may not be as diverse as one might think.²⁰⁸ But there is a psychological difference created by contributing to the norms by which one is governed rather than by being told those rules.²⁰⁹ The ownership one then has in those rules acts as a ratification of the rules themselves. Because small groups can also lurch toward tribalism, writing them down further acts as a transparent protection against the kind of oppression a small group can perpetrate.²¹⁰

This kind of ownership over one's direct work experience is akin to models of workplace engagement advocated by quality theorists.²¹¹ The heart of their argument is two-fold: First, that refined statistical measures are necessary in order to properly understand whether a product or service is being produced in a high-quality way and second, that to make things in a high-quality way, one must directly engage the person working on the product to contribute his ideas of how the product can be improved.²¹²

Similarly, another way to provide this kind of citizenship voting, matched with property, is to expand the use of Employee Stock Ownership Plans ("ESOPS"). ESOPS link efficient work with a direct property right. With the traditional property interest — in this case, a share of stock — comes a right to vote for items such as the corporate board of directors, provided that the employee does not simply transfer the right to vote to someone else.²¹³ Indeed, a significant portion of this first pillar's objectives could be accomplished by a greater set of incentives for the utilization of ESOPs.

2. Power-Aggrandizement — Subsidiarity

As the framers of the Constitution knew, owning property itself provided an important check against unbridled executive power. They knew this because of evidence that individual property rights neutralized royal power in England.²¹⁴ The foregoing proposal relative to property rights thus has implications for checks against executive power as well. Beyond this, however, the notion of subsidiarity checks excessive centralized power. Sociologist Robert Nisbet argues that centralized government's chief opponents were mediating institutions.²¹⁵ These institutions — families, guilds, churches, and voluntary associations — command allegiance from members at the expense of loyalty to megastructures.²¹⁶ Rather than allowing such groups to form on the rallying point of alienation, it would seem more constructive to nourish them within a context of corporate and global good.

In corporate terms, some significant degree of autonomy should be given to subunits within the corporation. The "team" concept of contemporary management does this, although turnover makes equating "team" and "community" dangerous.²¹⁷ J. Irwin Miller, longtime CEO of Cummins Engines, required that no plant have more than five thousand workers.²¹⁸ Beyond this number, he thought, one could not generate a unifying culture. Thus, a second check designed to create a system in which corporate governance fosters impartial treatment of its members and inspires its members to community to a common good is that of creating mediating institutions within the corporate structure.

First, as already suggested, the mediating institutions within the corporation can establish their "aims." It is important to establish clear aims in order to force psychological attention to the multiplicity of goods that human beings in fact do possess and value.²¹⁹ Without concrete expression of those goals, it is difficult for any organization to attend to the multiplicity of values that its members may bring to the workplace. Instead, a default to efficiency and only efficiency may replace it. As has already been noted, however, this emphasis on efficiency may not fully account for all interpersonal dynamics within the firm.

Thus, a mediating institution either could ask its members to nominate, discuss, and vote on what values it holds important or it could tell stories about what is meaningful to individual members of the group. These techniques elicit the moral goods of the constituents which can become aims to which members aspire and hold each other accountable in addition to (not instead of) the traditional corporate aim of profitability. It is theoretically possible that these aims could be destructive. A group could aim, for instance, to abuse minorities. Our proposal, however, is made with the expectation of a regulatory environment in which there will be limits on such activity and with transparency of those aims so that groups are accountable for their actions.

In between communal moral aims and the capacity (through property rights and voting) to influence corporate policy lay the various layers of corporate bureaucracy. It is important then to link the notions described herein so such bureaucracy does not eliminate them. Institutional economists argue that consensus decision-making is inefficient.²²⁰ Instead, they argue for hierarchies, so that there are clear lines of power and authority.²²¹ These are similar to what anthropologists call simultaneous hierarchies.²²² In legal terms, this economic argument for hierarchical control of corporate decisions makes the master-servant aspect of agency law one that characterizes employer-employee relationships.²²³

Another model is that of sequential hierarchies. In these structures, small (mediating) groups elect a representative to articulate the group's consensual decisions with other small groups "up-the-ladder."²²⁴ This process continues so that any decision is made within a small group where there is face-to-face interaction. Often, the representative of the initial group changes according to the issue, so a group having multiple leaders reinforces that consensus.²²⁵ These varying representatives are known as "sodalities" and they serve to keep each separate mediating institution open to the views of others. Having such a process keeps the mediating institution open to the views of others, thereby helping to preserve its adaptability. These structures require the face-to-face interaction necessary for the development of moral empathy and to provide a structure to make clear the moral aims that exist within the corporation in addition to its economic aims.

In short, the creation of vibrant subgroups create communities where empathy, commitment to the common good, and concern for the welfare of a variety of stakeholders take place. These kinds of subgroups can be integrated within the corporation itself. The authority of these groups does not necessitate capitulation of strategic thinking to full-fledge workplace democracy. It does provide an opportunity for individuals to maximize their influence on those things that matter directly to the workers.

3. Ecologizing Values — Communication

Mediating institutions within corporations, equipped with a kind of property right link personal moral identity with corporate policy and bring to corporate discussions the variety of human goods and experience that exist within any organization. It has been argued that communication serves as the central natural law principle.²²⁶ Similarly, this construct is a mechanism for configuring institutions so that communication can be more fully developed. While we do not wish to suggest that all intractable moral disputes are simply a matter of needing a good chat, open communication is a powerful tool. Not only can it reveal inconsistencies and commonalties allowing people to find ways to work together, the very commitment to communicate is a validation of human respect and dignity. Indeed, in the 1980s revival of civic republicanism, scholars have argued that the commitment to dialogue was a central tool to transform self-interested individuals into citizens concerned with the common good.²²⁷

In corporate terms, the importance of open communication among constituents can be demonstrated by a recent study, which suggests ways to handle downsizing. For instance, to mitigate the "downside" of downsizing, a four-step process is often recommended.²²⁸ The process is one that can be considered a way to enhance a sense of partnership, even in situations where one is being removed from the partnership.

In step one, the decision to downsize is made only as a last resort where it is necessary as part of a long-term vision for the company.²²⁹ In step two, actually planning the decision, a cross-functional team that has insights into constituent needs and can speak on behalf of stakeholders should be formed.²³⁰ This team should identify all the affected constituents, use experts (such as outplacement companies or government training programs) to assist downsized workers, train managers how to communicate the decision, and supply information to employees about the realities of the business.²³¹ In step three, announcing the decision, the company should explain the business rationale for the decision, have senior managers announce it, notify employees in advance of the effective date, beat the media to the announcement, and offer employees the day off.²³² Finally, in implementing the decision, the company should tell the truth and "overcommunicate."²³³ It should also, involve employees in downsizing decisions, exercise fairness (in terms of some kind of objective criteria) as to separation, keep its promises in terms of its timetable, help department employees find other jobs, allow for voluntary separations, provide generous benefits and career counseling, and train survivors.²³⁴ Through this process, the corporation will maintain trust and minimize productivity losses.²³⁵

D. Impact on Comparative Criteria

The tri-partite model thus emphasizes the importance of property rights with citizenship participation. This is both a U.S. and a German strategy. It is American to the extent that it relies upon transparent disclosure of each subgroup and it is German to the extent that it features employee participation in the governance process. The model also emphasizes the importance of mediating institutions, or subgroups, within the organization in order to balance power. This is both a U.S. and a Japanese strategy. It is American to the extent that mediating institutions have historically been an integral component of civil society²³⁶ and in its concern for creating checks to accumulation of power. It is Japanese in that it relies upon subgroups within the organization to be akin to families or, in even more Japanese terms, to be like Quality Circles.²³⁷ In such small groups, work is social as well as productive. In fact, the two often go together. Finally, the model also emphasizes communication. This is an aspect of all three structures, although the members of the governance structure among whom communication takes place differs. In BMI, it takes place not simply among creditors, nor officers, nor capital markets, but among those who finance and operate, truly operate, the business.

1. Goals of the corporation

As we have indicated, the goals of U.S., German, and Japanese governance structures differ.²³⁸ Corporations must compete in global markets and doing so has advantages of efficiency as measured by profitability. Corporations, as collective entities, should operate according to contractarian models in this competitive environment. In BMI, these institutions do compete with each other and their activities will be disciplined by external capital markets. Yet, in addition to the goal of shareholder protection, there is also a goal that those who work for the organization are allowed to be involved in work that enables them to flourish as human beings. BMI thus stands as a possible regime which allows individuals to voice their concerns in a small, familial setting while simultaneously being open to competitive market moves. The remaining comparative factors are ways that this is accomplished.

2. Ownership Structure and Composition of Board of Directors

Rather than an ownership structure focusing only on shareholders or on a small clique of creditors, BMI blends shareholder and employee ownership. The ownership structure has three components. One component is in ownership of shares of the company. As we have argued, a transparent model, as followed by the United States, provides protection to shareholders by emphasizing full disclosure and liquid markets. These act as disciplinary mechanisms against managerial misfeasance and provide a model superior to the secretive workings of German and Japanese systems. ESOPs then enhance the ownership interests of employees.

The second component of ownership is that employees have a sense of having ownership over their environment and the work they do. This ability to have control brings a communitarian dimension to work in a forum small enough to truly be a community. Recognizing this dimension of "ownership" is an important supplement to financial notions of ownership. By recognizing it, a communitarian sentiment of living in a workplace community can be combined with contractarian competitiveness in the marketplace through the collective action of the corporation as a whole.

Finally, there is ownership in a system of checks and balances that represents to the board the variety of values, both economic and non-economic, that members of the corporate community bring with them to work. As the research from Hampden-Turner on Annheuser-Busch suggests, making the workplace may not be inimical to productivity, but a high-context environment may actually make the workplace more productive.²³⁹

Thus, "ownership" has several nuances to it. Each of these nuances can be captured by BMI and in doing so, BMI can provide a blended model.

3. Managerial Labor Markets and Executive Compensation

Finally, the U.S. model provides significant opportunities for managers to migrate to other firms and to do so with significant compensation. As a result, there is competition for talented managers and a system leading to a higher differential between highest and lowest paid workers in the corporation.²⁴⁰ Undoubtedly, complex business organizations need talented individuals and there may be a correlation between that talent and concrete returns on investment. Nevertheless, there is a danger in the differentiation between highest and lowest paid. Anthropologists advise that there "is every evidence…that humans' Pleistocene evolutionary experience did not prepare us to tolerate more than the most minimal command and control institutions. Nor were we prepared to tolerate much inequality."²⁴¹ The German and Japanese models create less differentiation in compensation.

One way to mitigate the kind of resentment that could occur with a high differentiation, assuming that such a differentiation is needed to be competitive and attract desired managers, is to have all of those in the organization have a voice in corporate decisions. This would occur in a republican, representative model rather than a democratic model of corporate governance. Nevertheless, it seems likely that significant differentiation would be more tolerable if it has wide-based support within the organization.

At the same time, of course, it is possible that such a scheme would prevent such differentiation. Although this could cause a competitive disadvantage, there may be countervailing factors to limit this danger. First, with information about competitive markets, employee engagement may realize the necessity of paying top talent well. Second, if the more broad-based governance structure brought with it concerns and values to make the corporation a satisfying place to work, more than money may be available to attract top talent. In short, a broad-based model, the BMI model we propose, has the potential not so much to reduce competition for top talent, but to make the allocation of resources for such talent more acceptable and to create non-monetary benefits for talented executives.

IV. CONCLUSION

Corporations are not communities without a human element. Corporations are institutions comprised of human beings, and the issues that arise with any kind of human community also arise in corporate life. The social existence of corporations, however, is one dependent upon their successfully taking on the responsibility of being economically efficient producers of goods and services and the organized practitioners of economizing values that battle entropic disintegration.²⁴² They are not only that. They remain human institutions, but one must take into account the special role that wealth production and property values have in corporate responsibility.

Those institutions should provide a system of checks and balances producing impartial treatment of (at least) internal constituents, a commitment to the common good, and adaptive openness to the outside community.²⁴³ Doing this requires a balancing of economizing, power-aggrandizing, and ecologizing values. These values can be manifested through increasing recognition of property rights, fostering the creation of mediating sub-units within the corporation, and by having those mediating institutions regularly identify and discuss the moral norms of its members. These steps would allow for the efficiency of markets to discipline corporations while preserving the moral goods of human lives lived in such corporations.

ALSB International Business Law Journal