Article by Robert Ashford
Socio-economics provides essential insights regarding (1) the fiduciary duties owed to corporations and shareholders with respect to economic issues and (2) the ways that corporations can help society. Therefore, the fiduciary duties of corporate directors and officers require a socio-economic approach to most important issues facing corporations including the questions of wealth maximization and the scope of corporate social responsibility. Accordingly, socio-economic analysis should be an important component in the teaching of corporate law and corporate social responsibility. With this Article, socio-economics can be readily introduced in any course or seminar that covers the subjects of corporate law, corporate social responsibility, law and economics, and other courses that examine legal/economic policy.
The importance of socio-economics to corporate law and corporate social responsibility becomes apparent from a consideration of (1) the definition of socio-economics, (2) the economic realities faced by corporations, (3) the duties of corporate fiduciaries regarding wealth maximization and distribution, (4) the limitations of economic theory and practice that may interfere with the fulfillment of those duties, and (5) the additional tools and approaches available in socio-economics.
In this Article, ‘socio-economics‘ refers to the definition of socio-economics set forth in a petition signed by over 120 law professors from over fifty American Law Schools to establish the section on Socio-Economics of the Association of American Law Schools (AALS). Socio-economics (1) is grounded in the scientific method, (2) is informed by classical, neoclassical, Keynesian, institutional, and other approaches to economic understanding, but (3) takes none as the absolute starting point for determining economic reality. Rather, starting with the scientific method, it considers economic behavior as a subset of human behavior that includes both competition and cooperation shaped not only by self-interested rationality, but also by institutions, social bonds, expectations, beliefs, and other aspects of human nature and society. It therefore draws from all disciplines, as relevant, when performing economic analysis in particular contexts.
Nevertheless, implicit in the socio-economic approach is the proposition that distribution can matter significantly not only normatively but also positively. Consequently in many important contexts, distributional questions cannot be separated from the positive aspects of economic analysis or treated as purely exogenous considerations. Also implicit in the socio-economic approach is the recognition that wealth maximization cannot be understood entirely or even primarily by way of marginal analysis without reference to the socio-economic context, including the laws and other institutions that affect the production, distribution, and consumption of wealth.
Corporate wealth maximization requires maximizing both ‘normal profits‘ (those earned in perfectly competitive markets) and ‘abnormal profits‘ (those earned in the context of substantial technological advance and other conditions of imperfect efficiency). The great gains in corporate wealth experienced by corporations since the 1850s are not continuous increments driven by marginal prices, with causes rooted in constant technology and short time frames (which are the domain of neoclassical economics), but rather are discontinuous, sometimes explosively large, changes in productive capacity and the distribution of demand with causes rooted in technological progress and capital investment, subject to specified property rights and limited competition, aided by government policy (including the benefits of incorporation and protection of the financial markets).
Proponents of hands-off, deregulatory policies regarding corporate structure, internal affairs, and business activities, and proponents of a narrow scope of corporate social responsibility base their arguments in part on the wealth-maximizing promise of competition and marginal efficiency with minimal government ‘interference‘ in private decision making regarding production, distribution, and consumption; but their foundation is faulty for at least three reasons.
First, markets are at most only somewhat efficient. There is no way of knowing how far they fall short of perfect efficiency, no way of knowing how particular microeconomic adjustments will play out in the entire economy, and often no way of predicting how such adjustments will affect the wealth of a particular corporation.
Second, efficiency is only one component of wealth maximization. Neoclassical economics uses marginal analysis to advance a theory of efficiency, not a general theory of wealth maximization or growth. In marginal analysis, growth (like the distribution of ownership) is exogenous (irrelevant to the positive analysis). Neoclassical principles explain theoretically how resources and labor can be employed by voluntary exchange in perfectly competitive markets, to maximize desired output, given individual preferences and constant technology. But over the last several centuries, or even the last several decades, they do not explain how the real growth in wealth by corporations and individuals occurs over time in imperfectly competitive economies (such as those of the United States, Japan, Germany, Great Britain, and France), which involve much more than the supposed gains in allocative efficiency promised by marginal analysis.
Third, neoclassical economics has not provided effective assistance to corporate fiduciaries in determining what can best be done to employ persistent unutilized (and underutilized) corporate productive capacity and thereby maximize its value. The persistence of unutilized capacity of major creditworthy corporations (which is an unexplained anomaly in neoclassical terms) is a matter of great interest, not only to the shareholders, but also to stakeholders and the proponents of a robust scope for corporate social responsibility. Unutilized productive capacity of an economy's major corporations means a capacity to provide more basic necessities (such as food, clothing, shelter, transportation, and health care) and many simple comforts and conveniences, by way of greener and more socially responsible industrial processes and practices. The ever-present threat of plant closings, downsizings, and layoffs is a reflection to unutilized productive capacity. Many economic assaults on the environment resulting from destructive production technologies that continue (despite the know-how to ameliorate or replace them with greener technologies) can be understood as reflections of unutilized productive capacity. Despite neoclassical assumptions of diminishing returns, much of the unused productive capacity is generally marked by diminishing unit costs and increasing economies of production made unprofitable only by insufficient consumer demand even at discount prices.
Therefore, from a socio-economic perspective, the neoclassical paradigm is not the best foundational starting point for comprehending the opportunities, risks, and responsibilities associated with wealth maximization or the formulation of public policy regarding corporations. From the corporate point of view, growth opportunities include profitable ways to improve and expand productive capacity (primarily through capital investment), and profitable ways to employ existing unutilized productive capacity. Competent economic analysis in the corporate context requires not only a theory of efficiency, but also one or more theories of growth. Development and implementation of such theories to guide appropriate private and public policies in ways that promote beneficial economic behavior and consequences will be enhanced by the interdisciplinary, value-conscious, scientific approach embodied in the definition of socio-economics.
Accordingly, based on standards of competence, care, and loyalty, the corporation and its shareholders deserve from their fiduciaries a socio-economic foundation for the effective analysis of economic issues. Once a socio-economic foundation is adopted, the duties of corporate fiduciaries and the economic importance of corporate social responsibility will be understood in better light. Once the claims of marginal analysis are put in proper perspective, then the utility of other approaches can be better understood, and the search for better approaches (i.e., those more helpful to the enhancement of corporate wealth and distribution) can proceed in a more rigorous and open-minded fashion so that the true opportunities and interests of the corporation, shareholders, stakeholders, and society can be better understood and faithfully and competently pursued.
About the Author
Robert Ashford. Professor of Law, Syracuse University College of Law. J.D., Harvard University; B.A., University of South Florida.
Citation
76 Tul. L. Rev. 1187 (2002)