Good Governance: The Cholera Cure

October 30, 2010 · Posted in The Capitol · Comment 


Joe Amon blames the recent cholera outbreak on Haiti's sub-par government:

Governments don't want to admit the failure of health-care or surveillance systems, and they are afraid of the trade and travel sanctions that may result from a large outbreak. But inaction leads to larger epidemics: Treating a few cases of cholera with oral rehydration salts or intravenous fluids is relatively straightforward, managing hundreds or thousands of cases is not. With prompt and proper treatment, less than 1 percent of those infected die. Without a fast response, death rates of five percent or more are not unheard of.

(Photo: A relative holds the hand of Dachny, a child who is suffering from the symptoms of cholera at a hospital run by the Haitian government where Doctors Without Borders is treating people October 27, 2010 in St. Marc, Haiti. Haiti, one of the poorest nations in the Western Hemisphere, has been further unsettled by an outbreak of cholera which has killed nearly 300 people so far. The epidemic has affected the central Artibonite and Central Plateau regions with 3,612 cases so far on record. While authorities believe the outbreak is contained, they believe it has not yet peaked. There is also fear that the deadly diarrheal disease could migrate to the sprawling camps for the hundreds of thousands of Haitians displaced by the earthquake. By Spencer Platt/Getty Images)

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The Daily Dish | By Andrew Sullivan

The Corporate Governance Provisions of Dodd-Frank

October 28, 2010 · Posted in The Capitol · Comment 

I was recently asked to write up a brief summary of the corporate governance provisions of the Dodd-Frank Act. The result has now been posted to SSRN. It’s not a think piece, but folks looking for a quick overview of the Act’s requirements and a concise critique thereof may find it useful:

Abstract: This essay provides a brief overview of the seven principal corporate governance provisions of The Wall Street Reform and Consumer Protection Act of 2010 (better known as “The Dodd-Frank Act”).

1. Section 951 creates a so-called “say on pay” mandate, requiring periodic shareholder advisory votes on executive compensation.

2. Section 952 mandates that the compensation committees of reporting companies must be fully independent and that those committees be given certain specified oversight responsibilities.

3. Section 953 directs that the SEC require companies to provide additional disclosures with respect to executive compensation.

4. Section 954 expands Sarbanes-Oxley Act’s rules regarding clawbacks of executive compensation.

5. Section 971 affirms that the SEC has authority to promulgate a so-called “proxy access” rule pursuant to which shareholders would be allowed to use the company’s proxy statement to nominate candidates to the board of directors.

6. Section 972 requires that companies disclose whether the same person holds both the CEO and Chairman of the Board positions and why they either do or do not do so.

7. Section 989G affords small issuers an exemption from the internal controls auditor attestation requirement of Section 404(b) of the Sarbanes-Oxley Act.

Keywords: corporate governance, Wall Street reform, Dodd-Frank, proxy access, say on pay, executive compensation, disclosure

JEL Classifications: K22

Basel Committee’s Corporate Governance Recommendations

October 25, 2010 · Posted in The Capitol · Comment 

Jim Hamilton reports that:

The Basel Committee has issued corporate governance principles emphasizing transparency, aligning executive compensation with prudent risk taking, and making more and better use of internal and external auditors. A central principle envisions the board and senior management making very broad use of internal audit and effectively engaging the independent outside auditor. Independent and qualified internal and external auditors, as well as other internal control functions, are vital to the corporate governance process, said the committee.

The lengthy post has extensive details.

Corporate Governance and U.S. Capital Market Competitiveness

October 25, 2010 · Posted in The Capitol · Comment 

I’ve posted to SSRN an essay entitled Corporate Governance and U.S. Capital Market Competitiveness

Abstract: This essay was prepared for a forthcoming book on the impact of law on the U.S. economy. It focuses on the impact the corporate governance regulation has had on the global competitive position of U.S. capital markets.

During the first half of the last decade, evidence accumulated that the U.S. capital markets were becoming less competitive relative to their major competitors. The evidence reviewed herein confirms that it was not corporate governance as such that was the problem, but rather corporate governance regulation. In particular, attention focused on such issues as the massive growth in corporate and securities litigation risk and the increasing complexity and cost of the U.S. regulatory scheme.

Tentative efforts towards deregulation largely fell by the wayside in the wake of the financial crisis of 2007-2008. Instead, massive new regulations came into being, especially in the Dodd Frank Act. The competitive position of U.S. capital markets, however, continues to decline.

This essay argues that litigation and regulatory reform remain essential if U.S. capital markets are to retain their leadership position. Unfortunately, the article concludes that federal corporate governance regulation follows a ratchet effect, in which the regulatory scheme becomes more complex with each financial crisis. If so, significant reform may be difficult to achieve.

 Keywords: corporate governance, securities litigation, federalism, Sarbanes-Oxley

JEL Classifications: K22

Governance Is Not A Four-Letter Word

October 21, 2010 · Posted in The Capitol · Comment 

Can we expect more of the same from McConnell and Boehner?

The concept of governance frequently gets lost in the super-heated rhetoric of this campaign season, yet the ability of candidates to govern once they get to Washington may be the most important determinant of their abilities.

Governance can be many things, but at its heart it is participating in and making the decisions that define expectations, confer power, verify performance and, of course, move legislation along.

In a post earlier this week, I asserted that too many Republican candidates — incumbents and wannabe congressfolk — are not serious about governing. I wrote that:

It will not occur to Republicans amidst their pre- and post-election high-fiving that the GOP’s gains will not be a result of presenting appealing policy alternatives to the Democrats but by simply not being Democrats.

Pitifully few Republican candidates in major races have put any meat on their platforms, and many merely echo the “Pledge to America” cobbled together by Mother Ship Republicans, a grab bag of empty rhetoric if ever there was one.

Then fellow TMV columnist Jerry Remmers jumped into the fray and in his own post sought to rebut my point, writing:

That would be the fallacy of a political scientist or a pundit sitting in the center or left on the political pendulum. It is easy to take potshots and ridicule not-ready-for-prime-time Tea Party Republican candidates who want to privatize Social Security and Medicare but also argue unemployment benefits are unconstitutional and the U.S. Department of Education should be abolished.

Not believing that Jerry had even begun to make his case, I asked him in a comment below his post:

If the Republicans are so flash hot at governing as you assert they are, where can you point to in the last two years when they actually did so?

There are no examples because they spent the last two years not as a Loyal Opposition, offering good-faith alternatives to Democratic-sponsored measures or trying to work across the aisle to fashion legislation more compatible with their beliefs, but as willful obstructionists.

That is not governing.

So what are your thoughts regarding the ability of Republicans to govern given their track record of the last 20 months?

Have at it, but please be respectful of others’ views.

The Moderate Voice

It’s a Little Late to Be Discussing National Standards Governance

October 19, 2010 · Posted in The Capitol · Comment 

By Neal McCluskey

What do you do when you’re asked your opinion about how to implement something you don’t like? Do you use the opportunity to say why you think implementation will fail, and how to minimize the damage, even if doing so might make you look like a collaborator? Or do you say nothing and just let bad stuff happen?

A couple of months ago, I was presented with that dilemma by the people at the Thomas B. Fordham Institute — you might have seen me discuss them once or twice — who were putting together a report on how to govern national standards and tests. They asked me, along with several other people who’d thought long and hard about national standards, to send them answers to several questions to help inform their thinking. Today, Fordham is releasing that report, and I have just a few notes about it.

First, you will see me quoted twice in the paper, and from those quotes you could get the impression that I’ve gone all Vichy on national standards. I don’t think Fordham authors Chester Finn and Michael Petrilli intended to do that, nor do the context of the quotes necessarily support that conclusion, but one could get that impression nonetheless. Fortunately, Fordham kindly posted my entire questionnaire – as well as those of several other respondents — on the report’s Web page, and you can go there for my complete thoughts. If you don’t want to do that, though, I’ll summarize (stop me if you’ve heard this before): As long as government runs and funds schools rather than giving parents control of education money and educators full freedom, standards-and-accountability regimes, no matter how strong they start off, will ultimately be rendered meaningless by politics.

My second note is that the overall report is aggravating because it is impossible to concretely discuss the governance of standards that almost no one knows about, and accountability systems that don’t exist. The Fordham authors acknowledge this problem, but acknowledging it doesn’t make it any less enervating. It also highlights that we’ve skipped a critical, much more fundamental debate: Even if you think centralized standards are a good idea — and almost everything we know about markets, competition, and innovation says they aren’t — how do you, really,  keep politics from gutting standards and accountability? It’s a debate we needed to have long before states started to adopt national standards, largely in the pursuit of federal dough.

All that said, there is one, small part of the report that I find quite satisfying. A few months ago, Fordham President Chester Finn called people like me and Jay Greene “paranoid” for arguing that national standards would be hollowed out by politics. Well, in the report, while it is not explicitly identified as such, you will find what I am going to take as an apology (not to mention a welcome admission):

How will this Common Core effort be governed over the long term?…This issue might seem esoteric, almost philosophical in light of the staggering amount of work to be done right now to make the standards real and the assessments viable. But we find it essential—not just for the long-term health of the enterprise, but also to allay immediate concerns that these standards might be co-opted by any of the many factions that want to impose their dubious ideas on American education. You don’t have to be a conspiracy theorist to worry about this possibility [italics added]…

No, you don’t.

It’s a Little Late to Be Discussing National Standards Governance is a post from Cato @ Liberty – Cato Institute Blog

Cato @ Liberty

Some notes on corporate governance and the economy

October 12, 2010 · Posted in The Capitol · Comment 

I just excised a couple of introductory section from a book chapter I’m writing. Instead of just sending them to my Mac’s trash bin, however, I figured they could feed the beast:

What is Corporate Governance?

Corporate governance, broadly defined, consists of the institutional structures, legal rules, and best practices that determine which body within the corporation is empowered to make particular decisions, how the members of that body are chosen, and the norms that should guide decision making. Herein, however, we will focus on a narrower conception in which corporate governance consists of the legal rules that both create and seek to constrain the principal-agent problem inherent in the public corporation’s structure. Specifically, corporate governance may be understood as the rules by which the separation of ownership and control becomes a defining characteristic of the public corporation.

Although shareholders nominally “own” the corporation, they have virtually no decision-making powers. They are entitled only to elect the firm’s directors and to vote on an exceedingly limited—albeit not unimportant—number of corporate actions. Rather, management of the firm is vested in the hands of the board of directors, who in turn delegate the day-to-day running of the firm to its officers, who in turn delegate some responsibilities to the company’s employees.

Separation of ownership and control is a feature of corporate design, not a bug.  Most shareholders prefer to be passive investors. Vesting decision-making power in the corporation’s board of directors and managers allows shareholders to remain passive, while also preventing the chaos that would result from tens of thousands of shareholders seeking to be involved in day-to-day decision making.[1]

At the same time, however, this separation creates the potential for shareholder and managerial interests to diverge. As the residual claimants on the corporation’s assets and earnings, the shareholders are entitled to the corporation’s profits. But it is the firm’s management, not the shareholders, which decides how the firm’s earnings are to be spent. A principal-agent problem thus arises. There is a substantial risk that management will expend firm earnings on projects that benefit management, rather than shareholders.

This conflict of interest results in so-called agency costs. Principals monitor their agents so as to detect and punish shirking. Agents promise not to shirk and provide bonds making that promise more credible. Even so, of course, there will still be some residual losses from undeterred shirking by agents.[2] A well-designed system of corporate governance seeks to reduce these costs by providing rules that make monitoring cheaper, bonds more credible, or deterrence more effective.

Corporate Governance and the Economy

In theory, good corporate governance practices should make firms more profitable and productive, in turn contributing to the overall health of the economy. Curiously, however, the evidence for a causal relationship between corporate governance and either firm performance or stock returns is sketchy and conflicting.

The absence of a causal relationship between governance practices and stock returns perhaps should not be surprising. Public companies provide substantial—and ever increasing—disclosures with regard to their governance practices. As a result, assuming the capital markets are efficient, those practices should be fully impounded by stock market prices. Only a change in a firm’s governance practices—for good or ill—should result in the cumulative abnormal returns that stock prices studies would identify.

As for operating performance, there is some evidence that firms with weak corporate governance have lower operating results. One recent study, for example, found a correlation between governance characteristics and operating ROA.[3] This evidence is consistent with the hypothesis that weak governance constraints on agency costs permit managers to shirk and otherwise engage in value-reducing activities. Cumulated across all the firms, weak governance thus should be a drag on the economy as a whole.

[1] See generally Stephen M. Bainbridge, The Case for Limited Shareholder Voting Rights, 53 UCLA L. Rev. 601 (2006).

[2] See Michael Jensen & William Meckling, Theory of the Firm: Managerial Behavior, Agency Costs, and Ownership Structure, 3 J. Fin. Econ. 305 (1976).

[3] John E. Core et al., Does Weak Governance Cause Weak Stock Returns? An Examination of Firm Operating Performance and Investors’ Expectations, 61 J. Fin. 655 (2006).

“The corporate governance provisions in the Dodd-Frank Act are unnecessary”

October 7, 2010 · Posted in The Capitol · Comment 

Gordon Smith:

Former Delaware Chief Justice Veasey: “The financial meltdown of 2008–2009 was not, in my opinion, the result of a pervasive failure of good governance practices of the boards of the thousands of U.S. public companies.”

Absolutely right. So what is he worried about now? That courts outside of Delaware will get corporate governance wrong, just like Congress does:

The law relating to risk is still evolving, and the prevalent media/political condemnation of “excessive risk” may drive some bad results in litigation, just as it apparently has driven Congress to assume (erroneously in my view) that pervasive corporate governance failures caused the 2008–2009 financial meltdown.

I would argue, of course, that the Dodd-Frank provisions are not merely “unnecessary” but also counterprductive quackery. See my article Dodd-Frank: Quack Federal Corporate Governance Round II or my post Dodd Frank, Bubble Laws, and Quack Corporate Governance.

IMF Governance: Do We Want You To Care?

October 1, 2010 · Posted in The Capitol · Comment 


One subject you’re probably not even slightly interested in is the governance structure of the International Monetary Fund. But they’re having a big meeting coming up and they invited a bunch of bloggers to come in for a briefing about it*, and some important discussions about IMF governance will be happening so I might as well explain it.

The way things currently work is that the IMF is structured around an idea of “shares”—money that member countries have put up. The more shares you have, then roughly speaking the more influence you have within the institution. And as a general matter, the shares are supposed to be weighted according to economic significance. So since some large developing nations are now a lot richer than they were 10-14 years ago, there’s basically a need to give them more say. Which everyone more-or-less agrees on, but to get specific about it would require giving less influence to someone else and that’s where things get dicey. But the general shape of things is that small European countries are likely to lose out in any kind of reasonable settlement. Which is fine by me except that I happen to be a big fan of small European countries, so this kind of makes me sad**.

The issue that actually might make a huge difference in the lives of hundreds of millions of people around the world, however, is not the allocation of shares but the total amount of funds raised through the quota system. As the financial crisis hit in 2008, it became clear that the resources available to the IMF were not sufficient to meet the kind of emergencies that arise in the modern world of securitized finance. So at G-20 meeting, the leaders of the world’s biggest economies made a kind of ad hoc deal to boost IMF resources via loans from governments to the Fund. But a question remains as to what should be done on a permanent basis.

My view is that more IMF funding via higher quotas is an excellent idea. But one of my questions to the briefers was whether they thought it was actually a good thing that everyone finds this issue dull and nobody is paying attention. After all, the public wrongly thinks bailouts are horrible and the proposal here really is to have the world’s taxpayers put together a big bailout fund. Which is exactly what we ought to do, in my opinion. But I bet the voters would disagree. Disappointingly, though, I couldn’t get anyone to say on the record that I was either right or wrong about that.

* It was on the record even, just nobody said anything particularly quotable and this isn’t a quotes kind of blog.
** Turns out you can construct an ad hoc argument about Purchasing Power Parities to justify overrepresentation of small European countries but since I just wrote a post cautioning people against ad hoc arguments about prices, I’ll refrain from doing so.

Matthew Yglesias

Dodd Frank, Bubble Laws, and Quack Corporate Governance

October 1, 2010 · Posted in The Capitol · Comment

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