ProfessorBainbridge.com

Really criminalizing agency costs

Larry Ribstein, Tom Kirkendall, and yours truly have often complained about the tendency in the United States to criminalize agency costs. As bad as things are in the US, however, they're about to get a lot worse in New Zealand where they are literally going to criminalize breaches of fiduciary duty:

The Companies and Limited Partnerships Amendment Bill has been introduced in Parliament: see here. One of the purposes of the Bill is to criminalise breaches of two of the duties owed by directors under the Companies Act (1993), by inserting the following new section (138A) in the 1993 Act:

(1) Every director of a company who does an act, or omits to do an act, in breach of the duty in section 131 (duty of directors to act in good faith and in best interests of company) commits an offence if he or she knows that the act or omission is seriously detrimental to the interests of the company.
(2) Every director of a company who does an act, or omits to do an act, in breach of the duty in section 135 (reckless trading) commits an offence if he or she knows that the act or omission will result in serious loss to the company’s creditors.
(3) A person who commits an offence under this section is liable on conviction to the penalties set out in section 373(4).”

An explanatory note for the Bill is available here.

This strikes me as literally insane. The criminalization of fiduciary duty will radically increase the sanctions faced by corporate executives. The problem is that business decisions rarely involve black-and-white issues; instead, they typically involve prudential judgments among a number of plausible alternatives. Given the vagaries of business, moreover, even carefully made choices among such alternatives may turn out badly.

If prosecutors, judges, and juries are unable to distinguish between competent risk taking and criminal mismanagement, however, the threat of criminal sanctions may discourage managers from taking risks.

Yet, risk-taking is precisely what shareholders want managers to do. As the corporation's residual claimants, shareholders don't get paid until all other claims on the corporation are satisfied. Because risk and return are positively correlated, the high returns on corporate investment necessary to leave something for the shareholders require high risks.

The problem of criminalizing agency costs should now be apparent. Obviously, shareholders want managers who steal from the company or defraud investors to be punished. Yet, they also want managers to take risks. If prosecutors and juries can't tell the difference between the two, however, criminal sanctions will leave shareholders worse off by making managers more risk averse.

Supreme Court agrees to hear question of corporate liability under the Alien Tort Statute

Tony Arend has the details

Stephen Fry on Language

Delightful to both eye and ear, with a surprise ending. Thanks to BAA for the tip.

Harold Koh's Romneyesque Flip-Flops

William McGurn spanks former Yale Law Dean and current Obama apologist Harold Koh:

We forget it now, but there was a day, not so very long ago, when members of our most prestigious law schools and law firms feared that the government's war on terror posed a graver threat to America than did al Qaeda.

Those were the dark days before Barack Obama moved into the Oval Office. Whether the issue was the detention of terrorists, the interrogation of terrorists, or the idea that we were even at war with terrorists, one man—John Yoo, formerly of the Justice Department's Office of Legal Counsel—was held singularly culpable. No one expressed these concerns more vehemently than a former professor of Mr. Yoo's, Harold Koh, then dean of the Yale Law School.

What exercised Mr. Koh wasn't merely that Mr. Yoo's office had sanctioned waterboarding; it was the theory of executive authority behind his war advice. This theory Mr. Koh opposed with vigor, deporting himself in the manner of an Old Testament prophet. ...

Now Mr. Koh is a legal adviser to Secretary of State Hillary Clinton. Now the same Mr. Koh who assailed Mr. Yoo for his broad view of presidential authority has offered up his own justifications for an expansive executive power. These include the argument that we're not really engaged in hostilities when we fire at Libya because the Libyans aren't firing back.

 

Folks are noticing. An op-ed this summer in the New York Times says it is as if Mr. Koh "has torn off his team jersey, mid-game, and put on the other's side's." A headline at the Volokh Conspiracy blog put it this way: "Is Harold Koh the Left's John Yoo?"

This is unfair . . . to Mr. Yoo. Whether or not one agrees with him, Mr. Yoo has been consistent in his views—before he served, while he served, and after he served. In sharp contrast, the old Harold Koh would have eviscerated the Harold Koh who now offers ludicrous redefinitions of "war" and "hostilities" so he can get the policy conclusion he wants.

Koh's name surfaces periodically in the list of liberal candidates for the Supreme Court. Add this episode to the long list of reasons why he should never be anything but a spectator when it comes to the court.

Is OWS Potentially Violent?

Douglas Schoen is a pollster who's worked both for Bill Clinton and Citibank, among others. In today's WSJ, he reports results of a random poll of 200  of the Occupy Wall Street protestors. The results are a little scary:

Our research shows clearly that the movement doesn't represent unemployed America and is not ideologically diverse. Rather, it comprises an unrepresentative segment of the electorate that believes in radical redistribution of wealth, civil disobedience and, in some instances, violence. Half (52%) have participated in a political movement before, virtually all (98%) say they would support civil disobedience to achieve their goals, and nearly one-third (31%) would support violence to advance their agenda.

One recalls the violence that has been associated with some of the far left's economic protests: Toronto 2010 G8/G20 meeting; Seattle 1999 WTO; Vancouver 2010 Olympics; London 2009 G20; Rome 2001 G8. One reflects that many of these OWSers seem to embrace a 60s nostalgia. One ponders 60s groups like the Weather Underground (and Obama buddy Bill Ayers). And one wonders.

Even if the movement remains entirely peaceful, their agenda would still be economically dangerous:

What binds a large majority of the protesters together—regardless of age, socioeconomic status or education—is a deep commitment to left-wing policies: opposition to free-market capitalism and support for radical redistribution of wealth, intense regulation of the private sector, and protectionist policies to keep American jobs from going overseas.

Sixty-five percent say that government has a moral responsibility to guarantee all citizens access to affordable health care, a college education, and a secure retirement—no matter the cost. By a large margin (77%-22%), they support raising taxes on the wealthiest Americans, but 58% oppose raising taxes for everybody, with only 36% in favor. And by a close margin, protesters are divided on whether the bank bailouts were necessary (49%) or unnecessary (51%).

And stll many top Democrats seem to be trying to figure out a way of embracing OWS.

The SEC Conflict Minerals Roundtable

The SEC is scheduled to hold a roundtable on conflict minerals disclosures tomorrow. When the roundtable was announced, BNA reported that:

The matters to be debated include appropriate reporting approaches for the final rule, the challenges of tracking conflict minerals through the supply chain, and due diligence and other requirements, the agency said in a release. Participants will include representatives from public companies, human rights organizations, and “other stakeholders.” ...

The Dodd-Frank Wall Street Reform and Consumer Protection Act's conflict minerals provision has emerged as one of the more controversial requirements because of its potential significant impact on public companies (26 CCW 13, 1/12/11).

The reform statute's Section 1502 directs the SEC to impose additional disclosure requirements on issuers that use cassiterite, columbite-tantalite, gold, wolframite or their derivatives—so-called “conflict minerals”—from the Democratic Republic of Congo and neighboring countries. The provision—an amendment introduced by then-Sen. Sam Brownback (R-Kan.) and co-sponsored by a bipartisan group of lawmakers—was intended to stem the financing of armed conflict in the region through the reporting requirements.

 The SEC issued a proposal under Section 1502 in December (25 CCW 385, 12/29/10). However, experiencing pushback from business interests, the SEC extended the comment period for the proposal, and pushed final action on it to the August to December timeframe (26 CCW 35, 2/2/11; 26 CCW 125, 4/20/11). ...

Meanwhile, the commission has come under pressure from Congress and human rights groups to finalize the rulemaking. Conversely, the U.S. Chamber of Commerce urged the SEC in a July letter to hold a second comment period for its proposal, citing the need for more cost-benefit analysis of the requirements (26 CCW 249, 8/17/11).

I've posted on conflict minerals disclosure twice previously. In February 2011, I quoted a discussion of the issue by Broc Romanek and opined that:

My guess is that the costs of providing this disclosure are going to vastly exceed the benefits to investors. As such, it is yet another example of how narrow interest groups were able to hijack the legislative process during Dodd-Frank's drafting so as to advance an agenda wholly distinct from the financial crisis. It's thus also an example of how Congress keeps raising the cost of being public. It's thus yet another example of why American capital markets are losing their competitive standing in the global economy.

In May 2011, I quoted an earlier BNA report predicting that conflict mineral disclosures were going to be hugely expensive to prepare and noted that:

Congress seems to love what I call Kumbayah laws. Everybody on the Hill gets around in a circle, holds hands, condemns some (often admittedly heinous) abuse, sings a couple of choruses of Kumbayah, and then dumps the problem in somebody else's lap. Congress gets to feel good, NGOs pat them on the back, and it costs Congress nothing.

But somebody pays. Consider, for example, the mandate in Dodd-Frank that companies "certify that their products contain no conflict minerals from the Democratic Republic of the Congo (D.R.C.) and adjoining countries." BNA reports that this mandate is going to prove hugely expensive for companies--especially tech companies--and amount to a de facto embargo on such minerals ....

I continued:

Last year President Obama pledged to double US exports by 2015. As the Economist recently commented in a report on the declining value of the US dollar, however:

For Americans concerned about their country’s export prospects, the depressed value of the greenback ought to be good news. In February, the most recent month for which trade data are available, the dollar was 4.5% cheaper in real terms than a year earlier. But although America’s trade deficit did fall in February, it was only because exports fell less steeply than imports. That month’s deficit was still $6 billion higher than a year earlier, when Barack Obama announced a plan to double exports in five years. Achieving that will take more than a cheap currency.

One thing that would help top achieve that goal would be to stop heaping these sort of costs on US business. How about a 4 year freeze on Kumbayah laws?

I still think that a regulatory holiday isn't a bad idea. And I still think this rule is a bad idea.

Megan McArdle on Congressional Insider Trading

Megan McArdle has a column up at The Atlantic on insider trading by members of Congress, which is quite good. In the course of which, she quotes yours truly at some length:

Stephen Bainbridge, a law professor at UCLA, says, “The most widely used theory by SEC and the courts is that [insider trading] undermines investor confidence in the integrity of the markets.” But Bainbridge argues that this doesn’t necessarily make much sense, especially if you look at the current state of the law. In 1980, the Supreme Court ruled that Vincent Chiarella, a printer who had profited from stock trades he made after deducing the identity of the companies involved in merger prospectuses he was printing, was not guilty of insider trading. It takes more than “material nonpublic information” to make you an insider—you also must have a fiduciary duty to keep the information secret. If you overhear two executives in the ladies’ room chatting about an earnings surprise, they may be in trouble, but you are free to use that information however you wish.

Unless it’s the ladies’ room at your employer. Six years after Chiarella v. United States, R. Foster Winans, who wrote The Wall Street Journal’s Heard on the Street column, was convicted on 59 counts of financial fraud for tipping off brokers about the contents before publication. The case was decided by the U.S. Court of Appeals for the Second Circuit, which ruled that Winans had breached the insider-trading rules even though he had no fiduciary connection to the companies he wrote about. Winans, the Second Circuit ruled, had illegally misappropriated information that belonged to his employer. (Chiarella’s verdict might also have been upheld if he’d been convicted on these grounds, but that argument wasn’t raised at trial.)

Yet Bainbridge notes that in ruling that The Journal had a property right in the contents of its articles, the Second Circuit left open the possibility that The Journal could legally trade on the basis of its own articles. “This is why it’s not a confidence issue,” Bainbridge told me. “Surely if The WSJ were allowed to trade, this would shake investor confidence even more [than if Winans were].”

But if insider trading represents a sort of theft from a client or employer, it raises something of a conundrum: members of Congress don’t really have an employer. The law professor Donna Nagy has argued that they have a fiduciary duty to U.S. citizens, which they violate if they participate in insider trades. Ethically, this seems to be certainly true. But legally, Bainbridge thinks it’s a little more murky. He believes that members of Congress are effectively fiduciaries of no one. “There’s at least a strong argument,” he says, “that congressional insider trading is not illegal under current law.”

For my analysis of that argument, see Insider Trading Inside the Beltway

Hodak spanks litigious union pension fund managers

Marc Hodak:

Last January, when I was still updating this blog regularly, I wrote about various unionsbringing suit against Goldman Sachs for their compensation practices.  In particular, they objected to the firm’s longstanding formula that employees would get about 45 percent of net revenues, with the bulk of their pay being determined after the company knew what those net revenues would be, i.e., as “bonuses.”  The allegation was that this program (basically a profit-sharing system) created incentives toward excessively risky and short-term behavior against the interests of the shareholders. 

The Delaware Chancery Court recently tossed the suit, prompting Hodak to remark that:

I only wish that the fiduciaries who brought this fact-challenged suit could be held accountable for the far more provable waste of their investors’ resources for their personal profit, i.e., maintaining their union sinecures.  Wouldn’t some enterprising plaintiffs lawyer love to find that e-mail from a top union official that says, “I know this case doesn’t have any merit, but hiring lawyers to publicly poke Goldman’s eye would help me get re-elected.”

Would twere that it were.

Not in my name: An open letter to the Council of University of California Faculty Associations re Occupy Wall Street

The Council of University of California Faculty Associations purports to be "a coordinating and service agency for the several individual Faculty Associations -- associations of UC Senate faculty -- on the separate campuses of the University of California," which claims to "represents them to all state- or university-wide agencies on issues of common concern." It purports to gather and disseminate "information on issues before the legislative and executive branches of California's government, other relevant state units dealing with higher education, the University administration, and the Board of Regents."

The Council's mission statement posits that it will "concentrate our attention on employer-employee issues like faculty salaries, medical, fringe, and retirement benefits, and other conditions of work like teaching load and outside employment policies."

Yet, despite that limited remit, the Council has decided to speak out in support of the Occupy Wall Street movement:

The social movement known as Occupy Wall Street (OWS) is growing and raising issues of direct relevance to the faculty, students and staff of the University of California, including contracting opportunities and increasing debt loads for our students created by a system of privatized education and a refusal to provide high quality affordable public higher education. The Council of UC Faculty Associations, on behalf of all UC faculty, is making a petition supporting OWS available for UC faculty to sign. 

Hold it right there. The Council does not speak for this member of the UCLA faculty and I deeply resent its claim to do so. In the first place, the issues raised by OWS--even assuming one can identify them with precision--are way outside the scope of the Council's mission of monitoring "employer-employee issues like faculty salaries, medical, fringe, and retirement benefits, and other conditions of work like teaching load and outside employment policies." There is no conceivable way, for example, that anything coming out of OWC could favorably affect faculty salaries. To the contrary, the OWS demands for cheaper higher education would inevitably result in lower salaries and worse benefits.

Turning to the specifics of the petition the Council has put forward, purportedly in my name and those of all other UC faculty, you claim that:

Only by identifying the complex interconnections between repressive economic, social and political regimes can social and economic justice prevail in this country and around the globe. 

I haven't heard such nonsensical socialist cant since the Iron Curtain fell. As such, it's just the sort meaningless mumbo jumbo one would expect from a bunch of liberal arts faculty. (English? Sociology? Certainly not any discipline requiring a nodding acquaintance with economics.)

You further assert that:

The demonstrators are demanding substantive change that redresses the many inequitable features of our society, which have been exacerbated by the financial crisis of 2009 and the subsequent recession.  Among these are: the lack of accountability on the part of the bankers and Wall Street firms that drove the economy to disaster; rising economic inequality in the United States; the intimate relationship between the corporate power and government at all levels, which has made genuine change impossible; the need for dramatic action to provide employment for the jobless and protect programs such as Social Security, Medicare, and Medicaid, in part by requiring the wealthy to pay their fair share of taxes; and the disastrous effects of the costly wars that the United States has been conducting.

1. It's been well documented that the financial crisis of 2007-2008 was mainly, albeit not exclusively, the fault of excessive and deeply flawed government regulation. Read Peter Wallison's Dissent from the Majority Report of the Financial Crisis Inquiry Commission and open your minds to reality.
2. The real problem with effecting change is not the relationship between corporations and the government, but rather the pervasive web of left-liberal special interest groups that seek constantly to grow the size of government, protect unsustainable entitlement programs, and strangle economic growth. Of particular relevance, given the Faculty Association's quasi-union functions, it's been well documented that public sector labor unions have become a chief obstacle to meaningful reform. As I have noted previously, "A core problem with public sector unionism is that it creates a uniquely powerful interest group. In theory, bureaucrats are supposed to work for and be accountable to the elected representatives of the people. But suppose those bureaucrats organize into large, well-funded, powerful unions that can tip election results. With very few and very unique exceptions, no workplace in which the employees elect the supervisors functions well for long. ... In effect, public sector unionism thus means that representatives of the union will often be on both sides of the collective bargaining table. On the one side, the de jure union leaders. On the other side, the bought and paid for politicians. No wonder public sector union wages and benefits are breaking the back of state budgets." Not surprisingly, public sector unions have emerged as staunch supporters of OWS.
3. Define "fair share" and then we can talk. As a member of the 53%, I figure my current share's is more confiscatory than fair.

The Hill recently reported that:

[Newt] Gingrich also said that an education system that was teaching “really dumb ideas” was another cause of the current demonstrations. “We have had a strain of hostility to free enterprise – and frankly, a strain of hostility to classic America – starting in our academic institutions and spreading across this country,” said Gingrich, who is also seeking the Republican nomination.

Congratulations on so aptly proving his point.

Back during the Bush years, it was popular for various Hollywood liberals to oppose the President's policies using the phrase "not in my name." It works for me here. You do not speak in my name.

In short, the aging 60s radicals and the young wannabes in your midst need to get over their 60s nostalgia and get back to the work of educating people to do something more useful with their lives than holding protest marches.

Cold remedies

I've been fighting a bad head cold and sore throat since Sunday night, which migrated to my chest yesterday. I think I'm finally on the mend, having thrown a veritable arsenal of remedies at it over the last few days. FWIW, here's my impression of their efficacy:

1. Hot and sour soup. Very good. Hydrates but also makes you sweat, which loosens up the mucus. Plus, it tastes really good at a time when your taste buds are subpar. Think of it as chicken soup on steroids.
2. Airborne. Highly dubious. But it tastes better than plain water and so at the very least it encourages hydration.
3. Vicks Vapo-rub. Brings back comforting childhood memories and does seem to loosen up the mucus.
4. Mucinex. Worked great when chest and coughing phase started.
5. Advil. Essential.
6. Antihistamines. Worse than useless. Hyped me up.
7. Tabasco liberally sprinkled on scrambled eggs. Like hot and sour soup, got things flowing.
8. Ricola lemon honey drops. Very temporary relief of sore throat. Nada for cough.
9. Coffee with cream and sugar. Very bad idea. Seemed to make chest congestion worse.
10. Sleep. Lots and lots of sleep. Nature's cure.

Is regulation a drag on the economy? Shockingly, CNN Money found a Democrat who said no

CNN Money reports:

Gary Burtless, a labor economist at the Brookings Institution, said there is little evidence to suggest that government regulations are killing jobs.

"There is a lack of confidence that demand would exist for the extra products businesses would produce by increasing hiring," Burtless said.

So if not regulations -- what is the biggest problem? One prime suspect is a lack of demand for the goods and services that businesses produce.

"I think it's pretty plain that there hasn't been a robust rebound in consumer consumption," Burtless said.

And Burtless said complaining about regulations is not something new for the business community -- which can of course lower costs and increase profits if regulations are repealed.

"There are certain businessmen who say regulation is an issue, but they also said the same thing when the economy was robustly growing," Burtless said. ...

Burtless doesn't find the "uncertainty" argument convincing.

"Those laws haven't gone into effect yet. How are those things limiting jobs?" he asked. "I think you've got to actually make the case that lots of regulations have sprung up since January 2009 to make this complaint carry very much water."

What CNN Money doesn't tell you is that according to OpenSecrets.org, Burtless has made around $6,000 in political donations since 2007, exclusively to Democrats, and mostly to Barack Obama.

So there's no guarantee this is a nonpartisan think tanker. Instead, there's a risk he's got a partisan agenda. Of course, so do I, but my readers already know that and can discount it appropriately. CNN Money failed to advise their readers of Burtless' politics when it let his analysis drive the story. Was that fair and balanced? 

Apple and Occupy Wall Street

NY Post:

Even as desperate Pander-crats, including the president, continue to baby-talk the Wall Street hooligans, some of whom have violently attacked police, Mayor Bloomberg gets the point and tone just right.

“What they’re trying to do is take the jobs away from people working in this city,” the mayor told radio man John Gambling Friday. “And some of the labor unions, the municipal unions that are participating, their salaries come from the taxes paid by the people they are trying to vilify.” ....

Reader Harold Theurer sees another angle. Noting the passing of Steve Jobs, he wonders how many protesters carrying Apple products understand how those gadgets came to exist.

“What started out as two men in a garage with ideas and passion would have been nothing more than two guys in a garage with ideas and passion had it not been for an IPO on Dec. 12, 1980, when Apple went public at $22 per share,” he writes.

“Big Bad Wall Street raised $101 million for Mr. Jobs to expand his ideas, create jobs and change the landscape of technology. The next time any of the Wall Street occupiers makes an iTune purchase, it can be traced back to some Big Bad Banker’s belief in Mr. Jobs and his company.”

Saint Warren's halo gets a little more tarnish

In between opining on how to fix the US tax system, Warren Buffett still runs Berkshire Hathaway. as James McRitchie points out, however, Saint Warren's corporate governance practices leave something to be desired:

Francine McKenna isn’t afraid to take on the big four auditing firms or the rich and powerful. Look for her column, Accounting Watchdog at Forbes.com. The following is an extended excerpt from a recent post, The Berkshire Hathaway Corporate Governance Performance. “Buffett judges the investments he makes ruthlessly, but allows his operating companies to run on autopilot.” That decentralized structure allows plausible deniability when anything goes wrong.

I encourage reading the entire article and getting familiar with McKenna’s work. It is good to see such an expert willing to speak truth to power. As a Berkshire Hathaway shareowner, her analysis certainly makes me nervous and it is hard to imagine shareowners taking on such an iconic figure through governance initiatives successfully.

In particular, she identifies how Berkshire satisfies the "eight characteristics of decentralized companies that promote lack of accountability and, potentially, the existence of financial fraud." Go read the whole thing.

What if Dr. Seuss wrote The Call of Cthulhu?

Brilliant. Priceless. I love it.

Is the Eurozone facing a Lehman moment?

Free exchange and David Skeel comment