Published by EH.Net (December 2014)

Robert E. Wright, Corporation Nation. Philadelphia: University of Pennsylvania Press, 2014.  x + 317 pp. $70 (hardcover), ISBN: 978-0-8122-4564-6.

Reviewed for EH.Net by Eric Hilt, Department of Economics, Wellesley College.

If the prominent corporate failures and scandals of recent decades are any indication, the governance of American public companies suffers from severe problems.  Many legal scholars have argued that these problems are the outcome of a long historical process of erosion of the power of shareholders, as the control of increasingly large and complex firms has been delegated to professional managers, and as legal doctrines that once enabled shareholders to protect their interests have been weakened.  Some have called for a “return to corporate fundamentals” (a typical example is MacAvoy and Millstein, 2003, p. 2).

Robert E. Wright’s Corporation Nation argues the fundamentals we should return to are those of the earliest American corporations, from the late eighteenth and early nineteenth century.  In his view, early corporations got things right, and the mechanisms by which they were governed can and should be adapted into modern enterprises.  In support of his argument, Wright, who is the Nef Family Chair of Political Economy at Augustana College, presents detailed descriptions of the early use of the corporate form and the advantages it brought, and outlines the basic principles by which antebellum corporations were governed.

Wright writes in an informal and engaging style, and weaves many quotations from historical materials into the text: he lets early shareholders and journalists finish many of his sentences.  His extensive use of early pamphlets and business records, including many that have not been previously quoted in the literature, enhances the value of the book.

An even more valuable contribution of the book is the presentation of new data Wright collected with Richard Sylla of NYU on the annual numbers of corporate charters granted by the American states up to 1860.  At the beginning of the nineteenth century, the only way for entrepreneurs to incorporate a business was to persuade their state government to pass a special law granting them a corporate charter.  Wright and his collaborators undertook the formidable task of reading through the session laws of every state up to 1860, and collected basic information on each charter they found.  In total, there were more than 22,000 special-act charters.  This is the first comprehensive count of such incorporations, and the data, which are freely available from the authors, will be quite valuable to scholars.  But it is only a count of corporations created through special-act charters.  Beginning in the mid-1840s, most of the states began to adopt general incorporation acts, which enabled corporations to be formed through a simple registration process.  The dataset is therefore an important first step that future scholars will hopefully follow by collecting data on incorporations through states’ general acts.

Wright presents tabulations of the data by state and by industry, which reveal surprising numbers of corporations in every region and in a very wide range of industries.  The data clearly show that state governments’ grants of corporate charters were not confined to enterprises serving an official public purpose, as some scholars have claimed.  Instead, charters were liberally granted to what were essentially private businesses in a broad range of industries.  Data on incorporations through general acts would only strengthen this point.

Wright argues that the corporation was adopted so widely because it conferred important advantages on businesses, and also because early incorporators followed sound principles of governance and found ways to address the agency problems inherent in the form.  Early shareholders, in his view, carefully monitored their firms, actively participated in annual meetings, sought and received access to at least some accounting information, and were empowered by the law to throw out directors in cases of poor performance or malfeasance, or to rein in corporations that strayed from their original business purposes.

Wright then argues that over time, as businesses grew larger and more complex, their shareholders became more distant and held smaller stakes and they no longer had any incentive to monitor management.  Wright also claims that legal doctrines important to the rights of investors began to weaken.  His account of the deteriorating quality of corporate governance is generally consistent with that presented in Berle and Means’ famous book The Modern Corporation and Private Property (1932), which has become widely accepted.  But unlike Berle and Means he argues that “state-centered regulations,” which became increasingly important over time, were actually part of the problem, as they were inherently inferior to mechanisms by which investors policed their own interests.

The book ends with a list of proposals to improve the governance of modern firms.  They are not based on early corporation law, but rather are intended to empower shareholders and create conditions resembling those in early corporations.  The proposals are interesting, and include such measures as, for example, the requirement that all directors be independent.   The proposed changes might well enhance the influence of shareholders.  But on the other hand, a substantial literature in economics has concluded that governance institutions, such as board structures, are chosen optimally, in response to the particular problems firms face.  The insiders sitting on firms’ boards are likely there for an important reason, and removing them might aggravate whatever problem their presence was intended to solve.

But more generally, it is unclear whether replicating the governance mechanisms of early corporations among modern firms would actually result in meaningful improvements.  Agency problems are inherent in the corporate form, and some recent scholarship has challenged the account of Berle and Means that the quality of corporate governance, or legal protections of investors, eroded over time (Werner and Smith, 1991).  Mismanagement, scandals, and sudden failures were not unfamiliar to investors in very early corporations, who frequently complained about the quality of their firms’ governance. In fact the insiders in some prominent early nineteenth century corporations did things with their firms’ assets that would make the directors of Enron or Worldcom blush.  Wright acknowledges these episodes, but argues that they represent aberrations — the outcome of deviations from good governance principles.  The difficult question, then, is not what constitutes sound governance principles, but how to ensure that sound principles are adhered to.

Adolph A. Berle and Gardiner C. Means. 1932.  The Modern Corporation and Private Property.  New York: MacMillan.

Paul W. MacAvoy and Ira M. Millstein. 2003. The Recurrent Crisis in Corporate Governance. Stanford, CA: Stanford University Press.

Walter Werner and Steven T. Smith.  1991.  Wall Street. New York: Columbia University Press.

Eric Hilt is Associate Professor, Economics at Wellesley College, and Research Associate, NBER.  His recent work on corporate governance is summarized in the article “History of American Corporate Governance: Law, Institutions, and Politics,” Annual Review of Financial Economics 6 (2014): 1-21.

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