Accountability, Part 1
From Enron, we have learned that corporations have no brains and no souls. Only the people within them have brains and souls. Without brains, corporations cannot think of their bottom lines. Only people can. If the bottom line of the corporation happens to coincide with the bottom lines of management as individuals, they promote it. If not, they do not. Economists have known this for decades. But many noneconomists have been confused.
Enron's chief "sin" (if a non-brain can sin) was that its management had different bottom lines from the company. But the different bottom lines were not consolidated. When I was a practicing CPA (fifty years ago), we would always consolidate a client's accounts (i.e., consider the corporation and all its subsidiaries as a single entity) if its operations were better understood that way. Normally there were no "off-balance-sheet" transactions (such as Enron's putting expenses in a subsidiary whose accounting it did not disclose). Or if, by valid exception, there were such transactions, we always revealed them in a footnote. Thus individual interests that may have been different from those of the company were always revealed.
Times have changed. First, corporations have become more complex, with different lines of enterprise combined under a single management. If you want to know the profits of an energy company alone, you don't consolidate them with its subsidiary in the hardware business. Etc. Sometimes it is hard to know what to consolidate, and what not. There can be legitimate differences of opinion, not related to corruption. Does all this mean that companies should not merge with "unlikes?"
Not necessarily. Sometimes a conglomerate can be better managed (at less cost) than if it were separate companies. But sometimes not. Often companies are merged, and often the mergers are broken (companies are split off). Who is better positioned to decide, than the management? But managers can err, and sometimes their "mistakes" reflect their different bottom lines from those of the company. Mergers, or splits, that benefit them do not necessarily benefit the company. Enron's management was guilty of this.
Is government regulation the solution? Not necessarily. The government does not always know what is best for (1) the stockholders, (2) the employees, (3) the lending banks, (4) the vendors, or (5) the customers. Whom among the above would government favor, anyway? The most "deserving," or the ones with the most political clout?
My answer is that each of the above groups should have its own organization to defend its interests. Labor unions should study what the company is doing, demanding certain kinds of information, and pressuring the company to defend the interests of labor. So should banking organizations, stockholder organizations, and yes, customer organizations. Of course, ordinary stockholders or customers would not want to do that alone. So they should subscribe to agencies that would protect them. Government treats them as if they all had the same interests, and besides, it too is subject to bribery (known as campaign contributions) by particular interests.
Why have these groups not formed, to protect themselves? Mainly, I believe, because we live in an age in which we depend on the government to solve whatever goes wrong (with pensions, health care, education, anything else), so naturally labor unions, etc., lose their umph. Despite our instant tendency to run to government for action, I believe the twenty-first century (maybe fifty of one hundred years from now) will discover the failures of government and revert to the Toquevillian concept of groups, and the democratic concept of balance of power among them.
Second, our national ethics have declined over fifty years. In my day as a CPA, no accountant would give management advice to a client, much less accept a job with a client without first quitting the CPA firm. Today, these conflicts of interest are commonplace. They are, indeed, what sank Arthur Andersen. The auditing CPA has an interest in the client's success, so it tends to slant the audit (e.g., not consolidate with loss-making subsidiaries) to make the company appear more successful. CPAs no longer recognizes their separate accountability to investors, banks, employees, or the general public.
What is the solution to that? Congress is considering laws requiring the forced separation of auditing and consulting firms. Accountants oppose these virulently, because their bottom lines are improved by the connection. Though I certainly favor this outcome, it will be difficult to get such a law passed with sufficient teeth.
There are problems with the law anyway. The government would treat all cases alike, when in fact they differ from each other. Accountants should (and did in my day) give advice on how to improve the accounting system. How can they separate that from advice on how to manage finances? Once again, government please keep out. Instead, let us strengthen the labor unions, bankers' and stockholders organizations, and customer guilds, to defend their interests through their studies of particular companies. This is happening already. Fidelity Investments, for example, is forming a unit to put pressure on the auditors of companies in its portfolios.
But I said our ethics have declined generally, over fifty years, didn't I? I do believe that in the heyday of information technology, and a rising stock market, we have all tended toward guarding our own bottom lines to the sacrifice of traditional ethics. Fifty years ago Merrill Lynch recommended investments that it honestly believed lay in the interests of clients. Now it is charged with recommending investments in the interests of the brokers, who would sell out, leaving clients holding the bag. In the long run, this behavior would not promote the bottom line of Merrill Lynch, but in the short run it promotes that of the brokers. They can retire on their loot and let the company go dang.
So, what is to be done? Laws to promote honesty and ethical behavior will have no force in the face of the overwhelming temptation of a rise in the business cycle. Instead, we must learn from our mistakes, as Enron and Andersen and others go bust and as all investors, employees, and customers learn how rough and tumble the free market is. But let us not fall into the opposite pit, of demanding that the government regulate and protect us, since that has its hazards as well (see TQE #43). Let us learn to live in the nineteenth century again, or (I hope) the latter part of the twenty-first) in which the cycle will swing back. Let us rely primarily upon ourselves and the cooperative organizations we can form.
Let the ethos of self-reliance and cooperation at lower levels again permeate our Friends' Meetings, as it did when I first joined Quakers in 1943.
Letter No. 48 ("To whom are we accountable? Part Two") will take up accountability for the environment. It will also carry us beyond the Enron/Andersen/Merrill Lynch debacle, to explain why I think our over-all economic ethics have declined over fifty years. But it will also explain why I remain optimistic that we are on the mend.
Sincerely your friend,
Please send comments on this or any TQE, at any time. Selected comments will be appended to the appropriate letter as they are received. Please indicate in the subject line the number of the Letter to which you refer! The email address is tqe-comment followed by @quaker.org. All published letters will be edited for spelling, grammar, clarity, and brevity. Please mention your home meeting, church, synagogue (or ...), and where you live.
I appreciate your work on these TQEs. They are always insightful, well-written, and non-confrontational. I learn something in every one, including this one.
Carol Conzelman, anthropology graduate student, University of Colorado.
Very intelligent, and light years ahead of how the mainstream press understands these issues.
Michael Schefer, Jewish (non-attending), Philadelphia PA, children in Germantown Friends School.
As usual a thought-provoking letter. It is hard for me to see how such a theoretical object as an "Enron customers' group" (etc) could possibly be created, so the solution you pose seems hopelessly idealistic. And I wonder if unions (etc) would have access to the information they need to guard their interests and keep Enron (and the others) on the straight and narrow.
Roger Conant, Mount Toby Friends Meeting, Leverett MA.
Reply: If you had lived in George Fox's time and I had described to you the world economy of today, my guess is that you would call me "hopelessly idealistic." Given time, society changes more than the people of any generation can possibly imagine. Jack
Yes, I entirely agree that citizens organizing can make a lot of corrections. Feedback is necessary in a healthy system, and a well-functioning democracy has that built in. Plutocracies and dictatorships are weak in this department. I hope the new tools in place to fight terrorism aren't used to squelch people organizing in the ways you suggest. Some unions were pretty crippled by the McCarthyites in the fifties.
Trudy Reagan, Palo Alto (CA) Friends Meeting.
It has seemed to me that there is a lot of pressure for accountability from some of the state pension funds, notably Calif and NY. Obviously not enough, but with the disaster that Enron constituted for Fla. pension funds, they are all on notice now. This leaves the rest of us as free riders on their work, though.
Dave Schutz, formerly of Berkeley (CA) Meeting.
While the number of Americans investing in the public stock markets has increased over the last several decades, I would hazard that the number of us with a stake in our own businesses has decreased. In an age of Walmart and McDonalds, it is harder for an individual or a family to secure their own livelihood by serving others in their community. Some of your earlier writings on the shrinking number of Friends engaged in for-profit business may have as much to do with this trend as anything else. Could it be that work in the publicly-held corporate environment is less in alignment with Friends values than work in small business? While you say corporations do not have souls, I feel that small companies that are natural extensions of their owners and customers just may.
Charles Rathmann, Milwaukee (MN) Monthly Meeting.
Reply: The number of enterprises hiring less than 20 employees decreased from 89% of total enterprises in the United States in 1990 to 86% in 1999. (From Statistical Abstract of the United States, 2001, table 723.) Is that what you mean? (These figures do not include the self-employed, for which I could not find data). Jack
Transaction costs! Transaction costs! As a shareholder I appoint a Board of Directors, who appoint the management, now I have to form a cooperative group to see they do their job? What is the point of owning shares if you cannot trust the directors and management? I'm much better off to invest with Warren Buffet whose staff look after his interests and where he will use his clout to discipline management. Where were the big players TIAA-CREF, other pension funds, CALPERS, Fidelity in holding Enron, Global Crossing, and the other big disasters? Were they monitoring management as they should have been. There is no way I can know as much about a company as CALPERS. Transaction costs!
Will Candler, Annapolis (MD) Friends Meeting.
I was intrigued by your comment that ethics have generally declined over the past fifty years. I believe, as you do, that people should be responsible for themselves, and that the culture of victimhood is deplorable. But I've noticed in my recent studies how there often seems to be a strong structural reason for a social or cultural development (such as the pork taboo in Islam and Judaism). I am thinking of how family life has been diluted since economic production by the family was monetised and outsourced. I'm sure there's more to it, but it seems to be families were half-welded together by necessity in the form of chores, errands and eating the same meal all at once (which I have some hazy memories of myself!). I'd be willing to bet that the perceived decline in ethics has some similar structural foundation.
Paul Connor, Toronto, Canada.
The business ethics problem is broader and deeper than just the CPA issue, and I contend that it is in part driven by the overwhelming size and dominance that corporations have been allowed to achieve in recent years. Corporations have become the dominant force in government, not individual citizens. Much more control over excessively large and powerful corporations is in order, to limit dominance in any given market arena and in politics and public policy.
Rich Andrews, Boulder (CO) Meeting of Friends.
In practice, the law of unintended consequences has worked overtime. Another, more classical view, of current problems of corporate governance is that current laws and regulations do not give corporate managers the proper incentives to maximize long term stockholder value. For example, stock options have worked to get managers to maximize corporate value in the short run until the managers can cash out their options and then come the accounting scandals! In this view, national ethics have not declined over the past fifty years, but rather the laws of corporate governance have not been changed enough to keep up with the increasing complexity of the modern corporation. We need to change the tax and other aspects of stock options so that they will serve their intended function of maximizing corporate value over a longer period of time, we need to change the rules for accounting and auditing so that corporate reports will be honest, we need to end the stock brokers' temptations to tout the stocks their firms finances, etc. etc.
Bill Rhoads, Germantown (PA) Meeting.
I know that you have a plan for Part Two already, but a Part Three might get into public choice economics. Point out that you can make useful predictions if you treat "civil servants" with the same jaundiced eye as you do "private management", and "not-for-profit public benefit corporations" as corporations that merely happen to have a zero on the bottom of the balance sheet for tax reasons.
Russ Nelson, St. Lawrence Valley (NY) Friends Meeting.
What if you are wrong? What if the economic system is not neutral? Which it is not! Our macro-economics should not dominate all other aspects of life! Government is us we the people. We can support other economic models and not be 'against' Jack Powelson.
Charlie Thomas, Cascabel (AZ) Worship Group.
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Publisher: Russ Nelson, St. Lawrence Valley (NY) Friends Meeting
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