What do the two hot topics in business — the global economic crisis and the Satyam swindle — have in common? At the bottom of both are failures of business institutions leading to an erosion of trust in the economy. The collapse of Lehman Brothers in the US, and weaknesses in AIG, Fannie Mae, Citibank, GM, and many other large firms, have created panic extending beyond the US. Similarly, the shenanigans of Satyam’s promoters have created widespread reverberations in India and abroad. It is not just the governance of these firms, but also the institutions set up to ensure the integrity of the corporate system — auditors, credit rating agencies, etc, many of which are also business institutions — which have failed in their duties to society. Recent polls show a dramatic erosion of faith in business. Three out of four Americans trust business less than they did one year ago.
At the World Economic Forum in Davos this year, economists from the IMF and global think tanks painted a dismal picture of the world economy. They described a global economic edifice shaken by an unexpected earthquake with its epicentre in the US subprime loan market. There is no safe haven in it they said and warned of further after-shocks, in Europe, the US, and Asia, for which India too must be prepared. The immediate solutions offered — for central banks to release more money and for governments to spend more money — seem inadequate. Whereas what the global economy needs is a new architecture to prevent such catastrophes and to restore trust in free-market capitalism.
Business leaders, who until 2008 had urged governments to stay out of business, are now urging governments to vigorously save businesses. They want governments to intervene in the markets but at the same time to keep markets free. This raises questions in the public’s mind about what they want markets to be free from. Freedom only from barriers to trade? Or also freedom from government regulations? Or even freedom from responsibility for their actions?
The freedom to succeed — and to fail — is the essence of the system of free enterprise. However, with these economic freedoms, entrepreneurs and managers cannot be given freedom from responsibility towards others. When top executives in Enron and WorldCom found ways to beat the systems then in place, Sarbanes-Oxley followed. Corporations doing business in the US complained that it was an overreaction to isolated deviant acts for which everyone was being inconvenienced. Satyam
is turning out to be a case of criminal fraud, which overwhelmed systems of corporate governance. Businessmen fear that the reaction to the corporate failures in the US and Satyam in India will be more controls which could stifle business freedoms. Therefore, the architectural challenge is to shape institutions and systems of corporate governance that give business managers freedom to innovate with safeguards to ensure that they also fulfil society’s requirements.
If one used the metaphor of a house, trust in institutions is the solid roof that we all need above us. It gives us security to live without fear of bad things falling upon us. Structures are necessary to uphold this roof. When the roof begins to cave in, architects may propose more vertical pillars to support it. Thus, when problems of malfeasance appear in economies and societies, there is demand for more rules and more agencies that will regulate and control. The multiplication of such structures reduces the room to move around within the house, thus reducing the freedom of enterprises. Therefore, the architect must conceive of other ways to strengthen the structure that do no require this plethora of top-down controls. These could be well-placed horizontal beams, which strengthen the integrity of the structure while giving space within it.
These horizontal structures are the values by which people relate to each other and business conducts itself. Economists say that incentives must be aligned to induce people to behave properly. Economists tend to think of incentives in terms of improvement of measurable financial outcomes for individuals and investors. Therefore, they emphasise the creation of financial wealth, and measure ‘value’ in financial terms. And when societies are in trouble, economists will concentrate on improving the flow of money and investments. Whereas the present crisis of confidence in the freemarket system requires that leaders also focus on moral and ethical values.
Like Arjun on the battlefield at Kurukshetra who asked Krishna a moral question, not advice on how to fight the battle, business leaders fighting the recession must also ask what they must change in their approach to business to regain society’s trust if they want more freedom in future. Therefore, corporate boards should introspect from time to time about the values that guide their decisions.
Independent directors on boards are not expected to merely provide functional expertise, in finance, law, business management, etc or knowledge of the industry. These directors must also be a moral check, built into the system of corporate governance, to sense when promoters and managers are failing in their responsibilities to society and to correct them. How many independent directors are prepared to fulfil this role? And how often does the board candidly introspect into the values guiding its work?
Source: TOI, Editorial
At the World Economic Forum in Davos this year, economists from the IMF and global think tanks painted a dismal picture of the world economy. They described a global economic edifice shaken by an unexpected earthquake with its epicentre in the US subprime loan market. There is no safe haven in it they said and warned of further after-shocks, in Europe, the US, and Asia, for which India too must be prepared. The immediate solutions offered — for central banks to release more money and for governments to spend more money — seem inadequate. Whereas what the global economy needs is a new architecture to prevent such catastrophes and to restore trust in free-market capitalism.
Business leaders, who until 2008 had urged governments to stay out of business, are now urging governments to vigorously save businesses. They want governments to intervene in the markets but at the same time to keep markets free. This raises questions in the public’s mind about what they want markets to be free from. Freedom only from barriers to trade? Or also freedom from government regulations? Or even freedom from responsibility for their actions?
The freedom to succeed — and to fail — is the essence of the system of free enterprise. However, with these economic freedoms, entrepreneurs and managers cannot be given freedom from responsibility towards others. When top executives in Enron and WorldCom found ways to beat the systems then in place, Sarbanes-Oxley followed. Corporations doing business in the US complained that it was an overreaction to isolated deviant acts for which everyone was being inconvenienced. Satyam
is turning out to be a case of criminal fraud, which overwhelmed systems of corporate governance. Businessmen fear that the reaction to the corporate failures in the US and Satyam in India will be more controls which could stifle business freedoms. Therefore, the architectural challenge is to shape institutions and systems of corporate governance that give business managers freedom to innovate with safeguards to ensure that they also fulfil society’s requirements.
If one used the metaphor of a house, trust in institutions is the solid roof that we all need above us. It gives us security to live without fear of bad things falling upon us. Structures are necessary to uphold this roof. When the roof begins to cave in, architects may propose more vertical pillars to support it. Thus, when problems of malfeasance appear in economies and societies, there is demand for more rules and more agencies that will regulate and control. The multiplication of such structures reduces the room to move around within the house, thus reducing the freedom of enterprises. Therefore, the architect must conceive of other ways to strengthen the structure that do no require this plethora of top-down controls. These could be well-placed horizontal beams, which strengthen the integrity of the structure while giving space within it.
These horizontal structures are the values by which people relate to each other and business conducts itself. Economists say that incentives must be aligned to induce people to behave properly. Economists tend to think of incentives in terms of improvement of measurable financial outcomes for individuals and investors. Therefore, they emphasise the creation of financial wealth, and measure ‘value’ in financial terms. And when societies are in trouble, economists will concentrate on improving the flow of money and investments. Whereas the present crisis of confidence in the freemarket system requires that leaders also focus on moral and ethical values.
Like Arjun on the battlefield at Kurukshetra who asked Krishna a moral question, not advice on how to fight the battle, business leaders fighting the recession must also ask what they must change in their approach to business to regain society’s trust if they want more freedom in future. Therefore, corporate boards should introspect from time to time about the values that guide their decisions.
Independent directors on boards are not expected to merely provide functional expertise, in finance, law, business management, etc or knowledge of the industry. These directors must also be a moral check, built into the system of corporate governance, to sense when promoters and managers are failing in their responsibilities to society and to correct them. How many independent directors are prepared to fulfil this role? And how often does the board candidly introspect into the values guiding its work?
Source: TOI, Editorial
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