One outcome of the Great Recession has been a torrent of books on the origins and consequences of the financial collapse of 2008, as well as previous debacles in what might be called the era of Enron. Academics, journalists, and some defectors from the well-paid world of Wall Street have produced books that heighten our understanding of what has happened to the American corporate economy since the beginning of the twenty-first century. Perhaps, surprisingly, a book on the antebellum growth of incorporation should be added to the list of important works that contribute to our appreciation of the latest crisis. Robert E. Wright’s Corporation Nation provides a careful account of the legal structuring and governance of the first corporations. Knowledge of the safeguards embedded in the legal framework of the country’s initial corporate entities has been all but lost from the post-Civil War era through the twentieth century. Wright’s argument stems from a deep concern about the dangers inherent in the “agency principal problem” intrinsic to the corporate form. He maintains that the initially tightly governed antebellum corporations have evolved into very loosely governed corporations, which have contributed to the recent financial crises. If the stark weakening of corporate governance is not attended to, Wright fears an “existential” crisis as Americans broadly lose faith in stocks.
Incorporation in the antebellum economy created a tight governance system based, for the most part, on stockholders operating the enterprises in which they invested. State legislatures granted charters that spelled out the benefits that privileged the initial stockholders, such as “the ability to sue and be sued in their own name, perpetual succession, use of a corporate seal, limited liability, [and] share transferability”. In return, “early corporations were only supposed to engage in activities explicitly laid out in their charters, a concept tied to the legal doctrine called ‘ultra vires’” (p. 4).
Wright’s analysis rests on a wide-ranging reading of economic and legal history and an impressive grasp of the writings about corporations by antebellum jurists, legislators, journalists, entrepreneurs, investors, merchants, and bankers. His work also illustrates the surprisingly broad scope of specially chartered businesses in the antebellum period. Wright and Richard Sylla found 22,419 such entities chartered between 1790 and 1860, based on data they assembled in a project sponsored by the National Science Foundation (NSF) (pp. 58–59). Wright’s findings challenge the work of a previous generation of historians who have for decades shaped our views of the corporation in the antebellum period. These scholars believed—and their views continue to appear in recent writings—that antebellum incorporations were confined to the infrastructure and banking sectors. Instead, Wright argues that a broad sweep of incorporated business entities stimulated economic growth by promoting local employment and economic activity, as the capital assembled through chartering helped corporations to realize scale economies, vertical integration, and a degree of market power.
Tight governance in the antebellum period was not foolproof, of course. Managerial incompetence and fraud prompted ongoing debates about the role of state legislatures—and, later, Congress—in preventing corporate failure and abuse. The principal–agent problem increased concern because of “the intrinsic difficulty of managing large, complex organizations in a competitive environment” (p. 158). How best to limit fraud and ineptitude led to new state rules. To limit embezzlement, for example, large company checks had to be countersigned. More generally, banks and insurance companies were required to standardize accounting and actuarial rules. Fraud and mishandling of corporate affairs invited state legislative investigative committees to examine company affairs ever more closely. According to many corporate charters, such efforts should have been the responsibility of stockholders, not legislators. Banks were the most likely targets of legislative scrutiny, especially after the recession of 1819 and subsequent recessions. Some state legislatures rewrote charters to limit failures. They demanded increased capital reserves and limited leverage to two or three times paid-in capital, exposing stockholders to greater liability and removal of directors should a bank become insolvent.
In the immediate post-Civil War period, stockholders and state legislators struggled to hold sway over the chartering and monitoring of corporations. Limits on capitalization, ultra vires, and strict reporting requirements initially preserved a balance between the companies (managers and directors) and their stockholders. Increasingly, as the largest, broad-based companies chafed at the limits state charters imposed on them, they shopped around for better deals. New Jersey, in effect, won a race to the bottom in loosening requirements for corporate chartering. By 1900, 90 percent of the largest corporations were chartered there.
In widely held corporations, these changes increased the responsibility of stockholders to monitor corporate operations. This proved an impossible task, however. While state power over corporations eroded, Congress enhanced its role in corporate governance through the sweeping 1890 Sherman Act, which successfully limited cartel behavior. To gain the benefits of cartels without running afoul of the Sherman Act, many large corporations turned to holding companies. When these became entangled in the federal courts, many companies amalgamated. Mergers had become a common corporate strategy following the depression of the 1890s. During the first Great Merger Movement (1897–1904), 257 giant enterprises were created from 4227 companies. These combinations brought about economies of scale, improvements in technology, growing markets (national and international), and easier access to capital markets. They also increased the numbers of stockholders, further dispersing ownership and enhancing the power of managers.
During the Great Depression of the 1930s, the federal government sought greater corporate transparency by requiring public audits. Apprehensions about the abuse of managerial power, however, declined in the post-World War II boom. Such happy days ended during the inflation of the 1970s, which exposed the personal and organizational weaknesses in the top ranks of leading corporations. A market for corporate control was the private sector’s device to discipline top management. Corporate raiders defended stockholders by challenging many corporations’ stock prices. Top management remained untamed, battling the raiders in courts and legislatures. By the turn of the century, senior managers also had acquired stock options to enhance already generous compensation packages. With a growing interest in stock options, they attempted to manage stock values by compromising the independence of so-called gatekeepers in accounting, legal, and stock rating firms.
Irresponsible top managers contributed to the financial collapse of 2007–2009. Federal responses, such as the Sarbanes-Oxley law, are not up to the challenges of the current situation, says Wright. Instead, he calls for strengthening corporate governance. He favors restoring the independence of boards of directors and putting at risk the personal holdings of a company’s top management. Wright is not sanguine that these changes will be easy to bring about. However, another crisis in the United States might have even more drastic consequences than the one of 2007–2009.
Not surprisingly, a book of such range has gaps. Wright does not consider fully the role of the federal courts in governance issues, nor does he address the growth of an emboldened, shameless state and federal lobbying behemoth. Nevertheless, Wright has written a masterful scholarly work that should promote further research. It can also be read as a thought-provoking history that puts into clearer perspective the issues facing the United States in dealing with profound problems in corporate governance.
