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Abstract:
The text of the proposed European Union takeover directive was last revised in June 1999, and there is still controversy about a crucial feature that it shares with London's City Code and Germany's voluntary Takeover Code: a strict "neutrality rule" that would require the board of a target corporation to desist from deploying most defensive measures without shareholder approval. The proposed directive thus follows the rule laid down in Principle 7 of the City Code which outlaws, on the part of the target's board, "any action, which could effectively result in any bona fide offer being frustrated or in the shareholders of the offeree company being denied the opportunity to decide on its merits."

This strict neutrality rule is mitigated in the proposed European takeover directive and in the German voluntary Takeover Code, both of which exempt a few defensive measures - such as looking for a white knight - from the strict ban on defensive measures deployed by the board of a target corporation without prior shareholder approval. The vast majority of defensive measures - such as raising new capital, making significant acquisitions or selling significant assets - are permitted, however, only if authorized by a general shareholders' meeting which takes place during the period of the takeover bid. This exception is in most cases practically impossible to use because the notice and preparation period for a general shareholders' meeting is too long (in Germany, more than two months).

The argument in favor of the strict neutrality rule begins with the principal-agent theory of corporate law widely held by institutional investors and legal scholars, particularly in the United States: directors are the agents of shareholders and are charged with acting in shareholders' best interests rather than their own in managing the corporation. The strict neutrality rule extrapolates from this agency duty a specific rule for hostile bids which requires directors' to desist from acting in circumstances where their own interests conflict with those of shareholders. Allowing directors to act, but subject to more intense scrutiny by courts, is not sufficient for proponents of strict neutrality. A strict ban on director action that could frustrate the bid without prior shareholder approval is believed to be required.

This argument for board neutrality, however, does not consider the fact that directors sometimes need to respond to shareholders' collective action problems when a tender offer is coercive. Nor does it consider the fact that defensive measures sometimes increase the price paid for a target company. Furthermore, the argument for board neutrality refuses to accommodate any responsibility of directors to non-shareholder stakeholders, an important feature of corporate law in many European countries.

In Europe, arguments for the strict neutrality rule are also empirically based on England's positive experience with the City Code. This empirical observation, however, does not support the theoretical argument for a strict neutrality rule standing alone, as the City Code not only restricts the board of the target company, but also restricts the conduct of the bidding corporation, fostering a balance of power between the two. Other countries that have adopted the strict neutrality rule, but not the City Code's restrictions on the bidder, such as Austria, and Germany in its voluntary Takeover Code, have done so relatively recently and so far have very limited actual experience with hostile tender offers.

Yet another problem is that the strict neutrality rule does not exist in a vacuum. In European countries that are politically hostile to hostile takeovers, board neutrality may be circumvented by government imposed defensive measures, and regulation can be enforced in a way that makes it nearly impossible to operate a target company once it is acquired. These burdens are likely to be far more disastrous for shareholders, and perhaps even for other stakeholders, than defensive measures implemented by a board of directors chosen by the shareholders. The strict neutrality rule, in this context, sends just the wrong message: that incumbent managers and other stakeholders should turn to politicians to fend off hostile bidders rather than to their own board of directors.

Furthermore, regardless of what the European takeover directive says, hostile bids will be difficult in some countries, particularly Germany, unless the legislature does something about a costly but effective bulwark against hostile takeovers: cross ownership of equity among corporate conglomerates. A rule that gives more discretion to target company boards could allay fears that German companies will be powerless to defend themselves and thus encourage the business community to recognize the inefficiencies of crossholdings as a means of defense. Divestment of these holding would in turn provide more capital for core businesses, inject liquidity into Germany's capital markets and bestow more power on individual shareholders.

If, however, the strict neutrality rule is not suitable for Europe, it is incumbent to suggest alternative ways to restrict the discretion of target company directors, who face an obvious conflict of interest in a hostile bid. Taking into account the number of trans-Atlantic takeover bids that are likely in the 2000's, and the fact that United States target corporations are bound by a "modified business judgement rule" that is more flexible than the strict neutrality rule, one solution could be the introduction in Europe of a modified business judgement rule that, although not identical, is comparable, to the American rule.

The modified business judgment rule in the United States is defined by extensive judicial interpretation, usually by courts in Delaware and other states that have a high degree of expertise in corporate law. This review process could be difficult to replicate in civil law countries, although some countries might develop a body of case law on takeover bids and other aspects of corporate law. There is, however, an alternative to relying solely on judicial review: Member States could in some instances allow ex-post shareholder voting (expedited with the help of the Internet) to veto defensive measures initiated by directors that do not maximize shareholder value.

Furthermore, if it is determined that some version of the American modified business judgment rule passes the test for transferability to Europe, Europeans will have to decide on which level - the European level or that of Member States - specific details of the new rule should be introduced. Here, the technique of a European directive is advantageous, because it allows the European Union to state a general principle in the directive and then leave it to the Member States to fine tune that principle in drafting legislation that conforms with the directive yet adopts to local practices of corporate governance. Within the confines of the directive, the individual Member States would thus be free to craft their own rules subject only to the discipline of jurisdictional competition. Now that the European Court of Justice has cast doubt on the "seat doctrine" requiring a corporation with its "center of gravity" in a Member State to comply with that State's corporate law, jurisdictional competition, long a hallmark of American corporate law, could possibly flourish in Europe as well.

Part II of this article discusses the business judgment rule as it is applied by the courts in Delaware, the most popular state of incorporation in the United States, to target corporation directors in hostile takeovers. Part II also briefly discusses the Williams Act, a federal law which provides some measure of protection to target company shareholders by regulating tender offer disclosure and bidding procedures. [Note: this doctrinal discussion of Delaware case law on takeover defenses and federal regulation of tender offers is intended for European readers and may be redundant to some United States readers.]

Part III provides a brief statistical comparison of takeover bids in the United States and in Europe, showing that takeover bids (particularly hostile bids) are still more common in the United States than in Europe and that premiums paid to shareholders are generally higher in the United States than in Europe. Part III also suggests explanations for these differences.

Part IV then discusses some advantages and disadvantages of adopting the American style modified business judgment rule in Europe in place of the strict neutrality rule. Advantages include (i) facilitating a more level trans-Atlantic playing field for hostile takeover activity than that which would evolve under the strict neutrality rule, (ii) protecting shareholders from coercive bids without the extensive, and in Continental Europe unworkable, regulation of tender offers that is currently mandated under London?s City Code; (iii) reducing political pressure on Member States to erect antitrust and other barriers to takeovers, while encouraging managers and other stakeholders to make an economic case to directors rather than a political case to regulators; and (iv) encouraging corporations in Germany and some other countries to rely less on cross-ownership of equity among corporate conglomerates as a defense against hostile takeovers. Disadvantages of the modified business judgment rule in a European setting include (i) difficulties with importing a rule based on common law into civil law countries, and (ii) the risk that the modified business judgment rule could be too pro management in its implementation by a European judiciary even less attune than its American counterpart to the concept of shareholder wealth maximization. These two difficulties, however, are surmountable, particularly if Member States rely less than the United States on ex-post judicial review and more on ex-post veto of defensive measures by shareholders. The Internet and related technological innovations make expedited shareholder voting a realistic alternative to the American tradition of rushing to the Delaware Court of Chancery for approval or repudiation of a takeover defense. Depending upon a range of factors, including the availability and quality of judicial resources in a particular Member State, and the feasibility of shareholder review of defensive measures through electronic voting, the relative importance of the judiciary and shareholders in reviewing directors' business judgments could differ depending on the Member State.

Part V proposes a generally worded business judgment rule for the European takeover directive as well as more specific language that could be adopted by one or more Member States.

Abstract:
This article compares (i) Germany's highly protectionist 2001 corporate takeover law, (ii) the proposed EU Thirteenth Directive (which endorses the very different market oriented "strict neutrality rule" of the London City Code) and (iii) Delaware's "modified business judgment rule" which lies somewhere between these two approaches. The article also discusses some of the political and economic explanations for Germany's approach to hostile takeovers. The last section of the article discusses a fourth approach favored by the authors: allowing managers to initiate defenses against hostile tender offers but then allowing shareholders to veto management initiated defensive tactics through voting on the Internet.

Abstract:
The decisions of the European Court of Justice in Centros and most recently in Inspire Art will change the business landscape by opening up Europe to legislatory competition in corporate law. This potentially could enable some Member States to enact and enforce corporate law that is preferable for shareholders and managers and thus lure corporate charters away from other Member States with less attractive corporate law.

The European debate after Inspire Art will in some part be modeled after the U.S. debate over the "Delaware effect" on American corporate law for well over the past seventy years. Implicit in much of this debate, however, is the assumption, based on the American experience, that legislatory competition in corporate law necessarily means that Member States, after Centros and Inspire Art, will offer both their corporate law and their judicial process for resolving corporate law disputes to managers and investors in other Member States that choose to incorporate abroad. Legislatory competition under this assumption requires the successful offeror of corporate law to offer both an attractive corporate statute and specialized courts that can be relied upon to interpret the law in a predictable manner, thereby inducing managers and investors to incorporate in that jurisdiction.

This article suggests that the European experience with jurisdictional competition, at least in the short term and perhaps permanently, could be quite different from that in the United States. We make both a positive and a normative statement that the process of legislatory competition in the field of corporate law in Europe will not and should not follow the American example in all aspects.

Using a theoretical framework of New Institutional Economics, we relax the assumptions of perfect information, perfect rationality and zero transaction costs. We also recognize the impact of path dependence and the importance of a learning process in designing regulatory and adjudication frameworks, and we are also aware of the fact that even optimal solutions to regulatory problems may become unstable and suboptimal over time. Although there are many ways in which, because of these factors, the European experience with legislatory competition could be different from that in the United States, we focus in this article on one difference in particular. In the United States, incorporation in Delaware means that corporate law litigation in most cases takes place in Delaware, so that Delaware not only sells corporate charters but also its case law. The buyer has to buy (and is well advised to buy) a bundled product including substantive law (statutory and case law) together with procedural law. This type of bundling of statutory law and adjudication, however, might cause difficulties in Europe. The thesis of this article is that Member States are most likely to survive in the legislatory competition following Centros and Inspire Art if they debundle the corporate law product. Buyers of corporate charters thus should be allowed to choose corporate law of the Member State of incorporation (home country) but have disputes under that law be adjudicated elsewhere, preferably by arbitration panels.

A number of factors make it difficult for Member States to offer adjudication to managers and investors in other Member States. These include (i) language barriers (particularly for Member States whose courts do not do business in English), (ii) differences between common law and civil law approaches to adjudication, (iii) procedural differences between courts of Member States that are greater than those between Delaware and other US states, which in turn discourage lawyers from recommending that clients incorporate in Member States outside their own, (iv) the cost to a Member State of building specialized judicial expertise in corporate law, (v) incomplete information about real or perceived judicial bias, (vi) uncertainty concerning conflict of laws within the EU, (vii) uncertainty about mutual recognition of judgments within the EU, and (viii) the fact that an effective adjudication system will require a learning process and that national judges are "poor learners" about the implications of applying national corporate law to international managers and investors.

Developing strategies to overcome these barriers to entering the market for a bundled product of corporate statutes plus adjudication may be a realistic long-term strategy for one or more Member States. This article suggests, however, that Member States should also explore strategies to offer their corporate statutes without adjudication by national courts and instead facilitate alternative methods of adjudicating corporate law disputes. Although allowing resolution of disputes under one Member State's corporate law by the local courts of another Member State (probably the "seat" of the corporation) is a possibility, for a variety of reasons we find this to be an unattractive alternative. A more attractive alternative is adjudication by panels of professional arbitrators who specialize in the corporate law of a particular Member State, but who could be citizens of different Member States, and who would apply uniform procedural rules determined by an arbitration association rather than by national courts. This alternative requires that Member States allow corporate charters to provide for arbitration of disputes over corporate internal affairs. A home country, offering its corporate law for corporations having a seat elsewhere (the host country) even could change its national corporate law explicitly to allow for arbitration. If the host country would then try to make that clause unworkable under its own conflict of laws principles this might not be in compliance with the right of establishment as interpreted by the ECJ in Centros and Inspire Art.

Abstract:
This is a transcript of a roundtable discussion between Robert Pritzker of The Marmon Group, Inc., Vice-Chancellor Jack Jacobs of the Delaware Court of Chancery, and Law Professors William Carney, Richard Painter, and Robert Sitkoff, with Professor Carney serving as moderator. The general topic was corporate governance. Among other things the participants discussed the implications of information provided by Mr. Pritzker regarding Smith v. Van Gorkom. Mr. Pritzker stated that the $55 price and the one-week deadline were established by Jerry Van Gorkom, not the Pritzkers. Mr. Pritzker also described the terms and the motivations for the Pritzkers' contribution to the settlement. Finally, in addition to analysis of the Van Gorkom decision, the panel also discussed public and private boards of directors, the Caremark decision, and corporate charitable and political contributions. The roundtable was held under the auspices of the Theory Informs Business Practices Symposium at the Chicago-Kent College of Law on April 6, 2001.

Van Gorkom, Trans Union, Pritzker, Board of Directors, Caremark, Corporate Crime, Corporate Charity, Corporate Political Speech, Business Judgment Rule, Mergers, Takeovers

Abstract:
This lecture addresses a phenomenon that arises repeatedly in history: concurrent and interrelated corruption in the political system and in business that puts political and business establishments on the defensive. When corruption from business spills over into government, the story is likely to end with politicians seeking to cover for their own actions or to elevate themselves on an ethical pedestal above their peers. Resulting legislative action - hostile to business and driven by self serving political considerations in the wake of scandal - is often not well thought out, and may hinder economic growth and stability.

The lecture discusses two examples of this phenomenon in England and the United States respectively. First, the South Sea Bubble of 1720 - during which many Members of Parliament took bribes in South Sea Company stock and traded in the stock on inside information - was followed by Parliament's draconian restriction in the Bubble Act on transferability of shares for over 100 years thereafter. Second, there were two attempts at the end of the Eighteenth and the first half of the Nineteenth Century to establish a permanent Bank of the United States modeled on the Bank of England. This undertaking was championed by Federalist and Whig politicians who, while they may have sought economic stability, also encouraged speculation in government securities on inside information, and bribery by the Bank of Members of Congress. The debate over the Bank was in part a debate over corruption that came with it. The First Bank of the United States was opposed and eventually allowed to expire by Jeffersonian Democrats and the Second Bank was attacked, and then pushed out of business, by President Jackson. Congress failed to establish a national bank until the Wilson Administration in 1913, two and a quarter centuries after establishment of the Bank of England.

The lecture concludes that corruption of government by business is not only bad for government, but in the long run bad for business. Business sometimes overreaches in influencing government officials, but at the risk of a backlash in which politicians - in self righteous indignation or in order to cover up for their own actions - embrace harsh anti-business policies, regardless of whether those policies are in the national economic interest.

Abstract:
The purpose of this paper is to apply both neoclassical economics and a more recently developed method of economic analysis - new institutional economics - to Germany's system of shop closing hours regulation, and to put this peculiar type of regulation into the general theory of regulation that emerges from each of these two methodological approaches. Our intention is not only to compare the costs and benefits of the regulation itself, but also, through analyzing this particular type of regulation using both methodological approaches, to show differences between them. The paper is organized as follows: First, we look into the history of closing hours regulation from a public choice perspective. Then we apply standard neoclassical economics with a welfare economics orientation. The last part of the paper brings into play an institutional economics analysis. Our argument will focus on the difference between a simple welfare analysis where all consumers are taken as one group that might profit from cost reductions traced back to confining shopping hours to periods where labor costs are (relatively) low. In a competitive environment shopkeepers who are able to reduce costs by concentrating on fewer shopping hours should be forced to reduce prices respectively and thus would not profit from those cost reductions. Consumers who have to accept the disadvantage of confined shopping hours would be compensated by price reductions. The economic question then would be whether or not public regulation is superior to private agreements which could lead to comparable results. Our discussion looks into the preferences of different subsets of consumers. Some consumers might accept higher prices if they can shop at personally convenient hours; others might prefer lower prices and be willing to do their shopping only in limited periods of time. There is evidence of this even today, as we see many circumventions of closing hours regulation in Germany. Consumers reveal their preferences for late shopping hours by their willingness to pay higher prices when shopping in gas stations, late evening shops and Kiosks. If different groups of consumers have different preferences as far as shopping hours are concerned, the utilitarian approach of neoclassical economics would probably apply the Kaldor-Hicks test and find that closing hours regulation is economically justifiable if the winners of closing hours regulation can compensate the losers and still retain some welfare gains. This approach is difficult in practice, however, insofar as it presupposes comparability of individual utility across groups with very different preferences. Any attempt to convert these different measures of utility into a common currency would probably render the Kaldor-Hicks analysis unworkable. In practice, analysis of regulation under the Kaldor-Hicks approach thus presupposes perfect information and rationality of the person(s) evaluating the alternative regulatory regimes, and furthermore that lawmakers will respond to the evaluators' informed recommendation by implementing regulation based on the collective welfare rather than ulterior motives (special interests, ideological predispositions, etc.) The institutional economics approach goes in another direction: instead of applying the Kaldor Hicks-test to identify a solution that theoretically maximizes collective utility, identify first the learning process most likely to lead a society to a welfare maximizing solution. How can a society most effectively overcome imperfect information, irrationality and imperfections in the political process to actually solve a particular problem? Furthermore, new institutional economics characterizes the end objective somewhat differently: rather than identify the solution that maximizes collective welfare (an evaluation that, as explained above, is in practice often difficult), identify the solution that affected persons (consumers, shop owners and shop workers) would most likely consent to if they were not aware of their own special interests ahead of time (an analysis similar to the Rawlsian hypothetical consent behind a "veil of ignorance."). This determination of course has difficulties of its own, but the focus of new institutional economics first on the learning process and then on actual results allows at least some characteristics of the ideal regulatory regime to be identified even if others are left to be solved by experience rather than economic theory. This article concludes that for consumers, shop owners and workers alike, in a world of incomplete information, bounded rationality, and an imperfect political process, the arguments for an evolutionary process informed by market competition are superior to the arguments for public regulation. Although cartel regulations should perhaps be relaxed to allow private agreements on opening hours between merchants in individual neighborhoods, government should not compel merchants to enter into such agreements or penalize merchants who set opening hours on their own. Furthermore, if public entities must regulate shop closing hours, it is preferable that the regulation be determined on the local level rather than by a central government. Although market competition will most likely lead to superior results, jurisdictional competition is superior to regulation dictated by a central government.

Abstract:
This essay, a precursor for a book project on the same topic, addresses ethics problems for government officials who orchestrate bailouts of private companies. These problems include excessive politicization of bailout decisions, the influence of campaign contributions, conflicts of interest when executives from the private sector move in and out of government positions, insider trading on government information about bailouts, and loose regulation of conflicts of interest within private companies that assist with bailouts as government contractors. This essay concludes that government ethics law in its current state is not up to the task and that the United States is not prepared to implement bailouts in a manner that will instill public confidence. Although these problems could be alleviated through stricter ethics rules or a more systematized approach to bailouts, most solutions would be more costly than the problems they attempt to solve. Bailouts thus impose a substantial burden on government ethics that may be impossible to remove, in addition to the economic cost bailouts impose on taxpayers. Designing a bailout free economy may be the only acceptable alternative. The author represented the Bush White House in drafting ethics agreements for Treasury Secretary Paulson and other Presidential nominees who were later responsible for implementing the massive bailout of the financial services industry in 2008.

government, ethics, bailouts

Abstract:
This paper, published in a symposium on the work of Adolf Berle, approaches the Berle-Dodd debate from the perspective that corporate managers have responsibilities beyond pursuing the interests of shareholders. Stock based executive compensation, designed to align managers’ interests with those of shareholders, has, in the investment banking industry in particular, failed to avert, and may have caused, managers to take excessive risks that in the 2008 financial crisis inflicted great damage on creditors and on society as a whole. We describe here the broad outlines of a proposal that we will discuss in future publications in more detail to impose some measure of personal liability for a bank’s debts on the most highly paid bankers. The proposal would revive two mechanisms that imposed such personal liability in an earlier era: general partnership, which was common for investment banks prior to the 1980s, and assessable stock, which was relatively common in corporations including some commercial banks through the 1930s. One proposal is that bankers earning over $3 million per year be required to enter into a partnership/joint venture agreement with the employing bank that would make them personally liable for some of the bank’s debts. The other proposal is that compensation in excess of $1 million per year be paid to bankers only in stock that is assessable in the event of the bank’s insolvency in an amount equal to the book value of the stock on the date of issue. In either case, the bankers’ liability would not be unlimited: they would be allowed to shield $1 million from creditors. Imposing genuine downside risk through these or other vehicles for personal liability may be the best way to make bankers approach risk in a manner that reflects the potential for externalities of the sort the crisis has so dramatically demonstrated.

Adolph Berle, executive compensation, financial crisis

Abstract:
In order to be effective, federal ethics law must address sources of systematic corruption rather than simply address motives that individual government employees might have to betray the public trust (such as personal financial holdings or family relationships). Getting the Government America Deserves articulates a general approach to combating systemic corruption as well as some specific proposals for doing so.

Federal ethics law is relatively unknown in legal academia and elsewhere outside of Washington, D.C., but it is binding on over one million federal employees. Lobbyists, federal contractors, lawyers and others who interact with the federal government are also deeply interested in federal ethics law and represent a surprisingly large market for a little-studied area of the law.

Getting the Government America Deserves analyzes government ethics law from the perspective of an academic critic and that of a lawyer who was the chief White House ethics lawyer for two and a half years. Richard Painter argues that the existing ethics regime is in need of substantial reform since federal ethics laws fail to curtail conduct that undermines the integrity of government, such as political activity by federal employees and their interaction with lobbyists and interest groups. He also contends that in some other areas, such as personal financial conflicts of interest, there is too much complexity in regulatory and reporting requirements, and rules need to be simplified. Painter's solution includes strengthening the enforcement of ethics rules, reforming the lobbying industry, and changing a system of campaign finance that impedes meaningful government ethics reform.

Professor Painter was the Chief White House ethics lawyer for two and a half years, and has an insider's view of why the existing ethics regime needs reform. The author's specific proposals include stricter regulation of movement of senior officials from the private sector into government, abolition of the White House office of political affairs as it has been constituted during the past few administrations, barring lobbyists from bundling campaign contributions, restrictions on political activity of senior political employees in the Executive Branch and a dramatic increase in public funding of political campaigns to offset money from special interests.

Abstract:
The decisions of the European Court of Justice in Centros and then in Inspire Art open up the possibility of regulatory competition in European corporate law. Now that EU Member States have to recognize each other's charters, some Member States could enact and enforce corporate law preferred by shareholders, managers or both, and thus lure corporations away from other Member States with less attractive corporate law. The European debate after Inspire Art will in some ways resemble the U.S. debate over the "Delaware effect" on corporate law over the past seventy years. Implicit in much of this debate, however, is the assumption, based on the U.S. experience, that regulatory competition in corporate law necessarily means that Member States will offer both their corporate law and their judicial system to managers and investors in other Member States who choose to incorporate abroad. In the United States, incorporation in Delaware means that corporate law cases are litigated in Delaware. This bundling of statutory law and adjudication might, however, cause difficulties in Europe. Using a theoretical framework of New Institutional Economics, we suggest that Member States are most likely to succeed in the regulatory competition following Centros and Inspire Art if they unbundle the corporate law product and allow buyers of corporate charters to choose the corporate law of the Member State of incorporation but have disputes under that law adjudicated elsewhere, preferably by arbitration panels. Although it is possible to allow disputes under one Member State's corporate law to be decided by the local courts of another Member State (probably the "seat" of the corporation), for a variety of reasons we find this to be an unattractive alternative. A more attractive alternative is adjudication by panels of professional arbitrators who specialize in the corporate law of a particular Member State, but who could be citizens of different Member States,and who would apply uniform procedural rules determined by an arbitration association rather than by national courts. This alternative requires that Member States allow corporate charters to provide for arbitration of disputes over corporate internal affairs. While national courts in the Member State of incorporation could do this by routinely enforcing arbitration awards, specific provision for arbitration in corporate statutes is preferable. Then, if a Member State where a corporation has its principal place of business or some other Member State were to try to make the arbitration clause unworkable under its own conflict of laws principles, the Member State of incorporation and private parties could claim, probably successfully, that frustration of the arbitration clause was not in compliance with the right of establishment as interpreted by the ECJ in Inspire Art.

Abstract:
This Article examines problems (including information asymmetries, agency problems and cognitive biases) that auditors and lawyers (collectively, gatekeepers) confront when they evaluate and respond to risk, as well as the various ways in which gatekeeper regulation addresses these problems. Then, using the analytical framework of New Institutional Economics, this Article recognizes that optimal solutions to gatekeeper problems are far from certain. Better solutions are thus more likely to emerge from experimenting with different rules and observing outcomes from those rules. If auditors and lawyers are governed by different rules, a jurisdiction can simultaneously experiment with two different regulatory approaches for these two professions, and then make adjustments accordingly. Private actors also can signal which rules they prefer in a particular context by choosing whether to use, or to insist that other private actors use, auditors or lawyers for a particular task. Similarly, if rules for both professions vary among jurisdictions, jurisdictions can learn not only from their own experimentation but from the experimentation of other jurisdictions with different rules. Private actors can also signal their rule preferences by choosing the jurisdiction in which they want professional services to be performed. Improvements to gatekeeper regulation should follow from the observed results of this experimentation.

These purported benefits from regulatory competition could, however, be undermined if private actors are allowed unlimited choice among regulatory regimes (a race to the bottom). This article thus discusses the limits of regulatory competition, and mentions various strategies for reducing the likelihood of a race to the bottom. Finally, this article observes that, within a framework of controlled regulatory competition, market and social conditions may cause some rules governing auditors and lawyers to converge, as well as some rules governing both professions in the United States and Europe to converge. Profession-specific and jurisdiction-specific differences, however, will probably remain, unless experimentation and observation demonstrate that a particular rule is clearly superior across professional and/or jurisdictional boundaries.

Abstract:
This essay explores how professional responsibility rules define the expectations of lawyers in agency and partnership contracts with each other. This essay focuses on two cases that the author finds useful for teaching how professional responsibility rules become implied contract terms. For each case, one involving an employment agreement and the other a partnership agreement, this essay discusses whether the court applied the majoritarian rule that most lawyers would have agreed upon in hypothetical bargaining.

In Wieder v. Skala. 609 N.E.2d 105 (N.Y. 1992) the Court held that "core" professional responsibility rules are implied-in-fact covenants in an employment contract between a law firm and its associates. While this is arguably the majoritarian rule, there are reasons why law firms and associates might not bargain for such a rule. In particular, because the rule gives discharged associates the right to sue over alleged ethics breaches, law firms might make compromises on other issues (such as compensation or severance pay) to bargain for pure employment at will, with the discharged associate retaining the immutable right (and indeed duty) to report any misconduct to the bar. Whichever rule is chosen in a jurisdiction (Texas chooses pure employment at will), law firms and associates also almost never contract around that rule. There is thus another interpretation of the Wieder holding: the Court was aware of this "status quo bias" and chose a "sticky default" rule that it preferred for public policy reasons (a "policy preferred sticky default rule."). Such a rule leads to the same result as an immutable rule in most circumstances, but does not intrude as much on freedom of contract - contracting parties who strongly prefer another rule can overcome their status quo bias and choose a different rule.

In Meehan v. Shaughnassy, 535 N.E.2d 1255 (Mass. 1989), the Court held that the ABA's standards for solicitation of clients upon departure from a law firm determine the reasonable expectations of law firm partners. A departing partner who violates these ethics norms thus breaches his fiduciary duty to his partners. The Meehan decision arguably replicated terms that the contracting lawyers would have set if they had addressed this issue in their agreement. On the other hand, there are costs of the Meehan rule, principally the cost of allowing partners to dispute amongst themselves over professional responsibility standards that were designed to protect clients. It is also not always clear which rules apply to lawyers in which jurisdictions.

It is thus possible that here also the Court intended to impose a policy preferred sticky default rule. Despite the rhetorical attention given by the Court to the reasonable expectations of the contracting partners, the Court perhaps was most concerned that clients would be better protected if ABA solicitation standards are incorporated into partnership agreements, particularly if a departing lawyer's former partners are more likely than his clients to detect violations and enforce these standards. Partners who want to waive the right to sue each other for breach of the ABA solicitation standards thus would have to overcome the status quo bias and contract around the rule.

Abstract:
This article points out that existing ethics rules poorly accommodate ex-ante contracting through "advance consent." Because the words "consent after consultation" suggest that the consenting client should know all or most of the relevant facts about a conflict, advance consents may not even be enforceable. In almost all cases, lawyers thus ask their clients for conflict waivers only after the second client seeks representation, when most relevant facts about the conflict are known. Rarely, is a waiver contracted for in advance. The result is a large amount of litigation over conflicts issues at the expense of lawyers and their clients who could have avoided misunderstandings in their retainer agreement.

This article suggests that the Model Rules should permit advance waivers in some specific instances. First, the Model Rules should allow a lawyer and a client independently represented by counsel (including in-house counsel) to make a binding agreement at the outset of the representation, or at any time during the representation, with respect to the important elements of a potential conflict:
(i) a definition of who the "client" is in the representation;
(ii) a definition of what is and is not an "adverse" interest;
(iii) the time when a representation ends (after which conflicts are evaluated as former client conflicts instead of current conflicts);
(iv) a time after termination of a representation when former client conflicts rules shall cease to apply;
(v) an agreement that conflicts between two current clients shall only be grounds for disqualification if the matters are "substantially related" (a criterion usually applied only to former client conflicts);
(vi) a definition of what is and is not a "substantially related" matter; and
(vii) an agreement whereby the client consents in advance to a specific type of conflict.

In addition, lawyers and clients should be allowed to agree ex-ante that imputed disqualification of a law firm will be avoided if the lawyers involved in a matter are screened from any participation in another matter to which the conflicts rules would otherwise apply. The comment to Model Rule 1.10 should state that lawyers and clients can agree ex-ante on what the appropriate screening procedures will be.

Finally, this article proposes that the comments to Model Rules 1.7 and 1.9 should point out that advance waivers do not allow lawyers to disclose confidential client information in violation of Model Rule 1.6. The comments, however, should also state that, once a conflicting representation is consented to, the client giving consent (and any other complaining third party) will have the burden of showing specific facts establishing that the lawyer has misused confidential information in order for the lawyer to be disqualified or sanctioned for her conduct. Otherwise, specious claims of misuse of confidential information would eviscerate the advance conflict waiver. In addition, clients should be allowed to condition advance waivers on specific undertakings by the law firm, such as an undertaking to return or otherwise dispose of, at the conclusion of the firm's representation of the client, all relevant files, including internal law firm memoranda and computer records, concerning the matter.

Abstract:
"Contractarian" law and economics literature discusses what types of rules should govern contracts, corporate governance and securities regulation. Occasionally, contractarian scholars analyze the legal profession, and recently contractarians have begun to examine specific rules of professional responsibility. This article discusses how some professional responsibility rules already contemplate contracting between lawyers and clients and how rule-making bodies could use contractarian principles to draft new rules. When should rules governing lawyers be immutable (rules that cannot be changed contractually) and when should they be defaults (rules that can be changed contractually)? When default rules are used, should they be opt-in rules or opt-out rules, and should they be majoritarian default rules or penalty default rules? When should a lawyer not be governed by clearly defined rules, but instead by more general standards against which the lawyer's conduct is measured ex-post to ascertain whether her conduct conformed to those standards?

The contractarian framework reveals some general trends in professional responsibility rules, including gradual migration away from standards and toward defined rules. Many hotly debated issues in the profession, however, continue to be governed by standards, discretion laden rules and aspirational language. There has also been some migration away from immutable rules toward default rules and opt-in rules. This change, however, has for the most part not included rules governing conduct that affects third parties, even though the interests of third parties could be included in some lawyer-client contracts.

Part I of this article discusses the various rule prototypes that are important in contractarian analysis (see Figure 1). Part I discusses why some rules of professional responsibility are immutable whereas others are default rules, why some rules are clearly defined whereas others embody more general standards, and how some rules would be more effective if they were default rules instead of immutable rules. Part I also recognizes that the rationality assumption of contractari-an economics is sometimes negated by systematic cognitive biases. For example, because actors can be biased in favor of the status quo, default rules sometimes become contract terms simply because they are default rules, not because they are inherently superior. Drafters of professional responsibility codes can respond by switching back to immutable rules or by taking cognitive biases into account when drafting default rules. Finally, Part I observes that reputational concerns underlie reciprocal interaction between lawyers, clients and third parties. Mutual expectations embodied in unenforced rules can thus be as powerful an influence on behavior as legally enforced rules.

Part II applies the contractarian framework to rules governing several hotly debated issues: (i) conflicts of interest; (ii) lawyer use of confidential client information; (iii) contractual restrictions on practice; (iv) lawyer disclosure of client fraud; (v) remedial measures for race and sex discrimination; and (vi) pro bono obligations. In some instances, this article proposes to replace immutable rules with default rules. In other instances, this article suggests that lawyers and clients be allowed to contract around existing default rules at an earlier point in a legal representation than is now the norm. In still other areas, this paper suggests that lawyers or law firms be encouraged to opt in to -enforceable commitments to clients, third parties or the bar itself that can then be used to attract clients, recruit associates or foster good will with regulators and the community. Finally, for several of the specific subjects discussed in Part II, unenforced professional responsibility rules can be valuable tools for changing lawyer behavior. The Model Code's Ethical Considerations that were abandoned in the Model Rules, and similar aspirational rules, could thus have a more constructive role to play in professional responsibility than the ABA has acknowledged thus far.

Part III discusses why law firms should be encouraged to adopt their own codes of professional responsibility to fill gaps in the contractarian framework. Law firm codes could opt out of default rules in bar association codes or opt into rules on topics not adequately addressed by the bar, such as use of client information, response to client fraud, and pro bono obligations.

Law firm codes of professional responsibility could also allow firms to send a positive signal to clients, regulators, prospective associates and other third parties about a firm's professional standards. Finally, the opportunity to design self imposed rules could encourage lawyers in firms to give each other meaningful feedback on compliance with those rules as well as with the bar's rules. Some suggested provisions for a law firm code of professional responsibility appear in Appendix A.

Abstract:
This Article discusses how legal ethics rules on lawyer response to evidence of client crime or fraud encourage excessive risk taking by lawyers in situations where psychological research suggests lawyers and clients are most likely to act in a risk preferring manner: loss frame situations in which the client is in financial trouble or has already violated the law. Auditors' rules by contrast are more effective than lawyers' rules at overcoming psychological bias toward risk enhancing concealment that is unlikely to be in the client's or the professional's best interest. This article also discusses ways in which MDP firms could respond to the psychology of concealment by obtaining ex-ante client waiver of lawyers' secrecy rules. This Article then compares the recommendations of the ABA Commission with the alternative response of client waiver, which has already been criticized by opponents of multidisciplinary practice in testimony before the ABA Commission.

This article then addresses the argument that waiver by a client is inconsistent with the values of the legal profession and addresses the argument raised by the Securities Exchange Commission that auditors' independence could be sacrificed by a MDP firm's receipt of compensation for legal services. This article concludes that ex-ante waiver of confidentiality by a sophisticated client actually strengthens the values of the legal profession by alleviating tension between professional responsibility rules prohibiting disclosure of client confidences and other rules prohibiting lawyer assistance of client crime or fraud. This article also concludes that, assuming waiver is obtained, incentives within a MDP (Multidisciplinary Practice) firm to disclose information about a client's crime or fraud should more than offset compensation related incentives not to disclose.

Abstract:
This Article evaluates, from both an economic and a political perspective, the Uniform Securities Litigation Standards Act of 1998, a bill that preempts most securities fraud class actions under state law. The Article, drawn in part on the author's testimony before committees of the Senate and the House of Representatives, concludes that the purported benefits of requiring securities fraud claims to be litigated under federal law are ephemeral, because relatively few class actions are filed in state court and because claims of fiduciary breach are already litigated under state corporate law. The statistical evidence that plaintiffs fled to state court after the 1995 Reform Act is at best ambiguous; other statistical evidence suggests that the 1996 increase in state-court litigation was temporary and that the number of state securities class actions in 1997 returned to pre-1995 levels. Three quarters of these suits were filed in one state, California, against companies having most of their operations there. An analysis under public choice theory of trends in state law also suggests that California and most other states will favor issuers that base operations and/or sell a substantial amount of securities within the state, although a few smaller states could be dominated by pro-plaintiff interests. The Uniform Standards Act thus responds to a problem that doesn't exist, and furthermore fails to address problems that are real and need to be addressed. These include use of state court litigation by individual plaintiffs to circumvent stays on discovery in federal court and collusive agreements by class action lawyers to settle federal securities claims as part of settling corporate law claims in state court.

Abstract:
The United States Supreme Court validated the misappropriation theory in United States v. O'Hagan, but unfortunately rendered a confusing opinion that left many questions unresolved. In this article we discuss the history of the Supreme Court's Section 10(b) jurisprudence as it relates to insider trading, giving particular attention to the Court's insistence prior to O'Hagan that "a material misrepresentation or material failure to disclose," not merely a breach of fiduciary duty, must exist to impose liability under Section 10(b). We then discuss the pervasive inconsistencies among lower courts in interpreting the misappropriation theory, and how the O'Hagan decision does little to clarify this ambiguous body of case law. We also discuss the many scenarios in which it is not certain when a fiduciary relationship exists and when a fiduciary is barred from using his principal's information. On examination of these scenarios, it is clear that the misappropriation theory remains exceptionally vague, particularly as a standard for criminal liability. We further explore how courts can best define the scope of the misappropriation theory. We conclude that Congress or the SEC should act to replace or supplement the misappropriation theory with a clearer definition of when it is and is not illegal for corporate outsiders to trade while in possession of material, nonpublic information.