25 Pages Posted: 25 May 2010
Date Written: May 25, 2010
Since its inception, corporate law has separated ownership and control. Shareholders nominally own the corporation, but they are entitled to exercise almost nonce of the control rights normally associated with ownership or property. Instead, control of the corporation is vested by statute in the board of directors.
This essay is premised on the assumption that corporate law tends towards efficient solutions. Accordingly, the question raised by the separation of ownership and control is why such separation has proven to have tremendous survival value.
The director primacy model was developed to provide just such a rationale. Grounded in Kenneth Arrow’s work on how organizations make decisions, this essay argues that shareholders lack both the information and the incentives necessary to make sound decisions. Overcoming the collective action problems that prevent meaningful involvement by the shareholders, moreover, would be difficult and costly. Under these conditions, Arrow predicts, it is “cheaper and more efficient to transmit all the pieces of information once to a central place” and to have the central office “make the collective decision and transmit it rather than retransmit all the information on which the decision is based.” The board of directors serves as the requisite central office.
Keywords: Corporate governance, shareholder primacy, shareholder activism, board centric, board of directors, shareholders
JEL Classification: K22
Suggested Citation: Suggested Citation