Vicious Spirals in Corporate Governance: Mandatory Rules for Systemic (Re)Balancing?

Abstract

Until recently, as market forces gradually prevailed over government intervention, the contractarian view had emerged as a preferred method of economic governance due to its attractiveness for business. Following the recent collapse of financial markets and the resulting recession, however, this structural form is now being called into question as the calls for more regulation and government intervention increase. In this context, this article revisits the law versus contract debate in the field of corporate law and governance. Following a theoretical framework utilizing elements of game and resource-based theory of the firm, the company is envisaged as a central counter-party in repeated bargains with its stakeholders. It is shown that power dynamics, which are inherent in the repeated bargains between stakeholders and the company, are prone to imbalance rather than balance by causing cumulative increases in the relative power of stronger parties and vicious spirals of relative power loss for weaker ones. This cumulative power imbalance is then reflected in the organizational rent appropriation process, as weaker parties are eventually expropriated by stronger ones. It is therefore argued that since the contractual model is inherently prone to instability, mandatory power-balancing rules are necessary. Such (re)balancing regulation, however, would need to follow a systemic approach because stakeholder and company power is drawn from, and affected by numerous structural arrangements in the legal and economic system.

Keywords: corporate governance, contractual governance, company law