The Essential Role of Organizational Law

47 Pages Posted: 7 Jun 2000

See all articles by Henry Hansmann

Henry Hansmann

Yale University - Law School; European Corporate Governance Institute (ECGI)

Reinier Kraakman

Harvard Law School; European Corporate Governance Institute

Multiple version iconThere are 2 versions of this paper

Date Written: April 2000

Abstract

In every developed market economy, the law provides for a set of standard form legal entities. In the United States, these entities include, among others, the business corporation, the cooperative corporation, the nonprofit corporation, the municipal corporation, the limited liability company, the general partnership, the limited partnership, the private trust, the charitable trust, and marriage. To an important degree, these legal entities are simply standard form contracts that provide convenient default terms for contractual relationships among the owners, managers, and creditors who participate in an enterprise. In this essay we ask whether organizational law serves, in addition, some more essential role, permitting the creation of relationships that could not practicably be formed just by contract.

The answer we offer is that organizational law goes beyond contract law in one critical respect, permitting the creation of patterns of creditors' rights that otherwise could not practicably be established. In part, these patterns involve limits on the extent to which creditors of an organization can have recourse to the personal assets of the organization's owners or other beneficiaries ? a function we term "defensive asset partitioning." But this aspect of organizational law, which includes the limited liability that is a familiar characteristic of most corporate entities, is of distinctly secondary importance. The truly essential function of organizational law is, rather, "affirmative asset partitioning." In effect, this is the reverse of limited liability: it involves shielding the assets of the entity from the creditors of the entity's owners or managers. Affirmative asset partitioning offers efficiencies in bonding and monitoring that are of singular importance in constructing the large-scale organizations that characterize modern economies. Surprisingly, this crucial function of organizational law ? which is essentially a property-law-type function ? has largely escaped notice, much less analysis, in both the legal and the economics literature.

JEL Classification: D23, K22, L22

Suggested Citation

Hansmann, Henry and Kraakman, Reinier H., The Essential Role of Organizational Law (April 2000). Available at SSRN: https://ssrn.com/abstract=229956 or http://dx.doi.org/10.2139/ssrn.229956

Henry Hansmann (Contact Author)

Yale University - Law School ( email )

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European Corporate Governance Institute (ECGI)

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HOME PAGE: http://www.ecgi.org

Reinier H. Kraakman

Harvard Law School ( email )

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617-496-6118 (Fax)

European Corporate Governance Institute ( email )

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1000 Brussels
Belgium

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