Corporate Law and the Myth of Efficient Market Control

49 Pages Posted: 10 May 2019

See all articles by William W. Bratton

William W. Bratton

University of Pennsylvania Law School; European Corporate Governance Institute (ECGI)

Simone M. Sepe

University of Arizona - James E. Rogers College of Law; University of Toulouse 1 - Université Toulouse 1 Capitole; IAST - Fondation Jean-Jacques Laffont - TSE; European Corporate Governance Institute (ECGI)

Date Written: May 6, 2019

Abstract

In recent times, there has been an unprecedented shift in power from managers to shareholders, a shift that realizes the long-held theoretical aspiration of market control of the corporation. This Article subjects the market control paradigm to comprehensive economic examination and finds it wanting.

The market control paradigm relies on a narrow economic model that focuses on one problem only, management agency costs. With the rise of shareholder power, we need a wider lens that also takes in market prices, investor incentives, and information asymmetries. General equilibrium theory (GE) provides that lens. Several lessons follow from reference to this higher-order economic theory. First, the presumption that markets can efficiently coordinate the economy is shown to be unfounded, unless one relies on heroic assumptions. Second, GE shows that shareholders suffer from misaligned incentives, undercutting any normative program grounded in shareholder empowerment. The third lesson is negative, as there are no economically-founded instructions for addressing the trade-offs between agency costs reduction and market inefficiency implied by the new shareholder corporation. Policy implications also follow. Given the lack of a clear normative template, only private ordering can be counted on to address each corporation’s specific tradeoffs between agency costs and market inefficiency. This conclusion leads to an endorsement of Delaware’s equitable adjudication system, the flexibility of which is well-suited to policing the bargaining process between managers and empowered shareholders.

Keywords: corporate governance, theory of the firm, management agency costs

JEL Classification: D52, G30, K22

Suggested Citation

Bratton, William Wilson and Sepe, Simone M., Corporate Law and the Myth of Efficient Market Control (May 6, 2019). Cornell Law Review, Forthcoming; U of Penn, Inst for Law & Econ Research Paper No. 19-21. Available at SSRN: https://ssrn.com/abstract=3385735 or http://dx.doi.org/10.2139/ssrn.3385735

William Wilson Bratton (Contact Author)

University of Pennsylvania Law School ( email )

3501 Sansom Street
Philadelphia, PA 19104
United States

European Corporate Governance Institute (ECGI) ( email )

c/o ECARES ULB CP 114
B-1050
Brussels
Belgium

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

Simone M. Sepe

University of Arizona - James E. Rogers College of Law ( email )

P.O. Box 210176
Tucson, AZ 85721-0176
United States

University of Toulouse 1 - Université Toulouse 1 Capitole ( email )

2 Rue du Doyen-Gabriel-Marty
Toulouse, 31042
France

IAST - Fondation Jean-Jacques Laffont - TSE ( email )

21 allée de Brienne
31015 Toulouse Cedex 6
Toulouse Cedex, F-31042
France

European Corporate Governance Institute (ECGI) ( email )

c/o ECARES ULB CP 114
B-1050 Brussels
Belgium

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