The Modern Industrial Revolution, Exit, and the Failure of Internal Control Systems

Abstract

Squeezing out excess capital and capacity is the most formidable challenge now facing the U.S. economy - and indeed, the economies of all industrialized nations. The author draws striking parallels between the 19th century industrial revolution and worldwide developments in the last two decades. In both periods, technological advances led to sharp increases in productivity and dramatic reductions in prices, but also to massive obsolescence and overcapacity. The great M&A wave of the 1890s consolidated some 1,800 firms into roughly 150. Similarly, the leveraged takeovers and LBOs of the 1980s provided healthy adjustments to the overcapacity that was building in many sectors of the U.S. economy.

The author interprets the large shareholder gains from corporate restructurings as evidence of the failure of internal corporate control systems - managements and boards of directors - to deal voluntarily with the problem of excess capacity and asset redeployment. Reform of U.S. corporate governance is an urgent matter and should begin with significant equity ownership by managers and directors, greater participation by outside "active" investors, and smaller and better-informed boards.

JEL Classification: G34, J33, M41