Chapters And Cases Summary(1).doc 5d4z60

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CHAPTER LEARNING OBJECTIVES,

1 OUTLINES, AND CASE NOTES

Introduction to the Field

SUMMARIZING OUTLINE Chapter 1 introduces the field and describes how it will be explored. It begins with a story about Exxon Mobil Corporation illustrating the business-government-society relationships of one company.* After some discussion of the nature of the field, including definitions of key , four models of the businessgovernment-society relationship are presented. Finally, the chapter sets forth certain approaches and assumptions used in the book. 

The introductory story is about ExxonMobil. It raises central questions about the role of business in society, including when is a corporation socially responsible? 

ExxonMobil descends from the Standard Oil trust incorporated in 1882 by John D. Rockefeller.

* As in the textbook, Exxon Mobil is written as two words when followed by the word Corporation, but as one word when the word Corporation is not used. This is the company’s preferred usage. 2

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Standard Oil grew so large and powerful that it was broken apart by the Supreme Court in a 1911 antitrust case. Exxon and Mobil were two companies in the original trust. A merger in 1999 reunited them.

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ExxonMobil’s corporate culture still reflects the values of Rockefeller, its founder. It is fiercely competitive, profit-focused, and efficient.

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ExxonMobil faces challenges in its business, government, and social environments.

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In the business environment it is challenged by the rise of state-owned oil companies.

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With government, it is restricted by laws and regulations in each country in which it does business.

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In the social environment it is closely monitored by environmental, civil rights, labor, and consumer groups--some of which are actively hostile.

The story of ExxonMobil raises central questions about the role of business in society. When, for example, is a corporation socially responsible? What actions are ethical or unethical?

What is the business-government-society (BGS) field and what is its importance? 

The field is explained as the study of interrelationships among its three elements, each of which is defined. These interrelationships change over time. 

Business encomes a broad range of economic actions, institutions, and processes the purpose of which is to make a profit by providing products and services that satisfy human needs.

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Government refers to institutions and processes in society that authoritatively make and apply policies and rules.

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Society is a network of human relations including ideas, institutions, and material things. 

Ideas are intangible objects of thought and include the following. 

Values, or enduring beliefs about which fundamental life choices are correct.

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Ideologies, or bundles of values that create worldviews.

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Institutions are formal patterns of relationships that link people together to accomplish a goal. A range of institutions is necessary to markets.

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Material things are the tangible artifacts of a society that shape and are shaped by ideas and institutions.

The BGS field is important to managers, because to succeed they must respond to forces in both their economic and noneconomic environments. The history of ExxonMobil illustrates the powerful impact not only of market forces, but of government and social values. 

In 1911 the Supreme Court broke up Standard Oil. The decision reflected social values favoring open, competitive markets. These values lay behind the Sherman Antitrust Act and negative public opinion at the time.

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In 1989 the Exxon Valdez oil spill created acute legal, political, and image problems for the firm.

These incidents with ExxonMobil illustrate that business must comply with a social contract, that is, an imaginary, unwritten agreement between business and society that defines basic duties and responsibilities of business.

Four basic models of the BGS relationship are set forth. 

The market capitalism model depicts the relationship as a set of arrangements in accord with the assumptions of classical capitalism. It is assumed that social responsibility is measured primarily as economic performance that enhances social welfare.

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The basis for the model is the nature of capitalism. It is explained this way. 

People have always traded. Markets are timeless phenomena.

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Market economies, or economies in which people produce mainly for trade, not subsistence, developed in the 1700s.

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Adam Smith wrote The Wealth of Nations in 1776. In it, he explained the market economy, which he called “commercial society.” 

The desire for trade is a human instinct.

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A division of labor in society led people to satisfy their self-interests by specializing their work, then exchanging goods with each other.

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The market’s pricing mechanism reconciles supply and demand. It works to make commodities cheaper, better, and more available.

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By the late 1800s developed economies had evolved from Smith’s depiction of innumerable small owner-run businesses into systems of managerial capitalism dominated by smaller numbers of large corporations run by hierarchies of salaried managers.

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Smith’s model incorporates important assumptions.

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Commercial society coordinates the activities of strangers and, to gain their selfish advantage, they must fulfill the needs of others.

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Government intervention in the economy is limited. This is the economic philosophy of laissez-faire.

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Individuals own private property.

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Markets are competitive.

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Consumers inform themselves about products and make rational decisions.

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Moral restraint accompanies the self-interested behavior of business.

Capitalism is recurrently attacked. The enduring criticisms are these. 

It is energized by greed, envy, avarice, selfishness, and ruthlessness and so it slights virtues such as love, friendship, and comion.

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It leads to inequalities of wealth and income.

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It encourages exploitation of workers.

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Capitalist nations engage in imperialism to spread markets.

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It places too much emphasis on money and material objects.

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It generates conspiracies and monopolies.

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It leads to environmental pollution and resource exploitation.

The dominance model represents society as a pyramid. Atop it, business and government dominate. This is the model of business critics. It suggests that business has too much unchecked power. 

Proponents of the model focus on the defects and inefficiencies of capitalism.

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It gained a following in the late 1800s.

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Its perspective is fundamental to populism and Marxism.

The countervailing forces model shows flows of power and influence between environmental factors, the public, government, and corporations. It represents a pluralist vision in which the power of business is checked and controlled. 

It depicts business as deeply integrated into an open society.

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It assumes that business is a major force, sometimes dominating but also subject to defeat or compromise.

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It suggests that to maintain broad public , business must adjust to social, political, and economic forces it can influence but not control.

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It suggests that business-government-society relationships evolve as changes take place in ideas, institutions, and processes of society.

The stakeholder model puts the corporation in a web of mutual relationships with persons and groups. It promotes the idea that firms have ethical duties and social responsibilities toward a wide range of stakeholders due to their impacts on them. 

Stakeholders are those whom the corporation benefits or burdens by its actions and those who benefit or burden the firm with their actions.

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Primary stakeholders affect or are affected by the corporation immediately, continuously, and powerfully.

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Secondary stakeholders include a wide range of entities that are less affected by a firm or have less power to affect it.

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The stakeholder model reorders the priorities of management from making profits to fulfilling ethical duties

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Critics of the stakeholder model argue that it unrealistically demotes stockholders, that ethical duty is an unworkable decision criterion, and that because stakeholder interests vary and conflict with each other there is no objective measure of performance.

Finally, the main characteristics of analysis in the book are briefly set forth. 

A comprehensive scope allows coverage of many topics.

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An interdisciplinary approach includes scholarship from many fields. However, the central focus is the discipline of management.

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Theories are rudimentary in the field, but where they exist they are discussed. Otherwise, the approach used is description of events and discussion of cases.

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A global perspective is adopted.

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Historical perspective is added in many chapters to show the action of historical forces, emphasize change, and deepen understanding of current phenomena.

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2 The Dynamic Environment LEARNING OBJECTIVES

SUMMARIZING OUTLINE The basic lesson in this chapter is that business exists in a complex, changing environment. It begins with a story about how Royal Dutch Shell adapts to change by using scenarios. Then nine deep historical forces that cause change are discussed. Then the environment of business is broken down into seven elements, called “key environments,” and recent trends in each are discussed. Finally, the case study on “The American Fur Company” invites discussion about how historical forces shape environments and how the business environment has changed. 

The introductory story is about Royal Dutch Shell PLC. 

Shell uses a unique method of analyzing its environment. Since the 1970s it has used scenarios, or plausible projections of the future based on assumptions about current trends.

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In the 1990s Shell planners developed a theory of change in the global business environment based on three strong forces: liberalization (or relaxation of trade restrictions), globalization, and technological change.

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More recently, they have written two new scenarios, Scramble and Blueprints, about the future of the global energy system. These scenarios take into consideration the rise of developing nations, a likely shortfall in supplies of oil and natural gas, and growing stress from climate warming.

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In Scramble, the world fumbles its response to the energy challenge. Human wellbeing is threatened.

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In Blueprints the world has a more effective response and catastrophic climate change is avoided.

Three specific Shell scenarios are discussed in the story. Students can go to Shell’s Web site to learn more about these and additional scenarios.

Nine deep historical forces cause change in the business environment. 

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The Industrial Revolution was an economic metamorphosis in England in the late 1700s. It initiated a series of changes that created an industrial economy. These changes spread to other countries and continue to spread. 

The size and acceleration of industrial growth are astounding. World GDP between 1950 and 2000 exceeded all that came previously in human history.

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Industrial growth remakes societies. It places social institutions under great strain.

Inequality is a timeless motive force in all political systems. Income inequality between industrialized and less developed nations is pronounced and growing. 

Although income inequality is slowly rising, the percentage of people living in poverty worldwide is declining.

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The Human Development Index, a statistical tool used by the United Nations to measure human progress, shows long-term increases in overall human welfare.

Population growth will remain rapid and is faster in less industrialized, non-Western nations. 

World population, about 6.9 billion in 2011, will peak at 9.2 billion in 2075, decline for a century, then rise again to about 9 billion in 2300.

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For the near future the world population will experience rapid, but slowing, growth.

Technology is a powerful force for change. Since the late 1700s there have been five waves of innovation. 

New technologies bring productivity gains that sustain long-term economic progress.

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Because technology changes faster than human beliefs and institutions, it strains society.

Globalization is the creation of networks of economic, political, social, military, scientific, or environmental interdependence spanning worldwide distances. 9

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It is a long-term environmental force going back to prehistoric times.

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It exposes transnational corporations to demands of more varied stakeholders, including anticorporate, antiglobalization activists.

Nation-states are international actors that define many rules and incentives in global markets. 

In the past, nations sought to expand their wealth and power by seizing territory. Today, many nations instead seek aggrandizement through international trade.

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Global market forces limit the power of governments to control their domestic economies.

Dominant ideologies are a persistent force. 

An ideology is a set of reinforcing beliefs and values that creates a worldview.

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Ideologies such as constitutional democracy, progress, social Darwinism, and the Protestant Ethic have reinforced industrial capitalism.

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With globalization has come a Darwinian competition in the marketplace for ideas and the elimination or marginalization of many religions, languages, and cultural beliefs.

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Great leadership is found in all historical eras. Two views about it exist. One is historian Arnold Toynbee’s idea that leaders are situated by fortune at the intersection of powerful social forces. The other is that of essayist Thomas Carlyle, who wrote that great leaders are masters of their own fate and shape history themselves rather than simply representing irresistible causes.

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Chance is a force that may explain otherwise inexplicable environmental changes.

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Economic. It includes forces influencing market operations. It is changing today as output grows, corporate investment becomes more international, and markets expand.

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Technological. Developments in nanotechnology, biotechnology, and digital technology generate turbulence in the environments of many businesses. New technologies will create unforeseeable threats and opportunities for managers.

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Cultural. Business expansion has many impacts on the shared knowledge, values, norms, customs, and rituals of societies.

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Government. Two strong trends today are first, the expansion of government activity (including more regulation of business), and second, the rise of more democratic regimes.

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Legal. Laws and regulations codifying corporate duties and responsibilities are now more numerous, complex, and global. There are five enduring trends in this environment.

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Industrialization encourages the rise of postmaterialist values based on assumptions of security and affluence that lead to demands for quality-of-life improvements. Postmaterialist values a global tide of morality that elevates expectations about multinational corporations.

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Growth in number and complexity of laws and regulations.

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Expanding duties to protect the rights of stakeholders.

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Expanding exposure of corporations to international law with globalization, including soft law, or principles and standards in global codes of conduct that are based on emerging norms.

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A tendency of voluntary measures to become legal duties.

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Expanding liability.

Natural. Economic activity changes the natural environment and currently disrupts ecosystems. 

The World Wide Fund’s Living Planet Index records a decline in biodiversity. Its Ecological Footprint metric suggests that human activity is unsustainable for the long run.

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Changing public attitudes based on such measures put pressure on managers to include environmental criteria in decisions.

Beside external environments, corporations also have an internal environment. It consists of four groups: managers, owners or shareholders, employees, and boards of directors. 

Forces in external environments affect the power relationships of these internal groups.

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Their duties are defined in laws and regulations.

In sum, corporations exist in a dynamic, often turbulent business environment shaped by both deep historical forces and more immediate changes in key current environments.

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Note

Case

THE AMERICAN FUR COMPANY This case study tells the story of a dominant company in the fur trade. In its era, the fur trade was a global industry so important that it might be compared with the energy industry today. The American Fur Company is not a forgotten company that deserves only to be a historical footnote. Rather, it is a company that arguably did as much or more to shape American history than any other. Important lessons can be learned from it. Discussing the case helps students understand that basic ideas about the business-government-society relationship introduced in Chapters 1 and 2 are applicable in the past as well as the present. Thus, the field offers dynamic ideas for understanding this relationship that, while falling short of a general theory, are useful for classifying phenomena, explaining events in disparate settings, and comparing the past with the present. Specifically, the case is a springboard for discussion of ideas in Chapters 1 and 2, including models of the business-government-society relationship, deep historical forces, and major environments of business. In addition, some issues in the case anticipate ideas in later chapters. In anticipation of Chapter 3, the American Fur Company story exemplifies how business activity has the power to shape and change society and how this power reaches limits. In anticipation of Chapters 7 and 8 on business ethics, the case raises questions about the behavior of John Jacob Astor and other fur traders.

Answers to Case Questions 1. How would you evaluate Astor in of his motive, his managerial ability, and his ethics? What lesson does his career teach about the relationship between virtue and success? Astor’s actions suggest a motive of greed. His actions in the market and with politicians suggest he had a need for power. His careful planning and attention to detail show a need for control. His abortive effort to form a new nation in the Oregon territory and be its king implies a touch of megalomania. 12

As a manager he had some irable qualities. He was hard working, confident, and a good negotiator. He generated visionary strategies. His tactics were expedient. He let others do the difficult work of pioneering an area, then muscled them aside using a set of competitive tactics that carried his signature. These included predatory pricing, plying Indians with whisky, purchases of large quantities of trade goods to lower cost, horizontal and vertical integration along the chain of activities that comprised the fur trade, and use of political influence. He was ruthless and little inclined to niceties. In his behavior there is a mixture of ethical and unethical by both the standards of his era and the standards of today. For example, decimating a species would be wrong today, but in Astor’s era it caused no concern beyond its business implications. But giving whiskey to Indians was plainly seen as wrong in Astor’s time, just as it is wrong now. What is the lesson about the relationship between virtue and success? Is there a moral law in the universe such that if a merchant imposes sustained wrongs and ruin on others then such behavior eventually breeds ill fortune

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in return? If so, Astor seems to have escaped its application, living a life of wealth, seemingly content. There are four theoretical relationships between ethics and success in business, as illustrated in the table below. Students may be invited to think of examples in each of the four quadrants. The main reason that wealth and virtue are not necessarily connected is that the world often yields before a strong will to power that is unshackled by everyday morality. In addition, luck and the times may influence the fortunes of people in business.

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ETHICS Low Low

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SUCCESS

2. How did the environment of the American Fur Company change in the 1830s? What deep historical forces are implicated in these changes? In the 1830s the fur trade reached its climactic era. It would soon decline in size and influence. The basic cause of its demise was depletion of the animals that were its resource base. Worldwide, fur-bearing animals had been hunted to near-extinction. As early as 200 B. C. the fur trade made extinct a species of beaver native to northern Greece. By the sixteenth century, demand for pelts had exhausted the supply of fur-bearing animals in Europe and Russia, so Europeans turned to the unexploited lands of North America. There, the fur trade began with the French around 1530 and marched across the continent, depleting one area after another of fur-bearing animals. By the 1830s, 300 years after the beginning of the North American fur trade, the Rocky Mountains were the last bastion of the North American beaver. As the decade of the 1830s progressed, rapid change in the business environment caused the collapse of the Rocky Mountain fur trade. The beaver population was fast exhausted. Fashion trends shifted and demand for pelts dropped. Silk from China was substituted for beaver, mink, otter, and other skins. A global cholera epidemic made consumers afraid of fur pelts. In addition, the cost of trapping in the Rocky Mountains rose because of encounters with increasingly hostile Indians.

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The operation of deep historical forces can be observed in the rise and fall of the fur industry. 

Although the fur trade was an ancient business, it came to reflect and embody forces created by the Industrial Revolution. It introduced factory-made products such as trade goods. It relied on manufactured weapons to dominate more primitively equipped natives. And it tied Indians and settlers in North America into global markets.

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Some ideologies ed and shaped the fur trade, including (1) the idea that humans dominate nature, which exists to be exploited; (2) the theory of classical capitalism, which generated in that era attitudes of exploitation; (3) the idea of progress, which saw economic growth as good; (4) the frontier ethic, or the idea that a wilderness populated by natives was untamed but became civilized when explored and settled; and (5) race doctrines depicting Indians as inferior, ignorant, savage, and unchristian.

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European-Americans harnessed technology to dominate preindustrial Native Americans. However, a major technological advance, the steamboat Yellowstone, backfired on its creators when it carried a smallpox epidemic up the Missouri, killing thousands of Indians. That epidemic hastened the end of an already moribund fur industry.

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The dynamics of nation-states played a defining role in the development of North American fur trading. National rivalries over fur resources drove continental exploration and settlement. Competition between British traders and the American Fur Company hastened the exhaustion of beaver. In some parts of Canada, the British practiced conservation by rotating trapping areas, but where international rivalry caused a rush to harvest, such methods were impractical.

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In the United States, leadership in the fur trade came from Astor. His actions defined the competitive environment. The leadership of Thomas Jefferson in making the Louisiana Purchase and in encouraging the presence of American fur traders as a defense against British inroads shaped history. Both George Washington and Thomas Jefferson failed to carry out their visions of government-run trading posts giving fair prices and fair treatment to Indians. Astor’s strong-willed expansion pushed aside the half-hearted federal policy.

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Inequality is a major historical force when it creates a schism between haves and have nots. In this sense it was not a major factor shaping the fur trade. However, there was a significant imbalance of power between the traders and the Indians that defined the outcome of a clash of cultures and values.

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Because of population growth in the United States there was pressure to follow the trappers and settle in new areas. Between 1790 and 1830 the population grew from 3.9 million to 12.9 million, increasing by more than 30 percent each decade.1

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Globalization was a significant force in the fur trade. This was an international industry. As fur resources were exhausted on one continent, activity moved to another.

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U.S. Census Bureau, Statistical Abstract of the United States: 2001 (121st edition) Washington D.C., 2001, table

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Finally, chance can be read into several events. It was Astor’s good fortune to meet a fur trader willing to be his teacher on the long voyage from Europe to America. What if Astor had become friendly with a banker, shipbuilder, or livestock broker? If Astor had arrived in the United States twenty years later, would he have encountered a more entrenched competitor driving a fur company to monopoly? The cholera epidemic of the 1830s occurred just as the industry was wobbling from its excesses and it hastened the end. Likewise, the spread of smallpox by the Yellowstone was disastrous misfortune.

3. What were the impacts of the fur trade on society in major dimensions of the business environment, that is, economic, technological, cultural, governmental, legal, natural, and internal? This evaluation parallels the discussion of these dimensions of the business environment in Chapter 2 on pages 36-45. 

In the economic dimension the fur trade created enormous wealth for those such as Astor who profited from it. Beyond that, it was a global industry that provided a livelihood for many. It created trails and settlements that stimulated economic expansion across the North American continent.

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In the technological dimension the introduction of first the keel boat and then the steamboat on the Missouri River was important.

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In the cultural dimension the primary stress was on native Indian cultures that came in with European industrial values. Fur traders introduced new artifacts to Indian societies, including trade goods, alcohol, money, and firearms. New material motives led Indian traders to seek profits to acquire property.

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In the natural dimension the fur traders depopulated the continent of fur-bearing animals from the beaver to the plains buffalo. Over time, they cut down significant forest acreage for forts, trading posts, and fuel.

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Astor’s actions in the governmental dimension show how open the young American political system was to corrupt influence. With gifts, loans, and contributions he systematically bribed and suborned a range of politicians including at least one president.

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The fur trade affected the legal environment because it was a source of international tensions that led to treaties. Statutes to set up government trading posts and regulate s with Indian tribes were ed to limit the operations of the American Fur Company and its competitors.

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Of course, the internal environment of the American Fur Company was entirely dominated by Astor. Other fur companies were operated as simple proprietorships or partnerships. The scope and power of the fur trade brought no change in the structure of these arrangements.

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4. Who were the most important stakeholders of the nineteenth-century fur industry? Were they treated responsibly by the standards of the day? By the standards of today? Astor, as principal owner of the American Fur Company, compensated himself lavishly. The suppliers and employees of the company were not treated so nobly. Indian trappers were cheated, robbed, and killed. Free trappers and traders worked for low pay under hard, dangerous conditions. Customers in markets around the world were served. Government was manipulated, byed, resisted, and used. Astor’s abuse of weaker stakeholders was typical of the era. In his History of the Great American Fortunes, Gustavus Myers compares Astor with other capitalists of the day. All of the confluent facts of the time show conclusively that every stratum of commercial society was permeated with fraud, and that this fraud was accepted generally as a routine fixture of the business of gathering property or profits. Astor, therefore, was not an isolated phenomenon, but a typically successful representative of his time and of the methods and standards of the trading class of that time.2

By current standards the American Fur Company would not be considered an ethical enterprise.

5. On balance, is the legacy of the American Fur Company and of the fur trade itself a positive legacy? Or is the impact of these companies predominantly negative? This question invites a utilitarian calculation of benefits and costs. Examples of factors to be considered are listed in the following table. BENEFITS      

Created wealth, employment, tax revenue. Supplied a product in high demand. Spurred exploration of the West. Constituted a United States presence in unsettled lands. Trappers and traders became leading citizens in new settlements. Brought “progress” to areas unsettled by Euro-Americans.

COSTS       

Economic benefits were narrowly enjoyed. Business activity was exploitative. Destruction of Native American cultures. Ecological damage. Spread of smallpox. Many trappers died in a dangerous occupation. Retarded growth of respect for a government of laws.

The weights assigned to these factors are a matter of opinion. Perspective is important. For the Indians the industry was a disaster. For Astor, the federal government, and later settlers, the benefits undoubtedly outweighed the costs.

6. Does the story of the American Fur Company hint at how and why capitalism has changed and has been changed over the years?

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Gustavus Myers, History of the Great American Fortunes (New York: Random House, 1936), pp. 110-11.

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The operation of the American Fur Company is akin to a laboratory experiment in how an industry would operate in an environment of pure laissez faire capitalism. All the basic ingredients existed including private property, competitive markets, the profit motive, social values that ed ruthless exploitation of resources, and very limited government interference. Regulation was nonexistent. There was no Environmental Protection Agency, Occupational Safety and Health istration, Federal Trade Commission, or Equal Employment Opportunity Commission to restrain Astor. There were no organized watchdogs such as Public Citizen, Greenpeace, People for the Ethical Treatment of Animals, and the American Indian Movement. The external costs of the American Fur Company’s operations were borne by weak and unorganized stakeholders. Companies continued such predatory and exploitative operations until the late 1800s when the people who suffered from their operations organized powerful reform movements.

7. Do one or more models of the business-government-society relationship discussed in Chapter 1 apply to the historical era set forth in this case? Which model or models have explanatory power and why? Two of the models in Chapter 1 have strong descriptive validity. 

The market capitalism model accurately describes business-government-society relationships of that era. It depicts primacy of economic forces over social and political forces, the priority of economic performance as a measure of success, laissez faire markets, a limited role for government, and weak nonmarket forces.

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The dominance model is also a useful lens for studying the American Fur Company in its era. It depicts undemocratic dominance by an elite of wealth and power, feeble government regulation due to the influence of business on government, and lack of effective pressures for social responsibility. These assumptions in the model accurately depict the businessgovernment-society interrelationship in Astor’s day.

The countervailing forces model has far less descriptive power. Nature limited the expansion of the fur trade, illustrating some validity in the model. Only later, however, would public values and government regulation come into play. The stakeholder model, which emphasizes duties toward a range of stakeholders, has little descriptive value. Fur companies were run to maximize the wealth of owners and stockholders. Other stakeholders had little power and managers like Astor were unenlightened about the ethical duties implied in the model.

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3 Business Power LEARNING OBJECTIVES SUMMARIZING OUTLINE This chapter explains the tremendous power of corporations to change society through their actions. It illustrates this power with stories about the American Tobacco Company, the railroads, J. P. Morgan, and the Standard Oil Company. Power is defined, then its exercise is described on surface and deep levels in areas corresponding to the key environments in Chapter 2. Finally, two theories of business power are set forth--the dominance theory of overbearing power and the pluralistic theory of counterbalanced power. 

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The introductory story is about the American Tobacco Company. 

The company was founded by entrepreneur James B. Duke after the Civil War. Duke capitalized on the new technology of the Bonsack machine to increase output of cigarettes and used clever marketing to sell his brands worldwide.

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Duke’s company eventually had a monopoly on tobacco. The Supreme Court used the Sherman Antitrust Act to break it up in 1911.

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The story shows how a powerful company can shape society. Duke’s monopoly spread smoking, revived the postwar southern economy, introduced new kinds of marketing, and created the modern tobacco industry.

Power is the force or strength to act. It has many sources. Business power is the force behind an act by a company, industry, or sector. Its primary source is a grant of authority from society, stemming from the social contract, to convert resources efficiently into needed goods and services. It is legitimate when it is exercised rightfully, or in keeping with the social contract.

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Corporate power has an impact on society at two levels. 

On the surface level it is the direct cause of visible, immediate changes.

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On the deep level it shapes society over time through the aggregate, indirect, and unforeseen changes caused by industrial activity.

On both the surface and deep levels corporate power is exercised in seven spheres corresponding closely to the key business environments described in Chapter 2 (here power over individuals is included in place of the internal environment). 

Economic power comes from the use of property and resources to influence events and people.

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Technological power influences the direction, rate, characteristics, and consequences of innovations.

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Political power is the ability to influence governments.

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Legal power is the ability to shape laws and regulations.

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Cultural power is influence over values, habits, and institutions.

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Environmental power is the impact of a company on nature.

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Power over individuals is exercised over employees, managers, stockholders, consumers, and citizens.

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The rise of the railroads in the United States after1850 illustrates how power radiated from an industry in these seven areas, bringing both surface and deep changes.

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Two basic and opposing positions about business power exist. 

The dominance theory is that business power is preeminent in American society. It is excessive. It is inadequately checked. 

One branch of the dominance theory finds evidence of excessive corporate power in asset concentration among a few large firms. However, there is no evidence that asset concentration is growing. In fact, despite a succession of merger waves it has fallen. Also, turnover in the Fortune 500 and Dow Jones Industrial Average companies during the twentieth century shows that technological change causes the rise and fall of mighty firms.

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Another branch of the dominance theory attributes corporate ascendancy to the power of an economic elite. Evidence is varied.

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The founders who created the Constitution were an aristocracy of wealth. 

The story of how J. P. Morgan dominated the nation’s financial system during the panic of 1907 is told to illustrate the elite thesis.

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In the 1950s C. Wright Mills wrote of a small power elite commanding business, government, and the military.

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More recently, scholars G. William Domhoff and Thomas R. Dye have found evidence of elites in American society and tried to both describe and quantify them. Dye, for example, identified an institutional elite of 5,778 individuals who occupy top positions in a wide range of institutions.



Another scholar, David Rothkopf, describes the emergence of a global superclass with a hip of about 6,000 individuals.

The pluralist theory is that in a pluralistic society such as the United States business power is adequately checked by democratic values, the Constitution, laws, markets, government, labor unions, advocacy groups, and public opinion. Four boundaries on managerial power exist.





Governments and laws regulate business.

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Social interest groups represent broad and diverse interests within society and use many methods to restrain business, from boycotts to media campaigns.

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Social values restrain managers. An example is the pervasive belief in equality in America that discourages deference to an aristocracy of corporate wealth.

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Markets and economic stakeholders discipline corporations to channel their power within the limits of the social contract. Markets technological changes that cause the rise and fall of dominant industries.

In conclusion, if corporate power remains generally able to democratic controls, society will accord it legitimacy.



Note 152.

Case

JOHN D. ROCKEFELLER AND THE STANDARD OIL TRUST

This case study has several elements. First, it is a narrative of John D. Rockefeller’s life. Business students enjoy this story and find inspiration in his personality and his sweeping triumph. They might be asked: Do you ire Rockefeller? Would you enjoy working for him? What was his leadership style? What made it effective? Second, it is a historical study of the interaction between industrial growth and societal values in another era. Reading the case prepares students to discuss how growth of the oil industry altered American life in such areas as social values, work, leisure, transportation, and government regulation. Third, it is a story that raises enduring ethical issues.

Answers to Case Questions 1. With reference to the levels and spheres of corporate power discussed in the chapter, how did the power of Standard Oil change society? Was this power exercised in keeping with the social contract of Rockefeller’s era? This question refers to the section in Chapter 3 entitled “Levels and Spheres of Corporate Power” on pages 59-61. The actions of Rockefeller and of Standard Oil had many impacts at both the surface level and the deep level. Among them are these. 

Economic power. On the surface Standard Oil built facilities, hired workers, and defined the structure of a growing industry. At a deeper level it made fuels that spurred growth in other industries such as the auto industry, shaping the American economy.



Technological power. On the surface, Standard Oil applied, perfected, and spread oil refining technology. On a deeper level its product fueled the spread of other technologies.



Political power. On the surface, Rockefeller and company officials corrupted politicians by giving large campaign contributions in return for favors. At a deep level, growth of the company and its efforts to insulate itself from regulation invited public reaction, leading to age of the Sherman Antitrust Act, a legal crowbar that eventually pried open its monopoly and then remained on the books to break up other trusts and corporations over many years.



Legal power. Ultimately, Standard Oil did not shape the law to its advantage. It was reaction to its power that led to change. On the surface, the visible response to its power came first in the Sherman Act of 1890, followed 21 years later by the Supreme Court decision that applied this statute to break up the company. Other statutes and federal court decisions followed. So on a deeper level, the reaction shaped the nation’s antitrust policy



Cultural power. On the surface, Rockefeller’s example of cold-blooded ambition inspired many others to emulation and may have changed American commercial culture. James Duke, for example, was inspired to copy his tactics in creating the American Tobacco trust. At a deep level growth of the Standard Oil Trust changed public attitudes toward big business. It confronted the public with a giant corporation exceeding in its power any that had gone before. People grew cynical about corporate power and began to fear it. These feelings persist to this day.



Environmental power. On the surface Standard Oil’s operations led to widespread air, water, and land pollution. On a deep level, the burning of kerosene, oil, and gasoline made by Standard Oil raised levels of carbon dioxide in the earth’s atmosphere, contributing to climate change.



Power over individuals. On the surface, Standard Oil affected the daily lives of thousands of employees, suppliers, competitors, and other stakeholders. On a deep level the fuels developed by Standard Oil changed how people lived. For instance, with cheap kerosene for light it was practical for people to stay up late at night to read or work.

At first, the actions of Standard Oil were consistent with the social contract between business and American society. In the laissez faire atmosphere of its early years the company could focus on profit maximization and still fulfill social expectations. Later, public expectations changed. Rockefeller’s relentless drive exposed the shortcomings of unregulated markets. Fear of his power over consumers altered the social contract. The questions raised for American society by the success of Standard Oil required answers, and the answers revised the social contract, creating new rules of fair competition and new responsibilities of companies to use their power for ends beyond profit maximization.

2. How does the story of Standard Oil illustrate the limits of business power? Does it better illustrate the dominance theory or the pluralist theory discussed in the chapter? The limits of business power are discussed in Chapter 3 in the section entitled “Pluralist Theory” on pages 71-75. Four general boundaries on managerial power are suggested in this section: governments, social interest groups, social values, and markets and economic stakeholders. Standard Oil dominated its markets and, at first, was little restrained by other forces. At the zenith of the company’s power it suffered attacks by labor unions, socialists, and progressives, but pressure groups had little impact on the behemoth. Rising criticism reflected changing social values. Rockefeller’s business methods offended public attitudes about fair play and competition. Eventually, government acted when Congress ed the Sherman Act of 1890 and, although it took more than twenty years, the Supreme Court finally used it to break up Standard Oil in 1911. The dominance theory best explains the power of Standard Oil during the years of its rise. It concentrated wealth and American institutions did not yet have the ability to check its power. However, when the public became aroused, sufficient means to blunt and channel the company’s power were forged from raw materials present in America’s constitutional democracy. Thus, the company was brought to heel by forces in a pluralistic society. So both theories have some validity, but at different points in the story.

3. Did Rockefeller himself ever act unethically? By the standards of his day? By those of today? How could he simultaneously be a devout Christian and a ruthless monopolist? Is there any contradiction between his personal and business ethics? In response to questioners later in life, Rockefeller stated so firmly and frequently his conscience was clear that believing him seems prudent. He thought he had applied Christian precepts in all his business dealings and that his riches were a gift of God. “God gave me my money,” he said in 1905. The Puritan ethic and the Protestant work ethic held that hard work and diligence were rewarded by riches. These riches were a sign that God approved of enterprise over idleness, productivity over waste, and progress over decay. Repeatedly, Rockefeller noted to colleagues that the purpose of the Standard Oil Company was to bring light to the poor. He was, beyond question, deeply religious. Devoutness was instilled in him by his mother. He attended church regularly throughout his life at either the Erie Street Baptist Church in Cleveland or the Fifth Avenue Baptist Church in New York. He read the Bible daily. The tension between his religiosity and his remorseless suppression of competition is an enduring puzzle. Students might be asked if being simultaneously a good Christian and a ruthless manager is possible. Note that Rockefeller was fixated on making money and making the oil industry grow into his vision. He was not enamored with philosophy, art, science, or the humanities. His mind did not delight in theories and abstract ideas. Perhaps he gave little thought to how, in a roundabout way, his business practices undermined certain religious ideals. Evidence that Rockefeller ever took direct action to break any law is elusive. As a competitor he was tough, but the record is free of clearly documented lying, lawbreaking, or cheating. He was audacious and would maneuver around the rules of the game as followed by more ordinary players. But he never went outside the law or, in his opinion, forsook Christian virtue. To call him “ruthless” is not sufficient to prove him unethical. It may be that Rockefeller never appreciated the extent to which low-level employees of lesser insight, diligence, and religious conviction were pressured to act unethically when carrying out the details of his vision. It is also arguable that any such ignorance was intentionally maintained. Against Rockefeller’s relative purity, a mass of evidence suggests that his company repeatedly violated the law over many years. In handing down its decision breaking up the trust in 1911, the Supreme Court said that the record in the case, at that point 12,000 pages, established as fact that the company had fixed prices, limited production, obtained preferences and rebates from railroads, restrained transportation of oil in interstate commerce, spied on competitors, and set up bogus companies, all to suppress competition unfairly and earn artificially high profits, and all to the detriment of the American public. 1 The Trust’s fatal mistake was that it failed to reform its behavior after age of the Sherman Act in 1890. Some of Rockefeller’s and the Trust’s actions were legal at first, but became illegal as time went on, for example, giving large cash payments to Senators (outlawed by the Tillman Act of 1907) or obtaining rebates and drawbacks from the railroads (outlawed under the Elkins Act of 1903).

1

Standard Oil Co. of New Jersey v. United States, 221 U.S. 1 (1911).

4. In the utilitarian sense of accomplishing the greatest good for the greatest number in society, was the Standard Oil Company a net plus or a minus? On balance, did the company meet its responsibilities to society? Business historians debate the accomplishments of great entrepreneurs in the post-Civil War era. Rockefeller is often included in the roll call of “robber barons” who built huge fortunes using sharp practices. In this debate the traditional school holds that Rockefeller and others were unscrupulous buccaneers of the markets who used unfair methods to create monopolies and then enrich themselves at public expense. The revisionist school argues that Rockefeller and others performed a beneficial function by creating an industrial infrastructure. Their actions may be ethically questionable today, but in their era they were simply shrewd realists acting well within the norms of old-time business ethics. The Standard Oil Company brought many benefits to society, including (1) standardized distillates that were less likely to explode than early competing brands, (2) stabilization of oil prices in most areas, (3) development of facilities and production technology, (4) jobs and payrolls, (5) tax revenues for government, and (6) the financial means for great works of philanthropy. Rockefeller’s dogged attention to detail also made the company very efficient, a benefit to consumers. For example, a historian writes this about Rockefeller’s battle in the 1880s to dominate the world oil trade. The Russians, in their plentiful oil fields at Baku, had a richer, more viscous oil that yielded 280 barrels per well per day, compared with 4.5 barrels per day from American wells. Also, Russia was closer to European countries, many of which slapped high tariffs on U.S. oil. Yet Rockefeller’s Standard Oil ran such an innovative, efficient operation–from making of barrels to the deploying of ocean tankers–that it could sell oil for an incredible seven cents a gallon... and thereby outmaneuver the Russians for most of the world oil trade. 2

From a utilitarian perspective, Rockefeller and Standard Oil are a net gain for society. Utilitarianism, as an ethical principle, was a handmaiden to the Industrial Revolution, and it lends itself to rationalization of economic development in exchange for some cost in human suffering, environmental pollution, or other detriment. Key questions to ask when assessing whether Rockefeller and Standard Oil acted ethically are these: Is there a relationship between ends and means? Can worthwhile and socially beneficial ends be attained using compromising means? If some students believe that Rockefeller acted unethically, then they may feel that his achievements are tainted. Would we honor the work of a burglar who broke into a house, stole a large sum, and gave it to a worthy charity where it helped many people? A simple way to assess the social performance of Standard Oil is to comment on each element in Archie Carroll’s four-part definition of corporate social responsibility.3 

2

As to economic responsibilities, the company created a reliable, standardized product; improved social welfare by spreading illumination; and was the source of significant employment, tax revenue, and capital formation. There is no indication that innovation and progress would have occurred more quickly without the domination of Standard Oil or that

Burt Folsom, “Entrepreneurs vs. the Textbooks,” The Wall Street Journal, July 22, 1987.

3 See Archie B. Carroll and Ann K. Buchholtz, Business and Society: Ethics and Stakeholder Management, 6th ed. (Mason, OH: Thomson/South-Western Publishing, 2006), pp. 35-41.

capital and resources would have been used more efficiently. The verdict is overwhelmingly positive here. 

As to legal responsibilities, the company meandered around and across bright lines. It was a generally law-abiding firm but fought some laws and stretched the letter of others and the spirit of still more. Rockefeller resisted antitrust actions. He often fudged his testimony in courts and in Congress. His reorganizations of Standard Oil as a corporation and a trust were designed to keep the company just a step ahead of greater government control. Much of his resistance to the law was accomplished through political influence tactics that would be considered corrupt today. The verdict is clearly mixed here.



As to ethical responsibilities, Rockefeller apparently satisfied his own conscience, but critics could point to his rebate and drawback schemes and his pressure on employees to drive out the competition as enough evidence to make the verdict mixed.



As to voluntary responsibilities, Rockefeller’s lifetime of philanthropy is a lasting model for others. The verdict here is thumbs up.

5. Did strategies of Standard Oil encourage unethical behavior? Could Rockefeller’s vision have been fulfilled using “nicer” tactics? Rockefeller had a strong drive to dominate and control his environment. As a boy, he fretted when a tree blocked a panoramic vista from a window in the family farmhouse. He finally cut it down to open the field of view. As a manager he was obsessed with small economies, domination of his rivals, and “rationalizing” the oil industry. Níccolò Machíavelli searched in vain for a strong prince to unify the fragmented city-states of the Italian peninsula. He would have ired Rockefeller’s conquest of the oil industry. Here was a forceful man who brought unity to a chaotic situation. Rockefeller’s obsessions may have led him to rationalize when he used compromising means to achieve ends that he thought noble. If Rockefeller had never been born, would another person have stepped up to destiny and accomplished similar feats? Or is Rockefeller so unique as an individual that only the force of his personality was sufficient to conquer an industry exploding with new importance? Whichever of these questions may be answered affirmatively, the ripeness of the historical moment when Rockefeller appears is unarguable. Two of his biographers write about it this way: The making of the great Standard Oil fortune was an accident. It was as if a door had stood open for a brief historical moment and Rockefeller, who just happened to be ing by, managed to squeeze in before it closed. Never before had it been possible for an individual to build the organization he built; it would never be possible again. It was the random collision of a man with an opportunity.4

Finally, it is doubtful that Rockefeller would have understood an onition to be “nicer.” His business methods were means to the end of “rationalizing” an industry and justified by that end.

4 1976), p. 6.

Peter Collier and David Horowitz, The Rockefellers: An American Dynasty (New York: New American Library,

4 Critics of Business

SUMMARIZING OUTLINE The chapter explains the historical origins and evolution of criticism of business. It begins with a discussion of how Greek philosophers encoded critical attitudes, then traces the persistence of these attitudes through the Middle Ages, the Renaissance, the Industrial Revolution, and the history of the United States. Current criticisms of business and the methods of activist critics are enumerated. 

The introductory story is about Mary “Mother” Jones (1837-1930). 

Mary Jones was an Irish immigrant. After her husband and children died she became involved in the United Mineworkers Union. Eventually, she adopted the persona of “Mother” Jones and took on the miners as her “boys.”



She was a spirited organizer, and briefly a socialist, who used colorful language to attack corporations and “monster capitalism,” which she labeled a “robber system.”

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Her invective reflected the radical temper of business criticism in her time and exemplified timeless and continuing antibusiness attitudes.

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Through Mother Jones, students learn that the attitudes behind attacks on business today are neither new nor novel.

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Criticism of business has two underlying sources.

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The first is that people in business prioritize profit over noble values such as honesty, truth, justice, love, devoutness, and respect for nature. This view arose in ancient Greece and persisted in medieval Church doctrine.

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Plato believed that people in trade succumbed to an insatiable appetite for money. Money, in turn, led to corruption, inequality, envy, and other evils.

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Aristotle taught that character virtues were superior to external and material goods. Pursuit of wealth was base behavior.

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The Roman Catholic Church was suspicious of commerce because it diverted traders from devoutness. It exhorted merchants to charge a just price for a fair and modest profit as opposed to a market price determined by supply and demand. It condemned usury, or lending money for interest.

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New ideas that arose during the Renaissance served to promote commerce. These include the Protestant ethic that justified wealth as a sign of God’s approval and Adam Smith’s theory of capitalism.

The second source of criticism is the social strain caused by economic development. Industrial growth often changes a society more rapidly than values and institutions can shift to new ways of life. It causes displacements and injustices for some people, which become the raw material of business critics.

American history illustrates the strain of development. Growth put pressure on the values, lifestyles, and institutions of the early nation’s agrarian society, a society based on the values of an agricultural economy. The stress led to recurrent waves of reform. Antibusiness values were weak in the beginning, but grew stronger with time and economic development. 

The colonial era was characterized by probusiness attitudes. The first colonists were backed by corporate investors in England. Trade grew. Farmers prospered. The writings and maxims of Benjamin Franklin blazed with a capitalist spirit. In the New World, he said, diligence would bring success and wealth.

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In the young nation of the late 1700s Alexander Hamilton, who promoted rapid industrialization, prevailed over his political and philosophical rival Thomas Jefferson, who sought to avoid the evils of industrial growth by limiting economic development. Their conflict cast the dye for the conflict between business and its critics that continues in America to this day.

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Steady industrial growth in the period 1800-1865 aroused critics. 

Ralph Waldo Emerson and Henry David Thoreau rejected rising commercial values because they eclipsed older, more virtuous habits.

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Robert Owen set up the first of many socialist utopias in 1825. These were model communities based on principles of equality, charity, cooperation, and moderation. These values challenged the prevailing values of capitalism such as unlimited materialism, competition, individualism, and tireless labor. The allure of the external world caused the quick failure and disbanding of most utopias.

By the late 1800s, steady industrial growth had created growing strains. It fueled two movements critical of big business. 

The Populist movement, lasting from the 1870s to 1900, was a radical (by today’s standards) protest movement that assailed rising business interests. In it, farmers and workers blamed the social ills caused by industrialization on the railroads, financiers, and moguls of the era. It led to creation of the Interstate Commerce Commission in 1887 and age of the Sherman Antitrust Act in 1890.

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The Progressive movement of 1900-1914 was created by mainstream reformers. It left a legacy of greater reform than the populists, including more antitrust laws, regulation of consumer products, prohibition of corporate campaign contributions, and the corporate income tax.

The Populist and Progressive movements coincided with a strong Socialist movement. 

Modern socialist doctrine originated with Francois-Noël Babeuf (1764-97), who wrote of an egalitarian society and advocated seizing the possessions of the wealthy during the French Revolution in 1789.

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With the publication of The Communist Manifesto in 1848, Karl Marx (1818-83) gave socialism a more compelling theoretical foundation. Marx also set forth an explicit indictment of capitalism as dehumanizing, exploitative, material, and corrupt.

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The appeal of American socialism reached its zenith in the early 1900s, but ebbed because moderate reforms and rising prosperity relieved social ills and because radical socialist doctrines alienated many people.

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Business scandals and high unemployment during the Great Depression brought out radical reformers such as Huey Long. Long believed the economic elite were too rich. He wanted to redistribute wealth. Others advocated socialism. President Franklin D. Roosevelt saved American capitalism by advocating more moderate reforms, including added regulation of business and the economy.



During the late 1960s and early 1970s opinion polls measuring public for business, which had been high following World War II and the prosperous 1950s, showed plummeting . The cause was a redefinition of American values in an increasingly affluent society. 

Business was attacked for causing pollution, employment discrimination, consumer fraud, and other problems. A marked increase in regulation of business followed.

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Business groups organized to lobby against further regulation. They achieved much success and succeeded in frustrating liberal reformers, who sought to use government to control business.

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Out of this liberal defeat rose a left-wing, new progressive movement that sought to control business by both government regulation and direct action. This is the movement that has generated recent activist attacks on corporations.

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The antibusiness attitudes of the new progressives come from three basic beliefs.

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First, corporations have too much power and too little ability in its use.

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Second, corporations have excessive legal rights. These rights should be restricted.

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Third, corporations are inherently immoral.

The new progressive movement has no single leader, but a prominent figure is Ralph Nader, a longtime activist who has twice run losing presidential campaigns to challenge corporate dominance of American politics.

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Growing corporate power in the world economy is opposed by forces in an emerging global civic culture. 

One force is the rapid proliferation of non-governmental organizations (NGOs), or voluntary, nonprofit organizations that are not d with governments.

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Another is the recent emergence of a global civil society, a zone of ideas, discourse, and action dominated by progressive values. It is composed of NGOs, intellectuals, movements, and institutions.

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A global justice movement has evolved within civil society. Its motive is to resist a global economy directed by and for markets and corporations.

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In the 1990s an antiglobalist movement coalesced around resistance to a global economy directed by corporate interests. 

The antiglobalist’s agenda opposes neoliberalism, or the ideology of using markets to organize society and a set of policies to free markets from government intrusion.



To the antiglobalists, neoliberalism is a rebirth of an enlightenment philosophy. 

Its roots go back to liberalism, a social philosophy that arose in Europe in the 1500s to promote an open society in which government does not interfere with individual rights.



One natural extension of liberalism was a philosophy of economic liberalism, or the idea that social progress comes when individuals freely pursue their self-interests in unregulated markets.

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In the progressive view, economic liberalism opened the door to rapacious capitalism that, free of state restraint, exploited humanity and nature.

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This exploitative ideology prevailed until the 1930s, when the Great Depression led governments to adopt Keynesianism, or the belief that active government intervention in markets was needed to promote economic and social welfare.



Although Keynesianism became the dominant economic philosophy of Western governments, the old ideas of economic liberalism were preserved and nurtured by a small group of conservative intellectuals. 

This group saw free markets as counterbalancing government authority and essential to efficient allocation of resources. Its opposed the regulation and other forms of government intervention promoted by Keynesianism.



The term Chicago School came to be applied to its , including most famously Milton Friedman, and to its ideas.



In the 1970s and 1980s its ideas were embraced by governments, first in Chile, then in England and the United States.

By the 1990s the Chicago School philosophy was a dominant ideological force in economic globalization. It was simultaneously labeled neoliberalism, a rebirth of the old economic liberalism. Global activists use a range of tactics to pressure corporations, including the following. 



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Consumer boycotts that pressure companies in the marketplace.

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Shareholder attacks in which progressive groups sponsor socially responsible shareholder resolutions at corporate annual meetings.

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Harassment, ridicule, and shaming by picketing, lawsuits, sarcastic “awards,” and other disruptive actions.

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Corporate campaigns, or broad, sustained attacks, usually by a coalition of groups, involving a range of tactics. An example is a campaign by ForestEthics to stop Victoria’s Secret from using pulp from virgin forests in its catalogs.

In conclusion, there is endless debate between critics and defenders of capitalism. Each group believes its approach best promotes human progress.





Economic liberals defend free markets as consistent with natural law.



Progressives believe that society should be managed according to a human plan furthered by government intervention.

Note

153.

Case

A CAMPAIGN AGAINST KFC CORPORATION This case is the story of an activist campaign against a corporation. There are several focal points for discussion.

First, as in many corporate campaigns, there is a gulf between the values of the activists and the values of the corporation. People for the Ethical Treatment of Animals (PETA) believes that chickens have rights that should be given equal consideration with the interests of humans and priority over the interests of corporations. The group believes KFC Corporation unfairly exploits chickens, which are treated cruelly in the production process. KFC, on the other hand, has adopted principles of animal welfare and claims to treat chickens humanely. What are the merits of each set of values? Which values are most compelling? Second, PETA uses a wide range of tactics. Both the effectiveness and the ethics of these tactics can be discussed. Do PETA’s ends justify the use of certain outlandish means? Third, unlike some of its competitors, KFC Corporation has resisted PETA’s demands, holding firm for more than five years. Why has it been able to do what other companies could not?

Answers to Case Questions 1. Do you KFC Corporation or People for the Ethical Treatment of Animals in this controversy? Why? This is a matter of opinion based on values about food animals. And values are polarized. Those who KFC believe it is ethical to raise animals for food. In direct opposition is PETA’s belief that “animals are not ours to eat.” Although PETA opposes raising animals for food, it has temporized by challenging KFC only on the issue of humane treatment. Therefore, students could PETA if they simply believe that KFC is not doing enough to treat chickens humanely. It is not necessary to believe that eating chickens is always wrong.

2. What are the basic criticisms that PETA makes of KFC? Are they convincing? Are its criticisms similar to timeless criticisms of business mentioned in the chapter? PETA’s basic criticism is that KFC is violating the rights of living, sentient creatures by raising them for human consumption. Its campaign, however, is based on more specific criticisms about the treatment of chickens. According to PETA, KFC permits inhumane treatment in a variety of ways because, overall, its animal welfare standards are lower than those of its competitors. It uses deficient electrical stunning instead of gas killing, it has not installed cameras to monitor workers in growing and slaughter facilities, it does not use mechanized catching, it uses strains of chickens with bodies ill-suited to rapid weight gain in forced-growth regimens, it fails to provide sufficient room, and it does not facilitate the expression of instinctive chicken behaviors. KFC’s animal welfare standards are inadequate. These criticisms are convincing to those who share PETA’s values.

PETA’s charges reflect the basic, timeless criticism that business is pursuing profit at the expense of other, higher values. Here it is the welfare of animals being sacrificed. Just as Mother Jones believed that big mining corporations were profiting on the suffering of unorganized miners, so PETA believes that KFC is profiting on the pain of chickens. Its rhetoric is as sharp as that of Mother Jones.

3. What methods and arguments has KFC used to its actions? Is it conducting the best defense? KFC maintains a low profile. On occasions noted in the case it has been provoked into calling PETA’s actions “terrorism” or saying it has been “abused.” But it has been generally restrained, perhaps feeling that publicity would only educate more consumers about PETA’s charges. Also, it would be a losing battle to prove that chickens are treated humanely. The imperatives of factory farming prevent their being cosseted like pets. Instances of pain, suffering, and thwarted instinct would be impossible to eliminate. As noted in the case, the public is largely indifferent to food animal welfare issues. PETA’s ethical position on animals is compelling in theory. In practice, it has little value for the vast majority who eat meat. Its acceptance would call a durable, strongly-held dietary preference into question. A 2004 Gallup poll found that 85 percent of Americans “actively try to include” chicken in their diets. 1 However, added publicity for PETA could lead to more debate and more converts. KFC has worked to strengthen its animal welfare policies. It created a first set of animal welfare principles in 2000. Then in 2004 it adopted more comprehensive poultry guidelines to be implemented in grower contracts. It started making unannounced audits of grower slaughterhouses. It convened an Animal Welfare Council of experts, including four suggested by PETA. In 2005 three of this issued a set of recommendations to improve chicken welfare that met with PETA’s approval. When KFC rejected them, two of the three resigned. KFC also works with industry trade associations that are developing new poultry welfare guidelines. KFC claims to have adequate policies to insure the humane treatment of chickens.

1 Gallup Poll, USGALLUP.04JLY8, R35C, July 8, 2004.

Company executives have met and corresponded with PETA representatives. Such meetings have not resulted in concessions by either side. Over time, the two sides seem to have grown more distrustful. PETA claims that KFC is unresponsive and takes inadequate steps. Is KFC conducting the best defense? Whether it is the best or not, it has enabled the company to defy PETA, unlike many of its competitors, who compromised with the activists.

4. Is the range of PETA’s actions acceptable? Why does the group use controversial tactics? What are its sources of power in corporate campaigns? PETA uses a wide range of actions. Some, such as letter writing, lawsuits, endorsement of the cause by celebrities, picketing and leafleting, informational Web sites, and shareholder resolutions are very ordinary. Others are considered outrageous by some. Street theater, bold caricature, and ridicule fall into this category. Such actions grant no respect to the target. PETA’s use of open sexuality offends those who believe it is degrading women to further its cause. Its most extreme actions have included the assault of CEO David Novak by blood and feather throwing protestors and activist forays into the neighborhoods and churches of executives. These actions cross a line dividing civility from lawlessness and personal offense. KFC executives doubtless would like to keep the issue out of their personal lives. But to activists the end justifies the means. Their assaults are a necessary resort in the fight against a major evil. Animal rights issues have low salience with the public. PETA uses controversial tactics to attract attention. The group can educate only those who focus on the conflict. Some who are attracted to the spectacle will become converts. PETA cannot win without the power to damage KFC’s brand image. Without publicity for its cause it has little power. One source of the group’s power is animal rights philosophy. In this philosophy unenlightened humans exhibit an evil prejudice toward animals. Animals have the right to equal consideration with humans. Adherents believe that they have a just cause. A related source of power is PETA’s claim that it represents the interests of animals much the same way that Mother Jones and other union organizers claimed to represent miners.

5. Is it proper for PETA to pressure KFC for change when the company is following the law and public custom? Does PETA represent so compelling a truth or enough people to justify attacks on, and perhaps damage to, major corporations ed by and ing millions of customers, employees, and stockholders? These questions invite students to comment on the charge that progressive activists challenge traditional notions of democracy. KFC is following the law. Rather than approach Congress trying to have its animal welfare philosophy made into public policy, PETA is trying to build moral outrage against KFC. It lacks the power to change KFC’s behavior by changing the law because few Americans agree with its extreme positions on the rights of animals in factory farms. So it is trying to gain power over KFC by affecting its

sales. In other words, it is attempting to by traditional democratic channels for instituting change and impose its will without new laws or regulations.

PETA claims to have “more than 2 million and ers” worldwide. There is no way of knowing how precise is this designation. In its 2010 financial report PETA reported contributions of $32,218,815, an average of $16.10 per “member and er.” 2 Its total contributions are just six tenths of 1 percent of the $5.3 billion revenues from the 16,844 KFC stores in 110 countries in the same year. 3 Of course, only the dead flesh of the chickens has monetary value; their rights are unpriced by markets. PETA is unwilling to accept as responsible corporate behavior guided by laws and markets. It has the First Amendment right to speak out for animal welfare issues without restriction by government. Is it a favorable development that it can also gain enough power in markets to exert political control over large corporations?

6. Do animals have rights? If so, what are they? What duties do human beings have toward animals? Does KFC protect animal welfare at an acceptable level? Some accept that animals have rights. These may include the right to be free of exploitation, the right to equal consideration with human interests, the right to exercise instinctive behaviors, the right to have basic needs satisfied, and the right to be free of human-imposed cruelty. Such rights, if they exist, create corresponding duties on humans and corporations. The original, groundbreaking discussion of animal rights is Peter Singer’s book, Animal Liberation.4 Students can be assigned to review its arguments.

2 People for the Ethical Treatment of Animals, PETA 2010 30th Anniversary Annual Review, p. 2, at www.mediapeta.com/peta/pdf/USAnnualReview2010-72webonly.pdf. 3 See Yum! Brands! Inc., Form 10-K, February 15, 2011, p. 4, and “Yum Brands!” at www.yum.com/company/ourbrands.asp, statement of Roger Eaton, chief executive officer, KFC, U.S., June 3, 2011. 4 Peter Singer, Animal Liberation: A New Ethics For Our Treatment of Animals (New York: Avon Books, 1975). A New Revised Edition was published in 1990.

5 Corporate Social Responsibility LEARNING OBJECTIVES How ideas about corporate responsibility in the chapter apply to General Electric Company during the years when Jack Welch was CEO.

SUMMARIZING OUTLINE This chapter introduces the idea of social responsibility in business and follows its evolution from colonial America to its present expansion into the global economy. The opposition of critics and managers who defy the idea in practice is explained. General principles of corporate social responsibility are set forth. The relationship between social and financial performance is discussed. A section is devoted to the rise of a global system of civil regulation to prompt CSR in multinational corporations. Eight major elements of this system are discussed. 

The introductory story is about Merck & Co., Inc. 

Merck spent more than $200 million developing a drug treatment for river blindness, a disease endemic in underdeveloped nations, although neither patients nor international organizations could or would pay for it.

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Since 1987 Merck has given away more than 2.5 billion doses of ivermectin, mostly in Africa, at a cost of $3.9 billion. The medicine has saved hundreds of thousands of people from blindness and strengthened local economies in some equatorial nations.

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The story is an outstanding example of how some corporations accept the idea of corporate social responsibility and go beyond normal market operations, acting to improve society in some way.

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Corporate social responsibility, or CSR, is the duty of a corporation to create wealth in ways that avoid harm to, protect, or enhance societal assets. The idea has expanded in meaning over time. 

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Advocates of CSR justify it with three arguments. 

It is an ethical duty to promote social justice.

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It has concrete benefits such as creating loyal customers.

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It is necessary to force full responsibility on corporations, particularly those operating in global arenas where government regulation is weak.

CSR is opposed at opposite ends of a political spectrum. 

On the far left, progressives believe it is an insufficient substitute for tougher laws and regulations.

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Conservatives on the far right believe it violates free market economic doctrines.  

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It imposes costs that make corporations less efficient, thus subtracting from overall social welfare. It distracts managers from profit-making duties. It is unfair to shareholders because managers divert dividends to social projects.

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It thwarts natural market dynamics by diverting investment to social programs based on manager’s opinions rather than market incentives.

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It obliges business to meet social goals, which should be primarily the job of government.

The meaning of corporate social responsibility has evolved. 

In classical economic theory a business was socially responsible if it maximized profits while operating within the law.

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In colonial America merchants were thrifty, but charity was a coexisting virtue and business owners gave to churches, orphanages, and poorhouses.

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In the early 1800s wealthy entrepreneurs such as Steven Girard began to give large gifts and bequests to schools and other worthy causes.

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They were followed by entrepreneurs who made fortunes during the economic growth of the late 1800s. John D. Rockefeller and Andrew Carnegie are examples of industrialists who turned into great philanthropists.

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The rise of social Darwinism in the last half of the nineteenth century braked expansion of the social responsibility idea. Popularized by Herbert Spencer, social Darwinism held that charity, which ed weaker and less successful individuals, ran contrary to the harsh reality of evolution. And it was evolution, not soft-headed benevolence that brought progress. Social Darwinism justified predatory competition ahead of any social goal.

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Early in the twentieth century three interrelated ideas emerged to justify broader corporate responsibility. 

Managers were trustees, or agents of corporate power whose positions implied a duty to protect stakeholders.

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Managers had an obligation to balance the multiple interests of stakeholders.

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The service principle was a near-spiritual belief that individual managers served society by building successful businesses. The prosperity they created would eradicate broad social ills such as poverty.

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Not everyone subscribed to these expansions of the social responsibility doctrine. Henry Ford, for example, ruthlessly maximized profits at the expense of workers. But others such as General Robert E. Wood of Sears, Roebuck accepted expanding duties toward society. An early, influential statement of the contemporary idea of social responsibility was Howard R. Bowen’s book, Social Responsibilities of the Businessman, in 1953.

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Soon conservative economists such as Milton Friedman emerged with a set of arguments against business responsibility. Friedman’s basic views, as follows, are still heard today. 

The one and only responsibility of business is to make a profit because business institutions work best responding to markets. Governments should run social programs, not companies.

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In the free enterprise system managers are responsible only to stockholders. Spending money on social projects wrongly appropriates money that belongs to them. It also robs consumers, who must pay higher prices for products. This is “taxation without representation.”

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Social responsibility threatens political freedom because it requires that companies perform political functions, gives executives political power, and opens business to evaluation by political criteria.

Despite Friedman’s arguments the business community has largely accepted the idea of corporate social responsibility. Debate and resistance ebbed after two prominent business groups formally embraced it.

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In 1971 the Committee for Economic Development published a report calling for expansive social responsibility. The report set forth three concentric circles of responsibility. 

An inner circle of responsibility for economic performance.

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An intermediate circle requiring exercise of the economic function with sensitivity to social values and priorities.

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An outer circle of emerging responsibilities for business to improve the social environment broadly in ways not directly related to its economic function.

In 1981 the Business Roundtable issued a Statement on Corporate Responsibility saying that corporations had both economic and social duties and that there was no necessary conflict between them.

Acceptance of the doctrine of corporate social responsibility by the business elite protected the legitimacy of large corporations. Still, many managers retain an inner conviction that Friedman is correct and they resist expansive CSR.

There are three basic elements of social responsibility. 

Market actions are competitive responses to forces in markets. They dominate corporate decisions. When a corporation responds to markets, it fulfills its first and most important social responsibility. It creates jobs, pays taxes, and meets consumer needs. This is its major impact on society.

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Mandated actions are programs required by government regulation or by agreements negotiated with stakeholders such as unions. The importance of mandated actions grew in the twentieth century.

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Voluntary actions are those that go beyond legal, regulatory, or negotiated mandates. A wide range of social programs and charitable activities fall in this category.

Eight widely accepted general principles of corporate social responsibility exist to guide managers. 

First, corporations are economic institutions run for profit and should not be expected to meet major social objectives without financial incentives.

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Second, all firms must follow multiple bodies of law including (1) corporation laws and chartering provisions, (2) the civil and criminal laws of nations, (3) legislated regulations, and (4) international laws.

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Third, managers must act ethically.

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Fourth, corporations have a duty to correct the adverse social impacts they cause. They should internalize external costs, or costs of production borne by society.

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Fifth, social responsibility varies with company characteristics such as size and location.

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Sixth, managers should try to meet legitimate needs of multiple stakeholders.

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Seventh, corporate behavior must comply with norms in an underlying social contract.

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Eighth, corporations should be transparent and able and publicly report on their social performance.

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Are social and financial performance related? Research suggests that more responsible companies are at least as profitable, and often more so, than companies rated as less responsible. However, methodological questions create enough doubt to warrant reservations.

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Today the idea of CSR has taken on a global dimension. 

While there is no consensus on its precise meaning and practice it is widely accepted in industrialized nations. 

Early development was strongest in the United States.

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In the 1990s leadership ed to Europe.

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CSR also has strong roots in Japan, Australia, and India.

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It is now defined mainly by the progressive ideology of Western civil society.

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With economic globalization CSR has taken on new, novel international dimensions because corporations are seen as eluding proper controls in their cross-border activities. 

International law is weak in addressing the social impacts of business.

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Less developed nations sometimes have weaker regulations.

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Strategies of t venture, outsourcing, and supply chain extension distance large corporations in developed nations from direct ability for social harms.

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Much more government regulation of transnational firms is unlikely.

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New norms of responsibility were incubated by the United Nations in a series of 1990s conferences. 

The conferences generated a series of declarations, resolutions, statements, guidelines, and frameworks shaping international norms for corporate conduct.

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These comprise a body of soft law, or statements of philosophy and principle in nonbinding international conventions that, over time, gain legitimacy as guidelines for interpreting the hard law in legally binding agreements.

A new system of global CSR is evolving. It is based on an evolving, solidifying, maturing patchwork of ideas, codes, voluntary corporate actions, and “multistakeholder initiatives” involving corporations, nongovernmental organizations, and governments working together to promote a part of the CSR agenda. There are eight major elements in this new global CSR system. 

New norms and principles to direct CSR have emerged. Many are found in declarations and codes emanating from United Nations.

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Codes of conduct, or formal statements of aspirations, principles, and guidelines for corporate behavior, have proliferated. Large multinational corporations are signatories of multiple codes.

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Reporting and verification standards encourage firms to reveal information about their CSR performance through, for example, sustainability reports, or publications explaining economic, social, and environmental performance.

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Certification and labeling schemes set rules for social and environmental responsibility in the production process, then use labels or certifications on the resulting products to show consumers that companies have complied.

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Management standards provide models of methods a corporation can use to achieve social responsibility goals.

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The United Nations and progressive investors have developed social investment and lending criteria. They require corporations to meet social, human rights, and environmental standards as a condition of borrowing and attracting investment.

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Some government actions advance the CSR agenda. These include participation in code or labeling initiatives with corporations and NGOs and adoption of laws that require CSR-like actions.

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Civil society vigilance enforces corporate compliance with emerging CSR norms as groups threaten brand attacks and harassment against deviant corporations.

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The new system of global CSR is one of civil regulation, or regulation by nonstate actors based on social norms or standards enforced by social or market sanctions. 

Growth of civil regulation means that NGOs and civil society increasingly favor constructive engagement with corporations rather than hostile attacks.

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In the emerging system the multinational corporation is increasingly defined as a stakeholder entity with broad responsibilities.

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Civil regulation is a pragmatic solution to the shortage of cross-border regulation of corporate conduct.

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Critics point out that the new regime stands outside governments and is, therefore, subject to the charge of being undemocratic.

In conclusion, for more than two centuries doctrines of business responsibility have expanded to require more concern for stakeholders and society. This expansion will continue

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Note

154.

Case

JACK WELCH AT GENERAL ELECTRIC Jack Welch ran one of America’s largest companies for twenty years. He became a celebrity CEO, ired for his innovative management methods and for achieving great financial success. His star still burns so

brightly it distracts almost everyone from the comments of cynics and critics. However, questions about the social and ethical performance of GE during his tenure persist. Chapter 5 discusses many ideas about the nature of corporate social responsibility. It also lists criteria for judging the performance of companies. This case study gives students a chance to apply these concepts to a specific instance, the operations of GE during the Welch years.

Answers to Case Questions 1. Corporate social responsibility is defined in Chapter 5 as the corporate duty to create wealth by using means that avoid harm to, protect, or enhance societal assets. Did GE in the Welch era fulfill this duty? Could it have done better? There is no question that GE created wealth. An investor who put $100 into GE in 1980 would have had $6,749 when Welch retired, compared with only $2,229 for investing in the Dow Jones Industrial Average and $1,839 for the Standard and Poor’s 500. Was this wealth created in ways that avoided harm to, protected, and enhanced societal assets? It is a matter of opinion. On the one hand, GE harnessed the efforts of tens of thousands in an efficient organization that used their skills to make products and services benefitting millions. GE medical equipment promoted human health. Its jet engines facilitated safe travel. Its locomotives moved food, fuel, and merchandise to where it was needed. On the other hand, the company polluted the Hudson River, hurt communities with layoffs and factory closings, has been accused of anticompetitive actions, used an evaluation system that some thought unfair, and was unable to achieve diversity in top management.1 Could it have done better? This also is a matter of opinion. The very strategic actions and management methods it is criticized for were critical to the company’s financial success. Cleaning up pollution of the Hudson River was never made a priority. Rightly or wrongly, the company was reactive, resisting mitigation until pushed by regulators. Eventually, Welch’s successor Jeffrey Immelt chose to cooperate with the Environmental Protection Agency. This story is told at the beginning of Chapter 13. Arguably, it should have acted sooner. Failure to achieve diversity may stem from lack of focus. Had a dynamic leader such as Welch chosen to emphasize diversity at the top it would have been evident in GE’s officer corps.

2. Does GE under Welch illustrate a narrower view of corporate social responsibility closer to Friedman’s view that the only social responsibility is to increase profits while obeying the law? Milton Friedman argues that the only social responsibility is to maximize profits while staying within the law. This seems to characterize the attitude of Jack Welch. He concentrated on playing the competitive game, building dominant businesses, and making money. Although GE had a philanthropic arm, Welch was never one of

1 sec. 3, p. 1.

Mary Williams Walsh, “Where G.E. Falls Short: Diversity At the Top,” The New York Times, September 3, 2000,

those executives who emphasized service to causes or focused the company on a progressive agenda. Welch agreed with Friedman’s view that managers should give primacy to the interests of shareholders. Friedman also argued that corporations should not take on political and social projects outside their sphere of economic expertise. Welch likely agreed with this.

3. How well did GE comply with the “General Principles of Corporate Social Responsibility” set forth in the section of that title in the chapter? The general principles of CSR are set forth on pages 133 and 134. 

Providing economic benefits is the greatest responsibility. Judged by this criterion, GE excelled during the Welch years.

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Corporations have a duty to follow the law. GE had a lengthy record of violations during the Welch years. Employees in large corporations may violate laws and regulations without encouragement by top executives and this undoubtedly explains some misdeeds. Are some GE transgressions the result of heavy performance pressure emanating from Welch? Was criminality at GE greater than at similarly sized companies? The answers to these questions are not known, though Welch has given responses. He says he told GE employees that he would not wink at misbehavior created by profit pressure. He is quoted as saying: “It is better that profits be lost than corners cut or rules bent.” 2 With respect to criminality, Welch likes to compare GE with a city having a population of about the same size as the company’s workforce, such as Newark or St. Paul. Newark, for example, has a police force of 1,000 to combat a steady stream of murders, rapes, assaults, and thefts. 3 The implication is that GE’s workforce, though not perfect, is a more law abiding population. This is correct, however, the analogy is not compelling.

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Managers must act ethically, conforming their behavior to ethical principles. Welch was never flagrantly unethical. He never suborned fraud. As GE’s top manager he emphasized compliance. He spoke about the need for ethical behavior in meetings. Every training program at GE was required to have a component on ethical issues related to its subject.

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Corporations have a duty to alleviate adverse effects on society, that is, to internalize external costs. PCB pollution of the Hudson River weighs against the company here, although a mass of scientific and technical detail and disagreements about the nature of the environmental damage make a clear assessment of GE’s culpability elusive.

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Social responsibility varies with company characteristics such as size, industry, strategies, marketing techniques, locations, internal cultures, stakeholder demands, and manager’s values. Students can be invited to comment on the specific duties GE might have in each of these areas. For example, Welch’s early strategy emphasized layoffs in restructuring to meet global competition. Did this create a special duty to mitigate negative effects on workers?

2 Quoted in Noel M. Tichy and Stratford Sherman, Control Your Destiny or Someone Else Will (New York: Currency/Doubleday, 1993), p. 116. 3

Ibid., p. 114.

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Managers should try to meet legitimate needs of stakeholders. Welch prioritized stockholders and emphasized responsiveness to customers. Directors, executives, and highperforming managers became wealthy. The bottom layer of managers was subject to annual rounds of firings. Hourly workers found their jobs in constant jeopardy, their wages and benefits under pressure. Although pensioners were given some increased benefits, pension fund appreciation was not shared proportionately with them.

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Corporate behavior must comply with norms in an underlying social contract. GE led the way in the restructuring of American corporations to make them competitive in global markets. Welch helped to define the social contract of the 1980s and 1990s.

4. What are the pros and cons of ranking shareholders over employees and other stakeholders? Is it wrong to see employees as costs of production? Should GE have rebalanced its priorities? Shareholders are ranked first in classical economic theory, where managers are solely responsible to the interests of owners. Only when investors get a favorable return will they risk their capital. A shareholdercentered model insures the primacy of that incentive. Marjorie Kelly argues that the shareholder centered view of corporations is wrong. When we say that “a corporation did well,” we mean its shareholders did well. The company’s local community might be devastated by plant closings, its groundwater contaminated with pollutants. Employees might be shouldering a crushing workload, doing without raises for years on end. Still we will say, “The corporation did well.” 4

In Kelly’s view, employees do the fundamental work that makes a corporation go. Yet rewarding them is considered an expense to be reduced. Stockholders who have done none of the hard labor get the rewards. In other words, says Kelly, “one group gets what another earns.”5 Should GE have rebalanced its priorities? This is a matter of opinion, but it is certain that had the company reoriented itself to emphasize gains in worker income and benefits it would never have achieved such remarkable equity appreciation. That appreciation enriched many ordinary people including GE common shareholders, GE employees at all levels, mutual fund investors, and pension fund beneficiaries.

4 Marjorie Kelly, “Is Maximizing Returns to Shareholders a Legitimate Mandate? The Divine Right of Capital: Part One,” Beyond the Bottom Line (San Francisco, CA: Berrett-Koehler, 1999), p. 5. See also Kelley’s book, The Divine Right of Capital: Dethroning the Corporate Aristocracy (San Francisco, CA: Barrett-Koehler, 2001). 5

Ibid., p. 6.

5. Was GE a more socially responsible corporation in the Welch era of the Immelt aftermath? In which era did it most benefit society? What lesson(s) can be learned from the differences? After Welch’s 2001 exit the company moved in a more progressive direction. It was more cooperative with regulators with respect to, for example, the Hudson River cleanup. It pursued a major new sustainability strategy. The “ecomagination” initiative is both a business strategy and a social responsibility strategy. When Jeffrey Immelt, the new CEO, ed the board of Catalyst, he made a symbolic move to affirm the importance of diversity. However, corporate responsibility has multiple dimensions. GE has not been as profitable under the new Immelt regime. Stockholders have received modest, unexciting returns. A reasonable argument can be made that GE was more responsible under Welch because of its greater creation of surplus wealth for society. Welch’s management methods and his strategic philosophy of downsizing and outsourcing were reviled by labor, but they inspired GE and other American companies to shed lazy ways and become more competitive in world markets. One lesson here is that social responsibility depends on your definition. Is it primarily the social dividend from economic success? Or is it primarily fulfilling ethical duties to the range of stakeholders beyond shareholders. Of course, full responsibility is both. But in this case neither Welch nor his successor did it all.

6 Implementing Corporate Social Responsibility SUMMARIZING OUTLINE While the previous chapter explained the idea of corporate social responsibility and its expansion over time, this chapter focuses on what managers do to implement social programs. Beginning on page 158, the text sets forth and discusses a model process of CSR implementation. A second part of the chapter discusses corporate philanthropy. 

The introductory story is about the Bill & Melinda Gates Foundation. 

Using his Microsoft fortune, billionaire Bill Gates and his wife Melinda set up a foundation. It is currently the world’s largest, with an endowment of $37 billion.

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The foundation is based on two “simple values.” The first is that all lives are of equal worth. The second is that persons with great wealth have great obligations.

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The foundation focuses on neglected diseases of the poor and on improving education.

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Corporations face pressures for CSR from many quarters, including all major stakeholder groups. The chapter explains how they can organize management processes to respond.

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Key elements of managing the corporate social response are these.

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Leadership sets the tone.

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Business models govern a wide range of organizational responses. Companies may be divided into three types based on their business models and the values of their founders. 

First, a few companies, such as The Body Shop and Ben & Jerry’s, are founded on a progressive business model, or one that defines a strategy that meets market needs and, in the process, mitigates social problems or improves society.

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Second, some companies have traditional business models supplemented by cultures that emphasize social responsibility. Bertelsmann and Johnson & Johnson are examples.

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Third, most large transnational corporations have traditional business models and no special culture of social responsibility. Their social performance is based on management responses to external pressures.

A model process with a sequence of steps for CSR implementation is set forth. 

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The first step is CSR review, in which the corporation assesses its current situation. There are two key activities in this step. 

First, the company should discover its core values by reviewing documents such as mission and values statements and examining the attitudes of its founders and leaders.

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Second, it should evaluate laws, regulatory requirements, its supply chain, and stakeholder demands to discover the expectations of society about its behavior. 

A stakeholder map, or a diagram showing multiple stakeholders and their relationship to each other and the firm, helps to identify sources of expectations.

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Many companies then engage stakeholders in dialogue to identify gaps between social performance and expectations.

The second step is to develop an overall CSR strategy, or a basic approach, method, or plan for achieving a social objective. 

The company can examine many alternative actions, then set a few priorities.

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It can seek to focus on either generic social issues that have little impact on the company’s business or it can try to find competitive social issues related to factors that affect its business. By focusing on the latter, it may create shared value, that is, benefits for both itself and society.

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The third step is implementation of CSR strategy. 

The company should create a formal organization structure for CSR decisionsmaking. This might include committees, managers, and departments.

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It should develop action plans setting forth tasks such as creating policies, budgeting resources, and asg work.

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Performance goals and timelines should be set.

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Incentives such as links between pay and social performance can be created. Then, to establish ability, individuals and business units can be rewarded or punished based on sustainable performance.

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Corporate culture must be aligned with social strategy, for example, by connecting career advancement with for social policies.

The fourth step is reporting and verification. 

Companies can assess and report information about their social performance.

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Social reporting creates transparency, or a state in which company social strategies, structures, and processes are visible to external observers.

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The Global Reporting Initiative (GRI) is developing uniform standards for sustainability reporting, which is documentation and disclosure of how closely corporate performance conforms to the goal of sustainable development, or the ideal of economic growth that does not compromise the social and environmental welfare of future generations.

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GRI guidelines ask companies to report a triple bottom line, that is, a calculation of corporate economic, social, and environmental performance.

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The GRI has developed performance indicators and reporting formats to allow comparison of the sustainability performance of corporations.

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The GRI guidelines suggest that companies provide assurance, or an independent verification by audit that information in sustainability reports is reliable.

A recent survey found that a majority, nearly three-fourths, of 500 multinational corporations have done sustainability reports. But progressives still question the sincerity of their commitment.

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Philanthropy is charitable giving of money, property, or work for the welfare of society. Corporate philanthropy has a long history.

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Until the 1950s, few companies gave much to charity because they feared suits accusing them of exceeding the powers in corporate charters and giving away funds that rightfully belonged to stockholders.

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Then, in 1953, the A. P. Smith decision held that corporate charters permitted charitable contributions. Companies started giving more and they set up foundations that gave to a broad range of worthy causes.

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Most philanthropy, about three-quarters of the annual total, comes from individuals. Corporate philanthropy was $14.1 billion in 2009 and has risen over the past decade.

Four basic philanthropic strategies are discussed. 

Checkbook philanthropy is giving to multiple worthy causes without any link to business strategy.

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Strategic philanthropy, which aligns a corporation’s business mission with its charitable mission, arose in the 1980s. Money is not given out of purely altruistic motives. Rather, it is given at least partially in of commercial objectives.

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Cause marketing is a form of strategic philanthropy in which charitable contributions are based on purchases of a product. Company ads connect a brand with a social cause. When consumers buy the product they feel they are also helping society.

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Philanthrocapitalism relies on market forces to achieve results. It takes a variety of forms ranging from using return-on-capital measures to allocate charitable funds to starting for-profit companies that try to solve social problems.

In conclusion, good intentions must be translated into action. It is necessary to use basic management tools in implementing social strategies and to use them with discipline.

Note

Case

MARC KASKY VERSUS NIKE Nike was complacent for many years as foreign factories in its supply chain violated international labor norms. Eventually, it was attacked by labor groups and other NGOs. The attacks threatened to damage its brand. Nike’s first efforts to implement a CSR program were defensive and insufficient. It went through a learning process and now has a state-of-the art implementation process. Students researching the case can be referred to the semi-annual social responsibility reports posted on its Web site. They explain at length the substance and process of its CSR implementation. Students can be asked to compare and contrast what Nike does with the model process of CSR implementation shown in Figure 6-3 and discussed at length in Chapter 6. A unique element of the case is a California law that allowed a social activist, Marc Kasky, to sue Nike for defending its labor practices in the media. His lawsuit led to a California Supreme Court decision that still stands and has the potential to chill corporate speech.

Answers to Case Questions 1. What responsibility does Nike have for conditions of workers at foreign factories making its products? As the source of work in contract factories that sometimes violate international labor norms Nike cannot escape some responsibility for problems. In the eyes of the global public it will be seen as responsible. This is new in civilization and a result of modern economic globalization. Before the 1980s, absent a criminal

motive, no multinational company was held responsible for the local social costs of operations in foreign contract factories. Ethical complicity was always present, but global norms were weaker and company actions far less transparent. Some labor violations can be traced directly to Nike, for example, its planners have now and then miscalculated the production capacity of factories, pressuring local managers who then abuse workers if that will meet deadlines. Nike has a duty to correct its own actions that trigger deviations. Other causes of violations, such as local economic climates that condone weak labor laws, are not Nike’s doing. It may have a duty to influence countries to improve their standards, but it lacks power to force change. It could relocate to countries with strong labor protections. However, abandoning hundreds of thousands of low-skilled workers and raising prices is irresponsible and impractical. So the situation is a classic example of ethical proportionality, where good and evil are inextricably interlinked. So Nike has some, but not full, responsibility for poor labor conditions.

2. Could Nike have better anticipated and more effectively handled the sweatshop issue? What did it do right? What was ineffective or counterproductive? Over the years, Nike has moved from the left to the right of the response spectrum in Figure 6.2. It should have done more and done it earlier. Early actions were weak and allowed the sweatshop issue to fester. The initial Nike response was very defensive. Then-CEO Philip Knight defended its standards in the press. It hired Andrew Young to make a quick tour of some Asian plants and pronounce them acceptable. It invested in a public relations campaign. These actions failed to satisfy critics. Like many corporations, it had to learn under pressure. Although Nike moved slowly, it always moved in the right direction. In the early going Nike often undermined its own efforts. All the while that it tried to fight sweatshop abuses with codes and inspections, its own business processes and culture, inadvertently to be sure, pushed abuses along. Its buyers kept up with fashion trends by pressuring for quick production. Its low-inventory policy led to last-minute production that tempted factory managers to squeeze employees. Such tendencies were reinforced by an aggressive corporate culture. So Nike’s corporate culture was not well-aligned with its social strategy. It had much to learn.

3. Has Nike created and implemented an effective approach to social responsibility? Does it address root causes of problems in Nike’s supply chain? Should it now do more or do something different? It is fair to answer yes to the first question. However, critics in the labor movement remain unconvinced. Their negativity is also fair because many problems remain in Nike’s contract factories. Still, Nike has a consistent record of trying to improve worker welfare and its efforts have grown much more sophisticated. In the early going, Nike wrote two codes of conduct. Over time it stiffened code requirements, increased staffing in its compliance department, set up a department of corporate responsibility headed by a vice president, conducted more discerning factory audits, allowed independent factory audits, and eliminated the use of chlorine compounds in shoe making. When compliance problems persisted, then-CEO Philip Knight put together a senior management team led by the vice president of corporate responsibility and asked it to figure out why compliance problems defied elimination. The team concluded that policies on labor standards were not aligned with long-standing incentives and business processes. For example, procurement teams got bonuses for meeting price, quality, and delivery criteria, so they sometimes ignored labor code guidelines to hit targets. Nike’s policy of minimal inventory sometimes led to shortages of hot-selling items and in their rush to replenish stock the teams encouraged practices such as excessive overtime that were contrary to code requirements. 1 The teams responded to rapidly shifting style trends in the market by using tight schedules. This also encouraged overtime.

1 Simon Zedak, “The Path to Corporate Responsibility,” Harvard Business Review, December 2004, p. 129.

Nike was learning that enforcement audits measured and corrected symptoms but did not fix root problems. So it began to look for the root problems. Here are several some examples of such problems from its most recent Corporate Responsibility Report.2 

Excessive overtime is a persistent code violation. One root cause is asking contract factories to produce too many styles. Changing from one style to another takes time. If there are too many changes factory managers may be tempted to violate overtime rules to meet schedules. Knowing this, Nike has reexamined its product creation process. It found many problems. Business plans called for abundant styles. Long waits for approvals and last minute changes in colors and fabrics pushed orders to factories too close to production deadlines. Another root cause of multiple styles is pressure in global markets. Fashion trends change quickly. Consumers want many styles and value variety. Competition is fierce. Nike has tried to reduce the number of styles starting in its planning process. It believes that by lessening production changes and reducing time pressure it can reduce overtime violations in factories more effectively than by simply auditing to catch violations.



Wage violations persist. Nike believes there are two root causes. First, the global economic downturn has put pressure on wages everywhere, especially the wages of low-skilled garment workers. Second, the conflicting interests of stakeholders put downward pressure on wages. While workers want higher wages, stockholders want higher profits, governments want to attract foreign investment, factory managers want to maintain profit margins, and consumers want attractive prices. So workers are the only stakeholders putting a priority on wages and they are, perhaps, the least powerful.



Organizing activity is often repressed. Collective bargaining is an effective way to protect workers. In many factories the employee-management dialogue called for in international labor norms is nonexistent. The root causes are legal and political constraints in nations where Nike contracts its production. Nike cannot change this environment. However, it has a training program for factory managers that includes discussion of international labor norms and best practices.

Over the last several years Nike has also been consolidating its supply chain, reducing the number of contract factories by 10 percent. It wants to concentrate production in factories that are relatively more committed to its labor principles. It also works through collaboratives such as the Global Alliance for Workers and Communities, the International Labour Organization’s Better Work program, and the Sustainable Apparel and Footwear Initiative to improve practice across the entire industry. It even works with competitors. It believes that another root problem is diverging audit standards among multiple brands. Some factories are audited as many as 40 to 50 times a year and must comply with many different, sometimes conflicting, rules. This reduces efficiency and leads to labor abuses. Overwhelmed managers coach employees, hide information, and lie to auditors. With some success, Nike has worked with other companies to combine audits and standardize measures.

2 Nike, Inc., Corporate Responsibility Report FY 07-09, see Chapter 3, “Workers and Factories.”

Nike has also developed an overall CSR strategy, which is to bring “people, planet and profits into balance for lasting success.”3 Its social responsibility actions, then, emphasize not only improving the lives of factory workers but reducing its environmental impact as well. Overall, the company conducts a relatively young, but very refined, advanced CSR implementation effort. However, this effort is insufficient to overcome many root causes of labor violations in its factories. Too much lies outside its power. Some activists argue that voluntary CSR efforts such as Nike’s avoid real reform. If real reform requires more power than corporations have, then this observation is correct.

4. Did the California Supreme Court correctly decide the Kasky case? Why or why not? This is a matter of opinion. A central issue is the novel test devised by the four-member majority to define commercial speech. Under it, speech is commercial if it (1) comes from a business, (2) is intended for an audience of consumers, and (3) makes representations about the company’s products. This test of commercial speech sweeps in virtually any statement about a company’s actions made by a manager that consumers can hear. Three dissenting justices who opposed the test felt it was overly broad. It would remove First Amendment protection for comments by managers in public debate. California courts would become arbiters of truth and falsehood for broad statements previously judged by society in the open marketplace of ideas. The line between advertising and public debate would vanish. The test would chill public debate and mute the voice of organizations (corporations) that have a constitutional right to speak out.

5. How should the line between commercial and noncommercial speech be drawn? The Supreme Court has held that speech proposing a commercial transaction is entitled to First Amendment protection against government restriction, provided it is truthful. There has never been any protection for false advertising. The Court has held that there is a strong public interest in promoting truth in the marketplace. This basic doctrine of commercial speech has usually been applied to traditional advertising formats that present a product and propose a commercial transaction between buyer and seller. In the Kasky case, the speech at issue was at least partly, and perhaps primarily, speech about a public issue. It did not propose a commercial transaction. It was presented in public forums, not in a traditional advertising format. It concerned a matter of high public interest. As Justice Anthony Kennedy wrote in dissenting from the Supreme Court’s decision to dismiss Kasky, in the past the Court has repeatedly held that “speech on matters of public concern needs ‘breathing space’” to survive, even if that means allowing some “false or misleading speech.”4 The issue could be resolved in several ways.

3 Ibid., p. 22. 4 Nike v. Kasky, 539 U.S. 654 (2003).

First, the California Supreme Court’s definition could be upheld by the Supreme Court. This would greatly expand the type of speech defined as commercial speech and subject it to more regulation based on its truth or falsehood. Second, the California Supreme Court’s definition could be struck down. This would mean that Nike’s statements about the sweatshop issue would be regarded as noncommercial speech and given broad First Amendment protection unless they appeared in a traditional advertising format and accompanied a proposal to buy Nike shoes. Third, courts could try to separate statements intended to influence purchasing decisions from statements intended as part of the debate on issues of public importance. They would not have to assume that all the Nike speech in question was either commercial or noncommercial. Instead, they could classify some speech in either category. Such a classification scheme would require a narrowing of the California Supreme Court’s three-pronged commercial speech test. The litigation concerning the California Supreme Court’s commercial speech test ended in 2003 when the U. S. Supreme Court declined to rule on it. Thus, the test still stands and has a broad reach. In theory it could be applied to any corporation that sells products in California. This gives it significant potential to chill corporate speech in the future.

7 Business Ethics SUMMARIZING OUTLINE The first part of the chapter is a theoretical discussion of business ethics. It focuses on explaining the idea of ethics, sets forth theories about how ethics apply to business, explains the origins of ethical values, and explains how and why business ethics differ around the world. There is extended discussion of how the law sanctions corporate and management misbehavior. The remainder of the chapter focuses on practical aspects of ethics in organizations. Organizational elements that influence levels of ethics are discussed. And steps that corporations take when they set up ethics programs are set forth with examples of practice. 

The introductory story is about the trial and sentencing of Bernard J. Ebbers, the former CEO of WorldCom. 

Ebbers received the longest sentence of any defendant in the turn-of-the-century corporate fraud scandals.



In 2005, at the age of 65, he drove himself to a federal prison in Louisiana to begin serving a 25-year federal sentence.



Ebbers was accused of manipulating financial information to disguise problems at WorldCom from investors. He was convicted on nine counts of criminal conspiracy, securities fraud, and filing false documents with the SEC.



His sentence was longer than that of some major Mafia figures who led lifetimes of crime, including a self-confessed hit-man guilty of 19 murders. It is longer than the average

sentence of first-degree murderers in California. The story raises the question of whether Ebbers’ 25 year sentence is appropriate for a white collar crime.  



Ethics is the study of what is good and evil, right and wrong, and just and unjust. Business ethics is the study of good and evil in business.

Two basic views exist about whether ethics in business are more permissive than general societal and personal ethics. 

The theory of amorality is that business may be conducted without reference to the full range of ethical standards, restraints, and ideals in society.



The theory of moral unity requires that business actions be judged by the general ethical standards of society, not by a special set of more permissive standards.

There are four main sources of ethical values in business. 

In all great religions a divine will reveals the nature of right and wrong.



Over 2,000 years philosophy has produced a stream of principles for judging right and wrong.



Cultural experience shapes ethical values transmitted across generations. Two perspectives apply to cross-cultural differences in ethical values.





First, ethical universalism holds that human nature is the same everywhere; therefore, ethical rules are transcultural.



Second, ethical relativism holds that although human nature is the same, varying cultural experience creates and justifies diverging ethical values.



Donaldson and Dunfee believe that a deep social contract underlies all human societies and it generates hypernorms, or a limited set of principles at the root of all human ethics. However, these hypernorms are broad enough to permit a variety of ethical practices in moral free space, where inconsistent norms are permitted if they do not violate any hypernorms.

The law codifies, or formalizes, ethical expectations. Legal expectations are enforced through damages, criminal prosecution of managers and corporations, sentencing, and fines. 

Compensatory damages are payments awarded to redress actual, concrete losses suffered by injured parties.



Punitive damages are payments in excess of a wronged party’s actual losses to deter similar actions and punish a corporation exhibiting reprehensible conduct.



Crimes are offenses against the public prosecuted by governments. Both individual managers and corporations are prosecuted for crimes. 

Under the doctrine of respondeat superior corporations are liable for the actions of employees who commit a crime in the course of their employment when their act is for the benefit of the company.



Corporations are reluctant to go to trial because a criminal trial and possible guilty verdict can impose enormous reputational damage. 



To avoid criminal prosecution companies enter into deferred and nonprosecution agreements. In these agreements they agree to cooperate with the government and take remedial actions, including hiring monitors to oversee compliance programs.



Executives are more often prosecuted than corporations, though harder to convict because they have more legal rights and are less inclined to cooperate with prosecutors.



Recently the nation has gone through a cycle of corporate crime prosecutions. Two task forces were created to prosecute executive fraud. The Enron Task Force had 20 convictions. The Corporate Fraud Task Force has brought in more than 1,300 convictions.



Sentences and fines for managers and corporations are usually based on guidelines set forth by the U.S. Sentencing Commission.

Four prominent forces shape ethical conduct in corporations.



Leaders set the ethical tone. Managers should not show by their actions that a difference exists between ethical policies and everyday practice.



Managers must create ethical strategies and realistic performance goals. Otherwise, employees may feel pressured to engage in unethical behavior.



Each company’s culture has an ethical dimension. A corporate culture is a set of values, norms, rituals, formal rules, and physical artifacts. 

When behavior of employees does not live up to espoused rules and codes, it can be a reflection of silent assumptions deep in the culture that conflict with formal policies.



Stories of events at Fannie Mae and Consolidated Edison illustrate the power of these tacit underlying assumptions to frustrate ethical policies. It is very difficult to change such long-standing cultural values.





Behavior is also motivated by individual characteristics. 

Research suggests that ethical behavior is associated with demographic traits such as education, religious belief, age, and work experience.



Personality traits are less studied, but Machiavellianism, or the tendency of an individual to use self-centered, immoral, manipulative behavior in a group, is correlated with unethical behavior.



Evidence suggests that individuals are heavily influenced to be more or less ethical by situations. The psychological processes involved are illustrated by the story of a couple who defrauded a corporation.

Many corporations have an ethics and compliance program, or a system of structures, policies, procedures, and controls used to promote ethical behavior and ensure compliance with laws and regulations. 

Several developments have encouraged ethics and compliance programs.





Billing scandals of the 1980s in the defense industry led defense companies to pioneer such programs. Health care corporations adopted them after Medicare billing frauds in the 1990s.



In 1996 the Caremark decision suggested that corporate directors might be responsible to stockholders for monetary damages if they failed to set up procedures guarding against misbehavior that resulted in fines and penalties.



In 1991 the U. S. Sentencing Commission issued sentencing guidelines for organizations that reduce penalties if programs for preventing criminal behavior exist.



The Sarbanes-Oxley Act of 2002 and related stock exchange listing standards introduced new ethics standards for corporations.

Because of these developments, most corporations now have at least some program elements in place. There are two distinct approaches.



A compliance approach teaches employees to meet legal and regulatory requirements and emphasizes following rules.



An ethics approach teaches values such as integrity, truth, and fairness, preparing workers to separate right from wrong in moral spheres of work life.



Most companies focus on compliance, but many combine the two approaches.



The federal sentencing guidelines suggest seven steps for an adequate compliance program. 

Establish standards and procedures to prevent and detect criminal conduct. Many companies have responded by adopting conduct codes.



Give oversight of the program to the board of directors and assign responsibility to a company executive who, in turn, will assign day-to-day responsibility to a high-level manager.



Exclude individuals with a history of illegal or unethical conduct from positions of substantial authority.





Communicate standards to all employees. Training is a key method for meeting this requirement.



Monitor and audit the organization. Set up an anonymous hotline for reporting criminal and ethics violations.



Enforce standards. Use incentives for ethical behavior. Discipline violators.



Assess areas of risk for criminal behavior. Modify programs accordingly. Take steps to prevent repeat violations.

Most large companies now satisfy these requirements. The main incentive is fear of criminal prosecution.

Note

Case

THE TRIAL OF MARTHA STEWART

This case study is a narrative that tells the story of the Martha Stewart trial. It describes the stock trade and investigation that led to criminal charges against her, her trial, and her sentencing. It raises questions about whether she was fairly indicted, fairly tried, fairly convicted, and fairly sentenced.

Answers to Case Questions 1. Did Martha Stewart commit the crime of insider trading when she sold her ImClone shares on December 27, 2001? Investigations of Martha Stewart by the Department of Justice and the Securities and Exchange Commission (SEC) originated in the suspicion that she had engaged in illegal insider trading. However, she was never charged with this crime. Yet the suspicion of insider trading hung over the trial.

Eight counts against Stewart charged her with conspiracy, obstruction of justice, and making false statements to investigators. (The ninth count, that she engaged in securities fraud by lying to the public for the purpose of propping up the shares of her company, was dismissed.) To establish a motive for her actions, the government tried to show that she had sold her ImClone shares based on inside information from its CEO, Sam Waksal, and her broker, Peter Bacanovic. Insider trading occurs when corporate directors, officers, and employees buy and sell stock in their company. These trades must be reported to the SEC. They are legal unless the insiders possess material, nonpublic information about developments. Trades based on such information are illegal under Section 16 of the Securities Exchange Act of 1934 and elaborating rules the agency has issued. 1 Insiders are also prohibited from tipping off others outside the firm, who then trade on the information. The SEC summarizes the law this way. Illegal insider trading refers generally to buying or selling a security, in breach of a fiduciary duty or other relationship of trust and confidence, while in possession of material, nonpublic information about the security. Insider trading violations may also include “tipping” such information, securities trading by the person “tipped,” and securities trading by those who misappropriated such information. 2

Did Martha Stewart break the law? She did not if she sold her ImClone shares based on a preexisting agreement with Bacanovic to sell at $60 a share. The existence of any prior contract, written plan, or instruction to an agent is an affirmative defense against the charge of trading on material nonpublic information. It is set forth in paragraph (c)(1)(i)(A) of the SEC’s Rule 10b5-1. However, if that agreement did not exist before the trade the issue is whether she received an illegal tip. If Sam Waksal had called her and told her about the Food and Drug istration’s impending rejection of its cancer drug that would have been illegal tipping. This did not occur. She seems only to have known that Waksal and his daughter sold the shares in their Merrill Lynch s. Was this material information? The significance of this information to Martha Stewart is unclear. Did she know that the Waksals held a large number of shares through Merrill Lynch? Did she know what percentage of the shares the Waksals owned were at Merrill Lynch? Did she assume any motive for their selling? They could have been selling to raise cash, to diversify their holdings, or because they were trading illegally to avoid an imminent decline. When she placed a call to Waksal after her conversation with the broker, she may have been trying to satisfy her curiosity about their reasons for selling. The Waksal trades were a brazen violation of securities law for which Sam Waksal went to prison. If Stewart had no other knowledge aside from the fact that they were selling, would she have concluded that they were exercising such terrible judgment?

1 See Rule 10b5-1, “Trading ‘on the Basis of’ Material Nonpublic Information in Insider Trading Cases,” and Rule 10b5-2, “Duties of Trust or Confidence in Misappropriation Insider Trading Cases,” at www.sec.gov. 2 Securities and Exchange Commission, “Insider Trading,” modified April 19, 2001, at www.sec.gov/answers/insider.htm.

Stewart traded either based on a prior sell agreement or based on information that the Waksals were selling. In the former situation she is innocent of wrongdoing. In the second situation she traded on nonpublic information that the Waksals were selling, but absent any with the Waksals its meaning was ambiguous. Would a jury have found this information “material,” that is, important enough to convict Stewart of a crime? We can only speculate. However, it is not obvious that the information is particularly damning.

2. Did the U.S. Attorneys and the Securities and Exchange Commission use good judgment in indicting Martha Stewart? Do you believe that her indictment was based on evidence of a serious crime, or do you believe that prosecutors consciously or unconsciously had additional motives for pursuing the case? One element of their judgment was a decision not to charge her with insider trading. This may be an indication that they did not consider her guilty or that they believed that convincing a jury would be difficult based on the evidence. She was charged with eight criminal counts for conspiring with Bacanovic, obstructing the government in its investigation, and perjuring herself in interviews with agents. The evidence here was sufficient to convince a grand jury that indictment was warranted. At trial, it convinced a jury to convict on some

counts. Lying to federal agents is a serious crime. If she was innocent of illegal trading, she exercised bad judgment in conspiring with Bacanovic and dissembling to investigators. The decision to charge her with securities fraud because she spoke in public declaring her innocence seems in retrospect to have been an error. Martha Stewart is a public figure. Convincing a jury that she had no right to defend her reputation would have been difficult. Government suppression of speech is questionable under the expansive constitutional doctrine of free speech. This ninth count was dismissed before it went to the jury. Whether prosecutors had motives beyond enforcing the law is unknown. The two devious motives most discussed in the press are that Stewart was prosecuted because she was a successful woman and that she was prosecuted because in a period of many corporate scandals the government needed to show its ability to punish business leaders. Both are speculation.

3. Do you agree with the jury that she was guilty beyond a reasonable doubt of the conspiracy and obstruction of justice charges? This is a matter of opinion. The question should create a discussion.

4. Was her punishment, including both imprisonment and fines, appropriate? Were the punishments of Peter Bacanovic and Douglas Faneuil appropriate? Judge Miriam Cedarbaum sentenced Martha Stewart to five months in prison, five months of home confinement, and a fine of $30,000. Judge Cedarbaum based the sentence on federal sentencing guidelines, which set a base offense level of 12 for the crimes of obstruction of justice and perjury. 3 Using a table in the Guidelines Manual, the judge determined the appropriate sentencing range for this offense level was 10 to 16 months.4 She chose the minimum sentence. For that offense level, the guidelines required her to “impose at least one-half the minimum confinement sentence in the form of prison confinement, the remainder to be served on supervised release with a condition of community confinement or home detention.”5 This is how Stewart wound up in prison for five months and in home detention for five months. Peter Bacanovic was sentenced to five months in prison, five months of home confinement, and a fine of $4,000. His sentence was calculated in the same way. Because Douglas Faneuil cooperated with prosecutors, they did not seek a prison sentence. He was fined $2,000. Before her sentencing, Martha Stewart argued that the sentencing guidelines were unconstitutional and did not apply to her. In Blakely v. Washington the Supreme Court invalidated sentencing guidelines used in that state’s courts because they gave judges too much discretion.6 It held that key factors in sentencing should be decided by juries, not be left to the discretion of judges. Stewart believed that Blakely called Judge Cedarbaum’s use of the federal guidelines into question. Judge Cedarbaum rejected this argument.

3 United States Sentencing Commission, Guidelines Manual, §2J1.2 and §2J1.3 (Nov. 2002). 4 Ibid., “Sentencing Table,” §5A. 5 Ibid., §1A4(e). 6 124 S. Ct. 2531 (2004).

While Stewart was serving incarcerated, the Supreme Court decided another case, United States v. Booker, holding that the federal sentencing guidelines are no longer mandatory.7 Federal judges such as Cedarbaum could consider them advisory. It did not find the guidelines unconstitutional. Stewart again appealed, seeking to have her period of home confinement reduced. But Judge Cedarbaum again declined to change her sentence.8 During her home confinement, in 2005, Stewart petitioned Judge Cedarbaum to be allowed to remove her ankle bracelet and to be away from her home for 80 hours a week instead of the 48 hours a week allowed. Her petition was denied.

7 125 S. Ct. 738 (2005). 8 U.S. v. Stewart and Bacanovic, 03 Cr. 717 (MGC) (S.D.N.Y., 2005).

In 2004 Stewart and Bacanovic filed an appeal seeking a new trial. 9 They presented multiple grounds for findings of error at their trial. 

Prosecutors should have permitted her to respond to allegations that she had engaged in insider trading.



The government improperly introduced statements made during investigation interviews by both Stewart and Bacanovic. It then used statements by one defendant to convict the other. This was improper because neither defendant had a chance to cross-examine the other. 10 Since statements of each were used to prove facts that led to conviction of the other, this violated their Sixth Amendment right to cross-examine accs.



She should have been granted a new trial after it was discovered that the government ink expert had given false testimony.



Judge Cedarbaum erred in not holding a hearing to explore the significance of juror misconduct when a juror lied about his past.



The federal sentencing guidelines were improperly applied.

In early 2006 a federal appeals court rejected these arguments (although it allowed Bacanovic again to appeal his sentence to Judge Cedarbaum).11 In sum, although Stewart and Bacanovic repeatedly appealed their conviction and sentencing presenting multiple grounds, they never got a favorable ruling. If fairness is procedurally correct treatment under the law, they seem to have received fair treatment and punishment. As noted in the case study, Stewart and Bacanovic both settled civil proceedings with the Securities and Exchange Commission in 2006. Stewart agreed to a fine of $195,081 and Bacanovic to a fine of $75,645. Stewart was barred from serving as an officer or director of any company for five years, until 2011. As of June 2011 she had not chosen to be an officer or director of her company. Her title remains that of Founder/Chief Editorial, Media and Content Officer. Her 2010 compensation was $5.9 million, more than twice the $2.7 million of the company’s CEO. 12 Bacanovic was permanently barred from working as a securities broker. The two are no longer friends. Recently they ran into each other at the Monkey Bar, a Midtown Manhattan restaurant. According to the New York Post they “were polite, did not make eye and did not speak.”13

9 Brief for Defendant-Appellant Martha Stewart in United States v. Stewart and Bacanovic, 04-cr-3953(L), filed October 20, 2004. 010 This claim raises a procedural technicality grounded in the Sixth Amendment’s confrontation clause. 11 U. S. v. Stewart and Bacanovic, 433 F.3d 273 (2006). 212 Martha Stewart Living Omnimedia, Inc., Notice of 2011 Annual Meeting of Stockholders and Proxy Statement, April 5, 2011, p. 27. 313 “Martha’s Night Out,” New York Post, February 22, 2010, p. 10.

Samuel Waksal served five years in federal prison and was released in 2009. He is barred by the SEC from being an officer or director of a publicly traded company but is now chairman and CEO of Kon Pharmaceuticals, a privately-held biopharmaceutical company he started. The company has raised more than $200 million from investors who are not put off by Waksal’s past misdeeds. 14 Despite fines and imprisonment he retains his multimillion dollar art collection. Students can debate the fairness of punishments handed out in this case using ethical rather than legal guidelines. Instructors can guide such a debate by introducing the simple maxims in the sphere of retributive justice set forth in Chapter 8. These are that (1) blame should be fairly imposed and (2) punishment should be proportionate to the crime.

414 Andrew Pollack, “ImClone Ex-Chief Embarks on a New Biotech Venture,” The New York Times, November 1, 2010, p. B1.

8 Making Ethical Decisions in Business SUMMARIZING OUTLINE Chapter 8 explains a range of ethical principles, setting them forth in alphabetical order, discussing how they can be applied in business, and weighing their usefulness. Short incidents at the end of the chapter give students an opportunity to apply them. In addition, the chapter explains new research about the brain that reveals much about how we make ethical decisions. It gives readers practical suggestions for making them. It concludes with some thoughts about why ethical decisions are or seem difficult. 

The introductory story is about the coming of age and early career of entertainment mogul David Geffen. It tells how he used compromised ethics at critical junctures, yet was ultimately and spectacularly successful. It illustrates a basic distinction in ethical philosophy. Geffen’s career defies any final, absolute ethical judgment. 

Deontological ethics is the idea that actions are right and wrong in themselves independently of consequences. When Geffen lied, for example, to get and keep an early job, his actions did not conform to this standard.



Consequentialism is the idea that actions are right or wrong, in part or whole, based on their consequences. When Geffen’s overall contributions to society are weighed using this standard, his earlier compromises diminish in importance.

 

Students may be asked whether Geffen’s career allows any final, absolute ethical judgment.

Fourteen principles of ethical conduct are set forth. 

Immanuel Kant’s categorical imperative is to act so that your action could become a universal law. It embodies the quick test of universalizability.



The conventionalist ethic is that in business it is all right to take an action if it does not violate the law.

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The disclosure rule requires thought about how it would feel to explain an ethical decision to a wide audience, such as television viewers or newspaper readers.



Aristotle’s doctrine of the mean calls for virtue through moderation. Avoid behavior that is excessive or deficient.



The ends-means ethic is that worthwhile ends justify the use of means that would otherwise be considered compromising. It is associated with Machiavelli.



The Golden Rule is “Do unto others as you would have them do unto you.” A related principle is Kant’s practical imperative requiring that others be treated as ends in themselves not as means to selfish goals. Both embody the idea of a test of reversibility in which a person places himself or herself in the shoes of the person affected by a decision.



The intuition ethic is that we intuitively know right and wrong, therefore, we can allow ourselves to be guided by emotional reactions as well as logic.



The timeless might-equals-right ethic rationalizes that what is right is what a person has the strength and power to accomplish.



The organization ethic is “be loyal to the organization.”



Herbert Spencer’s principle of equal freedom is that each person may exercise liberties until the point where they infringe on the liberties of others.



The proportionality ethic is inherited from medieval Catholic theology and applies to situations in which a decision leads to both good and evil effects. Two formulations are set forth.







The type of good and evil involved.

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The urgency of the situation.

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The probability of both good and evil effects.

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The intensity of influence over effects.

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The existence of alternatives.

The principle of double effect is a simpler formulation of proportionality. Actions are ethical if three conditions exist. 

The good effects outweigh the evil.



The manager’s intention is to achieve the good effects.



There is no better alternative.



The rights ethic protects important liberties that people have. Because of their human nature, people have natural rights. In societies they have also received legal rights. An important aspect of rights is that they imply duties.



The theory of justice defines what individuals must do for the common good of society.

 

Thomas M. Garrett’s principle of proportionality requires managers to weigh five factors in their decisions.



John Rawls has developed a set of principles of justice that would be chosen by rational persons acting behind a hypothetical veil of ignorance.



Distributive justice requires that benefits and burdens be distributed using impartial criteria.



Retributive justice requires punishment to be evenhanded and proportionate to transgressions.



Compensatory justice requires fair compensation to victims.

The utilitarian ethic advocates “the greatest good for the greatest number.”

A separate virtue ethic denotes a source of ethical behavior separate from principled reasoning. Aristotle wrote that moral virtue is a result of habit. He suggested building an ethical character by habitually making right choices. Plato set forth four cardinal virtues as the most basic traits of an ethical character. These are justice, temperance, courage, and wisdom.





Ethical decisions have a neural basis. A fast, unconscious, and automatic process in neural circuits causes ethical judgments to appear in our awareness. Both emotional circuits and rational circuits are activated by ethical decisions, but emotional circuits tend to dominate. 

Researchers use functional magnetic resonance imaging, or fMRI to map neural processes in the brain.



When fMRI is used on subjects considering ethical dilemmas, it shows how they engage different brain regions depending on the nature of the dilemma. Impersonal dilemmas engage conscious reasoning, while more personal dilemmas engage social emotions. In these latter dilemmas, individuals with brain damage to regions of social emotion made more calculating, some would say less ethical, decisions.



It is theorized that emotions have evolved to play a central role in ethical thought because of their adaptive value in promoting social cooperation in human society.



Neuroscience suggests the existence of a moral intuition based on rapid activation of neural circuits that process social emotions. This process creates quick mental awareness of an ethical choice without any logical reasoning process.



Evidence suggests that the sensitivity of neural pathways is altered by social experience and learning. This indicates that character development is important to ethical decisions.

Practical suggestions for making ethical decisions are set forth. 

Learn to pay attention to your ethical intuition.



Consider using simple decision methods such as devils’ advocacy, a balance sheet, or the critical questions approach of answering a prepared list of questions.



Sort out ethical priorities before dilemmas arise. Publicly commit on ethical issues, making it harder to compromise your position later.



Set an example for others.



Have the courage to translate your principles into action.



Cultivate sympathy and charity toward others.

Note 155.

Case

SHORT INCIDENTS FOR ETHICAL REASONING The ten incidents raise many ethical issues. They can be used for class discussions or assigned for written evaluation. Either way, students can practice principled ethical reasoning. In evaluating the incidents, the fourteen ethical principles set forth in Chapter 8 are useful. Ideas from Chapter 7 on “Ethics in the Business System” are also applicable. Comments on each incident follow.

A Clouded Promotion The president of the ing firm must decide whether to promote, retain, or dismiss the vice chairman who falsely claimed an M.B.A. from the University of Michigan. Four considerations predominate. First, what is the president’s attitude toward lying on an employment application? Claiming an unearned degree was a premeditated, aggressive, manipulative lie. It deprived the firm of making a fully informed decision among qualified applicants. It likely deprived another individual of the job the vice chairman now holds. Most people condemn lies on resumes. Yet some employers are charitable when the person subsequently does the job well. Different responses come from variations in ethical values about truth telling. Second, the past performance of the vice chairman has been excellent. How should this be weighed? A maxim of retributive justice is that punishment should be proportionate to the crime. Only then is it deserved. For years the vice chairman has done an outstanding job, and this performance may be a mitigating factor. Third, what is company policy about false statements on resumes? If lower-level employees or applicants have been fired and rejected for falsehoods, then retaining the vice chairman suggests a double standard. Keeping this person would cause widespread cynicism. Finally, this is an ing firm. ants follow a code of professional ethics. It is crucial that clients perceive the firm as having integrity. If it becomes known that the company excuses questionable behavior in senior managers, clients might worry about the conduct of audits or other sensitive matters. This is an

overriding consideration. The story is based on an incident at the Los Angeles office of an international ing firm, where the vice chairman was fired after discovery of a falsified application form. False degree claims periodically surface in the press. Examples that led to firings are mentioned in Chapter 7 on page 225. Sometimes the executive survives. In 2002 the story got out that Ronald Zarella, CEO of Bausch & Lomb, falsely claimed an MBA from New York University. He offered to resign, but the company’s directors retained him though they took away a $1.1 million bonus.15

515

Philip Walzer, “Reasons Not To Pad Your Resume,” The Virginian-Pilot, May 4, 2007, p. D1.

The iral and the Thieves In his primer on the use of power, The Prince, Níccolò Machiavelli wrote: “A prince should care nothing for the accusation of cruelty so long as he keeps his subjects united and loyal,” and argued that by “making a very few examples he can be more truly merciful than those who through too much tender-heartedness allow disorders to arise.”16 When the iral fired the three workers for a theft of materials worth $25, he acted in accord with Machiavelli’s philosophy. The ethical principle that important ends sometimes justify harsh means could be applied. The iral’s aim was to achieve an important community good. The means he chose broadcast the determination with which he intended to pursue the no-theft policy. However, they involve manipulation of the three workers. This action might conflict with the idea in Kant’s practical imperative, which requires that individuals be treated as ends in themselves, not as means to other ends. Disciplinary actions raise ethical questions. The maxim of retributive justice, that punishment should be proportionate to the crime, is applicable. Students may feel that losing thirty years of work toward a pension is too great a penalty for aiding in a minor theft. They could be asked what alternatives existed and if they would have worked as well to deter future theft. Some alternatives are these. 

Point penalties under a point system.



Verbal or written reprimand.



Leave without pay for one or more days. A variant is an unpaid, one-day decision-making leave, after which the employees would return and say whether they intended to be honest as a condition of continued employment.



Reduction in rank for the petty officers.



A combination of these measures.

The iral displayed an authoritarian management style and believed that the workers under his command could be motivated by fear. As Machiavelli noted, “it is much safer to be feared than to be loved, if one must choose.”17

Sam, Sally, and Hector The three layoff victims have different personalities. Sam and Hector are less aggressive than Sally and do not get the extra benefits she negotiates. Although all three workers are in the same situation, one is treated more generously.

616

T. G. Bergin, ed., New York: Appleton-Century-Crofts, 1947, pp. 47-48. Written in 1513.

717

Ibid., p. 48.

The maxim of distributive justice requires that rules apply equally to workers in identical situations and that benefits or burdens be distributed equally unless a job-relevant difference justifies differential treatment. Sally received preferential treatment owing to force of personality, ability to express threatening behavior, negotiating skill, or obstinate demands. Are these relevant criteria for distributing benefits? If there was a specific company policy about layoff compensation and an exception was made, then the maxim of distributive justice is violated unless something in the situation exists to justify the exception. Here it can be argued that Sally has traits that are valuable in business situations. She created a negotiation, asserted her interests, and deserved the extra reward she got because she acted whereas others ively accepted the situation.

A Personality Test The questions on the psychological profile test are designed to reveal personality traits in job applicants, including abnormalities. For example, the questions about difficulty sleeping, worrying about sexual matters, and work stress are designed to detect anxiety. The questions about disted hands and strange odors are aimed at schizophrenics. The question about enjoying dancing in junior high school suggests masculine or feminine attitudes. And the question about friends not liking you could reveal paranoid feelings. Naturally, these questions reveal personality only when combined with many others in a validated test. Psychological tests such as this may create conflicts of rights, or entitlements that people have. Employers have the right to protect their assets and to raise efficiency by hiring the best applicants. Applicants, on the other hand, have the right to privacy of thoughts and emotions. Ordinarily, there is a great power imbalance in the test-taking situation. Applicants refusing tests are likely to go no further. Lying and deception are a common reaction to unfair, overbearing power. A job applicant lies on a test that he or she feels is intrusive but must be taken to get the job. Is this justified? The ends-means ethic and the conventionalist ethic can be used to rationalize faking answers to give the appearance of a “normal” personality or show traits that the employer seeks. The important thing, it can be reasoned, is to get the job, and to do so, expedient means are justified. The goal of getting the job justifies some dissembling. Lying, or the intentional misstatement of fact, is not ethical. It violates principles such as the categorical imperative. Still, many people believe that puffery is acceptable in the application process. They may be cheating themselves if subsequently they do not fit into the job. A question that could be discussed, however, is this. Would deceit be justified under limited circumstances, such as if a person were unemployed and his or her family struggling?

Al Al the sales representative exemplifies the phenomenon of the highly successful corner-cutter. Such people exist in every organization. Several problems surface in the performance review.

First, by giving friendship and small gifts to loading dock workers in exchange for preferential treatment, he undermines both company policy and the formal authority of the loading dock supervisor. Other sales reps will see this as favoritism. The supervisor will be angry. Many are watching to see how Al is handled. If he continues to get away with this, employees will become cynical about “how things really work around here” and will believe that other policies are made to be broken. Second, by giving unauthorized discounts, Al has again violated policy and this time undermined the authority of sales management. If discounts are necessary, he should request in advance an exception or a policy change. By not doing so, he has opened himself and other sales reps to pressure from customers for future concessions. Third, Al has asked one customer to participate in a lie that works to his personal benefit. Delay of payment for one week is not a great departure from normal procedure, but people at the other company may feel uncomfortable being recruited into Al’s self-dealing and wonder when Al’s propensity will turn to their disadvantage. Al’s story raises the question of whether the ends justify the means. Al is productive. Do the benefits to the company justify his tactics? This age-old philosophical issue is worth discussing. But for a practicing manager the answer should be no. Al’s actions are a challenge to the seriousness of any ethics statement set forth by management. Not even the utilitarian ethic rationalizes well what Al is doing. Benefits from Al’s high sales may be great, but is the alternative of letting him work unchecked worth the cost in organization morale? A key consideration is that his questionable actions are probably not necessary. He could excel without them. Over time the destructive achiever diminishes organizational performance. Unless Al is disciplined, his actions will spread cynicism, encouraging others to cut corners and demotivating coworkers who follow the rules but do not get Al’s star status. The CEO was wrong, therefore, not to take action on Al’s performance review.

A Trip to Sea World The buyer from the retail chain asks for a favor that is financially insignificant compared with the possible sale. According to utilitarian reasoning, there are compelling benefits to paying for the requested $500 trip to San Diego. The company will make a $3.6 million gross profit. The buyer’s commission will be $50,000. Major stakeholders of the company will benefit. What costs must be weighed against these benefits? The most important one is the precedent of permitting such a manipulation. What will the buyer want next year? Will word get around that the manufacturer can be rolled? Paying for the trip introduces a tolerance for extortion into the business environment. The specific ethical problem is that the buyer is using his power as a representative of his company to intimidate the manufacturer’s sales representative and get a personal benefit for himself and for his wife. This is abuse of authority. How should the sales representative handle this? He stands to make $50,000 from the sale and could pay for the San Diego trip using his personal bank . The ethical drawback to this, however, is that the rep is then open to future extortionate demands in matters in which the manufacturer, his employer, has a critical interest. Therefore, a “private” bribe is wrong because it confuses authority of the company with personal gain in a way that is analogous to the way the buyer is confusing his authority with self-gain. He should inform the sales manager at the manufacturing company and seek advice.

The sales manager must decide what to do. To approve the trip validates an ethical compromise. Refusing it might kill the order, but it might not. A third option is to inform managers at the retail chain about the buyer’s behavior. This story is inspired by a similar situation occurring in a large corporation. In the real-life version the sales manager elected to inform the buyer’s superior. The buyer was fired and the purchase went through.

Mary and Tom Was Tom fair to Mary? Justice requires acting equitably toward others. In this situation that means shouldering an equal share of the burden with Mary in their t project. Tom skimped on his share, allowing ambition and self-interest to divert his efforts. Tom’s promotion over Mary was inevitable. Both worked on the critical radar project, but Tom’s resume had an additional line for the privacy task force, a project not as important to the company but one with high visibility. Tom showed political awareness when he ed the task force, something that is a legitimate consideration in promoting a manager. Mary showed only competence as a technician; she did not showcase ambition and political ability as did Tom. This kind of promotion, which appears to reward the less competent, arouses cynicism in workers who want to see the company (and the world) as a fair place. It shows “how things really work around here” and teaches by example. Was the promotion fair to Mary? No, if merit alone is considered. Was the company wrong to promote Tom? Not necessarily, if both merit and political skills are important. Although the incident invites a focus on distributive justice, other ethical principles are useful. Tom’s actions fail the categorical imperative’s lofty standard, since slacking off cannot be made a universal rule. They fail the quick test of reversibility; if Tom put himself in Mary’s position, the injustice to her would jump out. They violate the organizational ethic in which people subordinate their interests to the overall good. On the other hand, Tom’s actions are rationalized by ethical principles from the realist school. These are based on worldliness, not ideals. When Tom cut corners on the radar project to get time for the privacy meetings he followed the conventionalist ethic, which encourages self-promotion if it does not break a law or rule. Following the ends-means ethic, he made himself a more attractive promotion candidate at Mary’s expense.

The Honda Auction Dennis Josleyn, zone sales manager for the West Coast, is asking Dave Conant, co-owner of a Honda dealership, for a kickback. Josleyn has arranged for Conant to get 64 cars for $128,000 less than their market value. He wants half that, or $64,000, returned to him, with the money laundered through a business he owns. This violates the categorical imperative. It would never withstand disclosure. It is a means only to a selfish end. It contradicts the Golden Rule. The intuition of any ethical person would reject it. It violates the organization ethic because it steals from Honda. It cannot be justified by any weighing of proportionality. It is against the law and bends corporate policy unfairly, contravening maxims of justice. It could be justified by utilitarianism using only the most expedient calculus. Josleyn lacks cardinal virtues.

If Conant acts on principle, refusing the deal, he rejects a $64,000 windfall. Worse, he declares that he is not a player. New Honda’s will flow to dealers willing to pay these kickbacks. Conant’s dealership, his livelihood, will wither. Since the corporation will not act against rogue managers such as Josleyn, reporting the circumstances over his head is an ineffective option. Is there any ethical rationale for making the payoff? Aristotle’s theory of responsibility is that an actor is responsible for his or her choices unless excused by ignorance or incapacity. Conant is not ignorant of unsavory consequences from this payment. However, an argument that he is incapacitated exists. He is forced to make the payment, so the reasoning goes, because if he does not he will lose his business. He is in the same position as a corporation in a foreign land that cannot stay in business unless it descends into bribery. Yet this argument is flawed. The kickback is wrong and the choice not to make it exists. The cost of standing on principle may be loss of the dealership, a very high cost. But saying that the dealer is forced to make the bribe is incorrect. He can refuse. A second rationalization for making the payment is in the theory of amorality, discussed in Chapter 7, which is that a separate, lower set of ethics is applicable in business. Therefore, pursuing commerce with clean hands is impossible. Our protagonist has no choice but the kickback. Without it he leaves the game. This result validates the theory of amorality. But it also rationalizes unethical behavior, an end some are unwilling to accept. They accept the theory of moral unity, holding that there is only one, high set of ethics to use in all areas of life. The dealer should stick to these standards even if it requires starting the game over. In the end, when Conant paid the $64,000 it was a decision wrong in principle. We can empathize. Yet it was wrong. This incident was part of a much wider fraud conspiracy among managers at American Honda Motor Company, a subsidiary of Honda Motor Company of Japan. A corrupt hierarchy formed within the sales division. Dealers bribed district sales managers for a better mix of cars. They bribed zone sales managers to get more car shipments and paid off regional sales managers for new dealer franchises. Like the dealers, people in the sales division had an ethical decision to make. Quickly they learned that careers stalled for those who did not the club. A few managers remained outside the conspiracy. Their careers stagnated and they had nowhere to turn, since the highest-ranking sales executives openly socialized new participants into the scheme. Top Japanese officials at American Honda were warned repeatedly about the corruption, but remained aloof and secretive. Their silence protected the gang of Americans. After fifteen years of rampant dishonesty, from the late 1970s to the early 1990s, American Honda finally began to root out the crooked managers when some dealers sued. In 1995, the Department of Justice brought fraud charges against top sales division managers, including Dennis Josleyn.18 Josleyn, who itted receiving $1.2 million in payoffs and kickbacks, was convicted of racketeering, conspiracy, and fraud and sentenced to 6½ years in prison. His appeal was unsuccessful. 19 Honda Motor Co. has paid more than $400 million to Honda dealers because of their lawsuits.20

The Tokyo Bay Steamship Company 818

United States v. John W. Billmyer, Dennis R. Josleyn, Criminal Nos. 94-029-01, 94-029-04-JD (USCD, New Hampshire), September 26, 1995.

919

United States v. Dennis R. Josleyn, 206 F.3d 144 (2000).

020

In re: American Honda Motor Company, Inc., Dealerships Relations Litigation, 162 F.Supp. 2d 387 (2001).

The Tokyo Bay Steamship Company is taking advantage of the sanguinary interest of the Japanese public in suicides to expand business. The conventionalist ethic can be used to justify the company’s operations. It is making money in the marketplace without violating any laws. But, of course, a business does not always benefit individuals and society simply by meeting market demand. Meeting demand for refrigerators, automobiles, and hamburgers is beneficial. Meeting demand for cheap handguns, video game violence, and obscene lyrics creates a mixture of good and bad and is controversial. Meeting demand for heroin, contract murders, and machine guns subtracts from individual and societal well-being and is wrong (and illegal). Note that if someone has ethical values that uphold suicide as a personal decision in which society has no interest, then the behavior of the company is rationalized. Several ethical principles lend themselves to condemnation of the company’s actions. 

Aristotle’s theory of responsibility is that a person or a company is responsible for permitting harm or evil unless ignorance or incapacity prevent action. Although the Japanese culture views suicide more charitably than American culture, the Japanese still try to prevent it. If suicide is an evil, then it is the obligation of the company to stop it, not facilitate it. The company cannot claim ignorance or incapacity. Therefore, it is culpable.



The principle of proportionality invites reasoning that also leads to condemnation of the volcano tours. Suicide is a major evil involving the loss of life without proportionate, compensating social benefit. The harm to persons here outweighs the benefits for curious tourists and stockholders. There is no evidence that the company would fail if it declined suicide-related business. It is certain that evil effects will accompany the island business (in part because efforts to stop the suicides are only partly effective). And the company has influence over these evil effects because it provides transportation for the suicides.



The practical imperative can also be applied. It onishes that people be treated as ends in themselves, not as objects of manipulation for the selfish ends of others. The Tokyo Bay Steamship Company is using suicidal individuals to build its revenues. They could be carried as “goodwill” on its balance sheet. The practical imperative, however, teaches that the company should be working to help individuals, not to assist self-destruction.

Tiger Woods Tiger Woods displayed lack of integrity toward his family. The resulting global scandal reduced, but did not eliminate his value for endorsing products. His main sponsors are corporations with formal codes of conduct. None of these codes directly mention the conduct of celebrity endorsers. Students can research the conduct codes of the companies mentioned in the short incident and examine closely the wording to see if it does or should apply to Tiger Woods. Almost every code has a general statement about integrity. None of these company codes try to regulate or penalize off-work behavior (with the exception of criminal activity). Some codes, such as Nike’s, expect employees to avoid seemingly any behavior that tarnishes the company’s reputation. Nike’s code applied to “every employee.” The company may have rationalized that Tiger Woods was not technically an employee.

Should these companies have extended the rules for their employees to cover Tiger Woods? It seems reasonable to argue yes. A corporation with a double standard for employees and product endorsers is open to criticism. There are, however, other arguments. One is that profits should have priority over ethics. Another is that the codes do not literally apply to the personal lives of people connected to, but not employed by, the corporation.

Note

Case

TANGLED WEBS Two stories are woven together in this case study. Both raise ethical issues. One story is of Ashley Madison, a social networking Web site for married men and women seeking to have affairs. Is it an ethical business? What is its responsibility for the deceptions that go along with the networking it promotes? Do the rationalizations of its founder meet the test of ethical principles studied in the chapter? A second story is of a man and a woman who meet through the site. They have an affair, then add another layer of deception when one of them trades stock options based on nonpublic information from the other. The story is useful for studying the nature of lies, secrets, and deception. When, if ever, are they justified? What are their functions? Who do they harm and how?

Answers to Case Questions 1. What lies are present in the “tangled webs” considered here? How were they used? How were they justified by those who executed them? Who was harmed by them? Which lies were most harmful? James E. Gansman, as a senior partner and an attorney in the New York office of Ernst & Young, engaged in various forms of deception. When he gave information to Donna Murdoch about pending mergers, he violated his employer’s written policy against revealing confidential information and kept this a secret. He signed annual statements of compliance with a second Ernst & Young policy prohibiting trading on nonpublic information. Doing no trading himself, he was literally entitled to sign. However, he knew Murdoch was trading on confidential information he gave her. By withholding this knowledge from Ernst & Young he

failed to tell the full truth. Finally, after his indictment, Gansman said he did not know of Murdoch’s trades. Murdoch said he did know and their 7,000 phone calls and text messages undermined the credibility of his claim, making it likely he was lying. Murdoch also engaged in multiple deceptions. She had secrets. She likely concealed full disclosure of her actions from her husband. She concealed her relationship with Gansman from her supervisor and second Ashley Madison confederate. She deceived the Securities and Exchange Commission about her trading activity, tried to avoid revealing the truth by having her hard drive erased, and lied to the FBI.

Both Gansman and Murdoch were bundles of secrets, deceptions, and lies. By keeping his actions secret Gansman manipulated his employer into inaction. In return he enjoyed continued employment and rewards from a relationship with Gansman. We can only guess how he justified his actions. In the end he tarnished his employer’s reputation and contributed to loss of public confidence in markets. If trading activity by Murdoch and her co-conspirators influenced the market price of target company shares, it may have raised the cost of mergers for Ernst & Young clients. Murdoch used Gansman’s deceits for financial gain. In the end Gansman and Murdoch lost the most. Gansman received a prison sentence. Murdoch gave up her gains and has yet to be sentenced. Her sentencing is delayed while she continues to cooperate with the government. Those she tipped have given up their gains and paid fines. In February 2011 her other paramour and supervisor, Richard Hansen, pleaded guilty to conspiracy and securities fraud. He will pay back $60,000 in trading gains and faces a 16 month prison term.1

2. Were the punishments for James Gansman, Donna Murdoch, and Gerald Brodsky fair? Gansman was sentenced to a year and a day in a federal prison and six months of supervised release. He was disbarred and can no longer practice law in New York. He was fined $250,000 by the Securities and Exchange Commission to disgorge part of the profits made by Murdoch. Students can debate whether this was fair. Murdoch, who initially pleaded not guilty, changed her plea and agreed to testify against Gansman. She agreed to pay $404,054, but this sum was waived because she was unable to pay. The waiver may have been partly due to her cooperation with federal prosecutors. She has yet to be sentenced. She may receive a prison sentence. However, she will not be financially indebted to the government.

3. Is Ashley Madison based on an ethical business model? Ashley Madison is based on a business model that enables adultery. Adultery has harmful effects. It undermines the family institution. It leads to forms of deception including insincere promises, guilty secrets, and lying. In this way the business imposes the external costs of dishonesty on innocent individuals (noncustomers) and society. Like other businesses that impose external costs such as pollution and noise, the company does not pay the full cost of its operations. As Ashley Madison grows it might achieve a scale sufficient to diminish the marriage institution. It is a legal business model. However, an ethical business model should better safeguard the honesty and integrity of its stakeholders.

4. How does Noel Biderman, the founder of Ashley Madison, explain and justify the business? Does he fulfill his ethical duties to all those affected by his actions? Noel Biderman offers various rationalizations. They are listed here with possible rebuttals.

1 Bruce Golding, “‘Sex and Stocks’ Guilty Plea Deal,” New York Post, February 11, 2011, p. 13.



Monogamy is biologically unnatural, so men and women are genetically predisposed to seek multiple partners. But cultural values are human inventions designed to promote monogamy. In that sense they are natural to the race and deserve .



Ashley Madison does not persuade anyone to abandon a happy marriage. But, the presence and convenience of the service enhances the opportunity to stray.



The business cannot control, affect, or influence individual decisions to deceive their partners. But, by making cheating more convenient, broadening the population of potential adulterous partners, and offering an entertaining, game-like Web site Ashley Madison may incite adultery.



The site offers tips for safe encounters and an extramarital dating arena apart from work where those already committed to an adulterous affair are relatively more protected from harms such as sexually transmitted disease, sexual assault, and job loss. But, by removing risks more men and women may be attracted to stray.



Ashley Madison has the right to just as any legal business. But, to protect vulnerable individuals and cultural values, society prohibits and restricts ads by other legal businesses. Arguably, ads for adultery should be restricted.

5. What do the events in this story teach us about business ethics? About capitalism? An ethical lesson is that otherwise good people fall victim to ethical traps in the business landscape. One trap is a morally questionable but highly profitable business. Another trap is opportunity to profit from unethical behavior. A further lesson in this case is that unethical behavior invites retribution or, worded otherwise, crime does not pay. A lesson about capitalism is that markets are amoral. Where there is demand for services, whether based on virtue or vice, supply will emerge.

9 Business in Politics

SUMMARIZING OUTLINE This chapter gives an overview of business in American politics. It begins by describing how the formal structure of government affects the ability of business to exercise influence. Then a section traces the history of business influence in government from the colonial era to the present, making the point that business has always been a dominant interest. The rest of the chapter focuses on business lobbying and business influence exercised through campaign contributions. It concludes with a section discussing the nature of corporate political influence. 

The introductory story is about Paul Magliocchetti, a former legislative aide whose lobbying firm specialized in earmarks for defense companies. An earmark is a sum added to an appropriation bill by a member of Congress. 

Magliocchetti’s firm grew to 35 lobbyists. It lobbied for large and small defense contractors. Its success was based on his knowledge of the appropriations process and on campaign contributions he orchestrated for of an appropriations subcommittee.



When Magliocchetti was indicted for illegal campaign contributions, his firm collapsed.



Then the House of Representatives investigated seven for ethical lapses, trying to learn if they traded earmarks for campaign contributions in violation of bribery laws. All were cleared, but the investigation revealed questionable actions by Rep. Peter Visclosky (D-Indiana). His fundraising methods are set forth in the story and students can discuss what they imply about how corporations work to influence Congress.



The structure of American government, as shaped by the Constitution, affects business. Most important, it is extraordinarily open to influence.



The federal system divides powers between a central (federal) government and subdivision (state) governments. It creates many points of access for business influence. Within this system, the supremacy clause in the Constitution allows federal law to preempt state law.





The system of separation of powers divides powers among the executive, legislative, and judicial branches of the federal government. This also creates multiple points of access. The constitutional system of checks and balances among the branches lends itself to delay. If business can influence one branch, it may block action by the other two.



Judicial review is the power of judges to review actions of government officials and strike down laws that are unconstitutional. In the past, courts have blocked actions and invalidated laws opposed by business.



The First Amendment protects the right of business to influence government. It gives business the right to lobby officials and to express ideas expansively.

The preeminence of business in politics is an enduring fact in America. 

An economic elite wrote and ratified the Constitution. Its arrangements open the government to business influence.



In George Washington’s istration the groundwork for business dominance was laid when Alexander Hamilton set up policies of industrialization. As the nation’s economy expanded so did business political power.



After the Civil War, commercial interests lacked strong opposition and grew exceptionally powerful. Politics in the late nineteenth century was defined by the corruption this led to.



The 1930s depression brought major reforms to control excessive powers of business in the U. S. economy. The overbearing power of business was curtailed for a time during Franklin D. Roosevelt’s istration.



In the prosperous 1950s business again surged to dominance.



Then, with the rise of social movements in the 1960s, business faced hostile reform groups that succeeded in getting new regulations. Reforms in Congress that diffused power also reduced business influence. However, this era of effective opposition to business interests was short-lived. By the late 1970s business interests were resurgent. Since then, they have dominated liberal, progressive, and pro-regulation interests.





The organizations that represent business are classified this way. 

Peak associations represent many companies in different industries. The U.S. Chamber of Commerce is an example.



Approximately 6,000 trade associations represent companies grouped by industry. Large companies are often of many trade associations.



Many companies have Washington offices to house their own lobbying staffs.



Business interests form coalitions to broaden . Coalitions come and go in Washington. Many alliances are ephemeral.

There are two broad areas of business involvement in politics. 



Lobbying is advocating a viewpoint to government. 

Lobbyists give lawmakers technical information and inform them about how special interests stand on issues. They gain power from having access to government officials.



Lobbyists use many methods. They do research, talk to legislators, host receptions, and cultivate public for issues in a practice known as grassroots lobbying.



Lobbyists are little regulated because the First Amendment protects their activities. However, the Lobbying Disclosure Act of 1995 requires them to and both the House and the Senate have adopted rules to prevent impropriety. Many loopholes weaken these laws and rules.



Lobbyists are also subject to bribery statutes making it illegal for lawmakers to exchange official acts for anything of value given with corrupt intent. Legal campaign contributions are not considered bribes.



Lobbyists and lawmakers must also avoid the crime of illegal gratuity or the exchange of a gratuity for an official action in the past or future when that action might have been or might be taken even without the gift.

Business also engages in electoral activity to get friendly politicians elected. There is a long history of efforts to reduce corporate influence in elections.



Progressive reformers ed the Tillman Act of 1907, prohibiting corporate contributions to federal candidates. The law was quickly byed by, for instance, large individual contributions from business executives.



The Federal Election Campaign Act (FECA), as amended in 1974, set up a regulatory framework intended to limit contributions and expenditures. It failed to limit campaign spending, mainly for the following reasons.







In Buckley v. Valeo the Supreme Court invalidated the statute’s expenditure limits. Its contribution limits continued in force.



The proliferation of interest groups, including business groups, led to growth in campaign contributions.



Business discovered methods of avoiding the law’s limits and prohibitions on corporate giving. These include the following. 

Political action committees, or PACs, set up by companies and funded by employee contributions. PACs can legally give to federal candidates, whereas their sponsoring companies cannot.



Soft money contributions unregulated under the FECA. Federal Election Commission rulings permitted corporations to give unlimited amounts of soft money to party committees. This money was then used to influence federal elections, primarily by funding issue ads that promoted federal candidates but avoided specific wording about election or defeat of those candidates.

The Bipartisan Campaign Reform Act (BCRA) of 2002 was ed to close the soft money loophole. 

It prohibited corporations from giving soft money to national political party committees.



It prohibited corporations from funding issue ads if they ran on broadcast media 30 days before primaries and 60 days before general elections.



It raised contribution limits for individuals and allowed adjustments for inflation.

In 2010, in Citizens United v. Federal Election Commission, the Supreme Court struck down the BCRA’s prohibition against corporate funding of issue ads and the Federal Election Campaign Act’s prohibition against corporations making independent expenditures for the election or defeat of candidates. It held that these prohibitions violated the First Amendment’s free speech protections.



Today corporations have a variety of legal options for injecting money into elections. They include the following. 

Political action committees that raise money from employees.

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Individual contributions by executives.

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Bundling by executives who solicit contributions for a candidate from friends, then “bundle” them together and them on to the candidate.

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Contributions to 501(c) groups, or tax-exempt groups organized to represent business interests. These groups include trade associations, which can use corporate dues to make lobbying and electioneering expenditures.



Contributions by 527 groups, or committees organized under the tax codes to engage in political activity. Independent expenditures for political advertising when those expenditures are not coordinated in any way with candidates.

  

Giving in state and local elections. Approximately half the states allow direct corporate contributions to state and local candidates.

The chapter concludes with an observation that restraints on corporate political activity are limited by the First Amendment. Nevertheless, corporate influence today seems less corrupting than in the past.

Note

Case

CITIZENS UNITED v. FEDERAL ELECTION COMMISSION This case study is the story of a Supreme Court decision. Citizens United is an important decision. It removes a major barrier to corporate political activity. Before it, corporations could not spend money independently to pay for political advertising or to instruct their employees how to vote. After it, there is no limit on these “independent expenditures” so long as they are not coordinated with candidates. Corporations are still prohibited from making direct campaign contributions. Critics of the decision said it would unleash a flood of corporate money into elections, threatening their integrity. This has not yet happened. Spending on elections has continued to rise. In the midterm elections of 2010, the first following the court’s decision, spending was about $4 billion as compared with $3 billion in the elections of 2006. This is a large increase, but expected and not due to independent contributions from corporations. As explained in Chapter 9, corporate money finds many channels into elections and the history of American elections is one of continuously rising expenditures. Even without the new channel opened by Citizens United more business money would have found its way in. To research the case students can read the decision. It is a long one, at 48,686 words the ninth longest ever. Although parts of it may be difficult reading, reflecting the complexity of election law, other parts are lively argumentation, doubtless reflecting the ions of the justices.

Answers to Case Questions 1. Was Hillary: The Movie a disguised campaign ad or a journalistic documentary? Should the Court have created an exception in the law to permit its broadcast? What could it have done? Hillary: The Movie was made to influence voting. It was screened at theaters in various states at times coinciding with their presidential primaries. It was produced by Citizens United, a nonprofit, conservative political group with a history of disparaging Bill and Hillary Clinton. Hillary was similar to an issue ad (or “electioneering communication” in the jargon of election law) in having a

partisan message but avoiding words such as “vote for” and “vote against.” It was partly funded by corporate contributions. So, yes, it could be called a campaign ad disguised as journalism, a documentary, or a feature film. However, Hillary also meets the definition of a documentary film, commonly understood to be an extended portrayal, interpretation, or exploration of a person, event, or subject. Documentary films are not necessarily balanced or unbiased. They have the perspective of the film maker. So Hillary might also be called a documentary.

Citizens United produced Hillary in response to the success of Michael Moore’s popular film Fahrenheit 9/11, which was released during the 2004 presidential campaign and heaped ridicule on President George W. Bush. Citizens United complained to the Federal Election Commission (FEC), arguing that Fahrenheit 9/11 was a disguised issue ad, but the FEC ruled that because its producers charged viewers to watch it was a “commercial activity” exempt from the reach of election law. When Citizens United showed Hillary in theaters and sold DVDs on its Web site, it availed itself of this exemption. But when it tried to show Hillary on a cable network it no longer had that exemption. Should the Court have created an exception in the law for Hillary? It could have with an opinion that Hillary was primarily a commercial venture or clearly a documentary because of its length or a piece of journalism because of its treatment of a political figure. One problem with such an exception was that the FEC and federal courts would wind up enforcing one more line between permitted and prohibited speech. And it would not be a sharp line. For example, would a 10 minute film qualify as a “documentary”? How much revenue must a film earn before a group could pay to show it on television before an election? The Citizens United majority believed the case could not be resolved on such narrow grounds without further expanding an already too complicated censorship apparatus and, inevitably, further chilling political speech. Therefore, it chose to examine the constitutionality of the law that prohibited showing Hillary. 2. Should the First Amendment protect corporate political expression? If not, where should the line be drawn for corporations between freedom and restrictions? Should First Amendment protections apply only to individual citizens? Corporate political speech is restricted. Corporations can candidates and causes through political action committees and, since Citizens United, with independent expenditures. They cannot contribute to candidates directly, a major restriction of their speech. The arguments for restricting corporate speech begin with the charge that corporations have wealth that could corrupt or strike fear into politicians, undermining the integrity of their decisions. Their “speech” could drown out other voices. For more than 100 years Congress has legislated to restrict corporate speech. Federal courts have generally ed this policy. Corporations are not natural persons. They are not flesh and blood voters. They have no conscience. Their sole interest is in making profits. Also, the Founders never intended the First Amendment to protect corporations. They were suspicious of them and greatly restricted their activities.

The counter argument is that corporate speech is entitled to the fullest First Amendment protection. A corporation is a voluntary association of individuals and as such should be entitled to political speech just as a political party or an interest group composed of farmers or workers. The Founders never intended that the government should balance voices of competing interests. To do so it must be a censor, which is inappropriate. Indeed, James Madison in the Federalist No. 10 wrote: “It is in vain to say that enlightened statesmen will be able to adjust . . . clashing interests and render them all subservient to the public good.”1 For Madison, the remedy for an interest that would trample on the rights of others is a republican government in which all factions are given free voice. The citizen body is not easily duped. If corporations spend large amounts of money this will be revealed and voters will take it into consideration. There is a perennial argument about whether corporations should have the same First Amendment or other constitutional rights as ordinary citizens. In the 1886 Santa Clara case, the Supreme Court accepted the theory that corporations were “persons” under the law entitled to the same Fourteenth Amendment equal protection rights as natural citizens.2 Since then this conclusion has held, but it is politically charged because the “personhood” of the corporation shields it from some government regulation. Leftists, who believe in more regulation, dislike this shield. Conservatives, who seek more corporate freedom, approve of it. Students can debate whether corporate speech is entitled to the same protection as that of a natural person. If so, more of the restraints put on by Congress over the years will have to be removed. One justice, Antonin Scalia, has already said he is ready to strike down all limits on corporate electoral participation.3

3. If you were on the Supreme Court would you have voted in the majority or ed the dissent? Why? These questions invite students to discuss and defend their opinions. You would the majority if, overall, you believe in the rashness of extending rights of personhood to corporations, the importance of settled law, the wisdom of congressional lawmaking over a century, and the idea that corporate wealth poses a danger to elections. You would the dissenters if, overall, you believe that corporations are “persons” entitled to full First Amendment speech protections, that historical evidence of corporations corrupting elections is thin, that government should not censor political speech, and that the body of campaign finance law has grown too complex and is in itself a barrier to constitutional free speech. Students can be asked to defend the various points in each of the arguments.

1 Clinton Rossiter, ed., The Federalist Papers (New York: The New American Library, 1961), p. 80. 2 Santa Clara v. Southern Pacific Railroad Company, 118 U.S. 394 (1886). 3 See his dissent in Austin v. Michigan Chamber of Commerce, 110 S. Ct. 1391 (1990).

4. After Citizens United are the rules for corporate participation in elections still too strict, about right, or too relaxed? Why? The answers to these questions are subjective. If you are a conservative, antiregulation, pro-speech, procorporation thinker you will believe that remaining restraints on corporate speech, such as limits on direct contributions to candidates, should be removed. If you are a liberal or progressive thinker suspicious of corporate influence, you will decry the loosening of restraint on corporate speech. In fact, no post-Citizens United gusher of corporate independent expenditures has appeared. An event early in the 2010 campaign season alarmed corporations. Target Corp., headquartered in Minnesota, gave a contribution of $150,000 to an independent group ing Tom Elmer, a gubernatorial candidate. Target liked Elmer’s positions on taxes, spending, and Minnesota’s business climate. Its money was used to fund an ad for him. However, Elmer was also against gay marriage. Gay rights organizations started a national boycott of Target, this despite its long record of progressive corporate policies and for gay causes. Whether or not the boycott was significant for lost revenue, it played heavily in the media. The story scared other corporations, making them reluctant to associate with particular candidates. So most corporate money continued to flow through nonprofit organizations and trade associations. These entities need not disclose the names of donors. They effectively mix corporate donations to dissociate individual companies from specific ads.

5. Should Congress legislate in response to Citizens United? If so, what should it do? Congress cannot overturn the Citizens United decision. If it tried the current Supreme Court would declare its action unconstitutional. It could initiate a constitutional amendment, the first to limit freedom of speech, but it has not. Instead, Democrats in 2010 proposed the Democracy Is Strengthened by Casting Light on Spending in Elections Act, or the DISCLOSE Act. The bill, which was a direct response to Citizens United, ed in the House of Representatives, but failed in the Senate where it drew a filibuster. It was viewed as a partisan measure and found no Republican . Corporations lobbied to defeat it. Its main provisions were these. 

New, extensive disclosure requirements would be required to inform voters of the source of money for both issue ads and express advocacy ads. For example, CEOs of corporations who funded a TV ad would have to appear on camera saying they had approved the message.

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Companies accepting federal bailout funds would be prohibited from spending to influence elections.

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Companies with more than $50,000 in federal contracts or with 20 percent or more foreign ownership would be banned from making independent expenditures to candidates.

10 Regulating Business

SUMMARIZING OUTLINE This chapter begins with a discussion of the reasons for regulation and its historical rise. It next explains the regulatory process, including the nature of regulatory statutes, delegation of power to agencies, the rulemaking process, and how the White House, Congress, and the federal judiciary exercise oversight. Discussion then turns to the costs and benefits of regulation. Finally, the chapter looks at regulation in foreign countries. 

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The introductory story is about how the Federal Aviation istration (FAA) licenses civilian rocket launches. 

The FAA is an agency in the Department of Transportation. Its Office of Commercial Space Transportation issues launch licenses.

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The main purpose of a launch license is to protect the public from harm by an errant rocket.

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To get a license, a company must submit massive paperwork about its launch vehicle and its planned flight trajectory. The FAA then uses statistical models to decide how dangerous the flight is to the public and issues a license only if the risks of public casualties from an explosion or falling debris are less than 30 in 1 million.

There are two fundamental reasons for government regulation of the private sector. 

The first is market flaws, including these.

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Natural monopoly, where a firm can supply the entire market for a good or service more cheaply than any combination of smaller firms.

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Destructive competition, in which companies that dominate an industry compete unfairly by, for example, cutting prices until competitors are forced out.

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Externalities, or costs of production such as pollution not borne by an enterprise that causes them but by society.

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Inadequate information that reduces the efficient operation of markets. Where information is not available government may provide it or have industry do so.

The second is social and political objectives for regulation, including these. 

To insure production of socially desirable goods and services such as safe products.

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To encourage socially desirable production methods, for example, by inspections for workplace safety.

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To resolve national and global problems that state and local governments and individuals cannot manage.

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To benefit special interests that have the political strength to pressure lawmakers for favorable laws and rules.

Regulation in America has grown in a wavelike pattern.  The first wave, from the Colonial era to 1860, was predominantly promotional for business. 

The second wave, from the 1860s through the 1920s, imposed state and federal regulatory power on railroads and showed a gradually increasing willingness to control business with regulation.

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The third wave, in the 1930s, resulted from the ravages of the great depression and saw the federal government exercising new and substantial regulatory powers over the economy.

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The fourth wave, in the 1960s and 1970s, came when government enacted major legislation and set up new agencies protecting the environment, consumers, and workers.

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The fifth wave began in 2001 with creation of a massive Department of Homeland Security to protect against terrorism and further expanded in 2008 when financial regulators intervened to protect the economy from a liquidity crisis.

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The process of regulation is discussed. 

All federal regulation originates in an act of Congress.

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When a statute is ed, it is assigned to a regulatory agency. 

Independent commissions are agencies run by a small group of commissioners independent of political control.

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Executive agencies are regulatory agencies in the executive branch run by a single .

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Statutes are more or less specific. Sometimes they are vague. Often they make broad grants of authority to agencies to define and carry out their intent.

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In a process called rulemaking agencies promulgate rules having the force of law. A rule is a decree issued by an agency to implement a statute ed by Congress.

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Rules are created in a complex, formal process. Some take years to complete.

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Executive agencies must submit proposed rules to the Office of Information and Regulatory Affairs in the White House for approval. 

If it is proposing a significant regulatory action, defined as a rule with an annual effect on the economy of $100 million or more, the agency must prepare a report explaining its full benefits and costs.

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Independent commissions do not submit proposed rules to the White House for approval and need not prepare benefit-cost studies.

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Proposed and final rules of all agencies and commissions are printed in a daily government publication called the Federal . The rising annual total of its pages is a crude marker for the growth of regulation.

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Final rules are codified in the Code of Federal Regulations, which is annually updated.

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In addition to formal rules, agencies often use guidance, or informal documents such as letters and manuals, to clarify official regulations.

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Since the days of Theodore Roosevelt presidents have sought, with mixed success, to exercise control over regulatory agencies.

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President Ronald Reagan issued Executive Order 11291 giving the White House authority to review existing and proposed rules and requiring all new rules to meet a net benefit criterion.

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President Bill Clinton issued Executive Order 12866 to require, inter alia, that regulations be written in simple, easily understood language.

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President George W. Bush appointed political czars in each agency to review proposed rules and toughened White House review procedures.

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Immediately on taking office, President Barack Obama issued Executive Order 13497 to rescind the Bush policies and made no formal effort to reduce the flow of new regulations.

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Congress also tries to exercise control over regulators. Its committees hold oversight hearings to question them. In 1996 it ed the Congressional Review Act giving itself the authority to block major new rules from going into effect with a resolution of disapproval. The resolution must by a majority in both the House and Senate and be signed by the president.

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Federal courts have the power to review agency decisions when cases are brought by regulated parties. 

Under the Chevron doctrine courts tend to defer to agency rules that are based on reasonable interpretations of statutes.

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Congress has given federal courts the power to strike down agency actions that are arbitrary, capricious, unconstitutional, beyond agency jurisdiction, or uned by evidence.

Benefits and costs of regulation are difficult to measure. No precise calculation of its overall net benefit (or cost) exists. 

Costs are heavy. Compliance costs were estimated as high as $1.2 trillion in 2009. Federal agency budgets totaled $45 billion in 2009. Other costs of regulation such as slowed innovation are less quantifiable but still high.

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Benefits are also great. A review of major regulations for which benefit-cost studies had been made between 1998 and 2008 showed that benefits exceeded costs by a huge margin. Unmeasured benefits such as prevention of corruption, disease control, and lessened workplace discrimination are great.

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Annual studies by the World Bank catalog and compare business regulations in 183 nations. 

Regulation varies widely around the world.

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Poor countries tend to impose heavier regulation on business. Heavier regulation raises costs, invites corruption, and lowers productivity.

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Rich countries regulate business less and engage in ongoing regulatory reform.

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Developed countries engage in continuous regulatory reform to improve the business environment.

Note

Case

GOOD AND EVIL ON THE RAILS This is a story about how a major rule regulating the railroads came to exist. It illustrates the regulatory process as depicted in Figure 10.3 and discussed in the chapter. The case begins with a recounting of the collision between a Metrolink commuter train and a Union Pacific freight train near Los Angeles. Twenty-four engers and the engineer of the commuter train were killed. Soon after, California’s two senators pushed a bill through Congress requiring enormously expensive equipment to automatically control trains. This equipment increases safety, but its costs far exceed its benefits. The main question raised by the case is whether the regulation is worth it. According to the benefit-cost calculations of regulators it is not. The existence of a major rule that imposes a net cost on society is one lesson about regulation.

Answers to Case Questions 1. What were the causes of the Metrolink accident? The Metrolink engineer was distracted by texting.

According to the National Transportation Safety Board (NTSB), the “probable cause” of the collision was “failure of the Metrolink engineer to observe and appropriately respond to the red signal . . . because he was engaged in prohibited use of a wireless device . . . that distracted him from his duties.” The NTSB also found that “lack of a positive train control system” was a “contributing” factor. 1 If such a system had existed, it would have stopped the train at the red light, allowing the Union Pacific freight train to switch off on the siding.

2. What could have been done to prevent the accident? Was management deficient? Were regulators deficient? Should either have been doing anything differently? As noted above, a positive train control system would have prevented the accident by sensing a track violation and overriding the engineer to stop the train before it rolled past a red signal. Two other actions also could have prevented the collision. 

Robert Sanchez could have been fired or removed from safety-sensitive duties after violating cell phone rules. Management did not recognize that these rule violations were the tip of an iceberg. His cell phone records revealed a pattern of gross negligence. Because management saw his two cell phone violations in the context of hundreds of other “efficiency tests” that he mostly ed, they did not trigger alarms. Management could have made the safety-protective assumption that if two violations were recorded, many others went unobserved.

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Management could have installed audio or video equipment in locomotive cabs to monitor engineers. Video equipment would have deterred texting.

It should be noted that both these management actions would have met union opposition. The Federal Railroad istration required constant, frequent testing and observation of engineers. It did not get around to prohibiting engineers and conductors from using personal electronic devices on duty until several weeks after the Metrolink collision when it issued an emergency order.2 It noted that while most railroad operators already had cell phone rules they had not prevented accidents. The agency listed at least five incidents, in addition to the Metrolink collision, in which railroad employees using cell phones had been hit and killed by trains or trains had collided because one or both engineers were distracted by cell phone conversations. It was galvanized by the Metrolink fatalities. Had it acted sooner Metrolink might have been more strict with Sanchez.

1 National Transportation Safety Board, Collision of Metrolink Train 111 With Union Pacific Train LOF-65-12 Chatsworth, California, September 12, 2008: Accident Report (Washington, DC: NTSB, 2010), p. 66. 2 Federal Railroad istration, “Emergency Order to Restrict On-Duty Railroad Operating Employees’ Use of Cellular Telephones and Other Distracting Electronic and Electrical Devices,” 73 FR 58702, October 7, 2008.

3. Is the cost of positive train control justified by the likely safety gains for engers? No. As noted in the case the costs of the positive train control rule outweigh its benefits, which include $176 million to $269 million for fatalities prevented, by a ratio exceeding 20:1. 3 The rule is also not justified by prevention of property losses or by efficiency gains in rail traffic.

4. Did the Federal Railroad istration fairly value a statistical life at $6 million? The agency based the $6 million figure on a basket of economic studies that measure people’s willingnessto-pay to avoid risk of injury and death. The figure is very close to estimates of other federal agencies. Methods of calculating the value of a statistical life and their fairness are discussed in Chapter 14 (see pages 490-491). The agency’s calculation can be justified by procedural fairness and accords with mainstream thinking in the regulatory community about the best method for calculating the value of a life. It might not be considered a fair figure by those who believe life is a priceless, sacred, or otherwise precious beyond the comprehension of mortals.

5. Is money spent to regulate railroad safety being spent in the most efficient way to reduce risks of death and injury in society? It is not. Many other regulatory programs save lives at lower cost. A national smoking cessation program would save lives at a much lower cost. Most federal programs have far more favorable benefit-cost ratios. The positive train control rule is an extreme outlier.

6. Were the railroads justified in opposing legislation to mandate train controls? Their opposition is certainly understandable. The eventual rule coming from the legislation imposes on them billions of dollars of capital expenditures over 20 years and massive new paperwork requirements. It expands the regulatory burden on an industry that has struggled to be profitable. Railroad corporations naturally opposed these outcomes.

7. Is video recording in locomotive cabs an invasion of privacy? Should unions oppose it? The Brotherhood of Locomotive Engineers and Trainmen opposes video cameras in cabs, calling them needlessly invasive. It claims collective bargaining rights under the Railway Labor Act were violated when Metrolink installed them. It also claims that the privacy rights of engineers under Article 1, Section 1of the Constitution of the State of California are violated. However, the relevant age states only a very general privacy right. All people are by nature free and independent and have inalienable rights. Among these are enjoying and defending life and liberty, acquiring, possessing, and protecting property, and pursuing and obtaining safety, happiness, and privacy.

3 Federal Railroad istration, “Positive Train Control Systems: Final Rule,” 75 FR 2685, January 15, 2010.

The union has proposed use of cell phone jamming systems instead of cameras. These systems block incoming and outgoing communications and send a signal if an engineer attempts to make a call. Railroad unions also favor positive train controls as the best method for improving train safety.

11 Multinational Corporations

SUMMARIZING OUTLINE This chapter defines and characterizes the multinational corporation and explains its impact in the global economy, particularly in less developed nations. Then, the chapter discusses efforts to control the power by multinationals, including the development of international codes of conduct. Two codes, the OECD Guidelines for Multinational Enterprises and the United Nations Global Compact, are discussed at more length as specific examples. Efforts to use the Alien Tort Claims Act as a restraint on multinational corporations are also explained. Finally, a case study about the Union Carbide Corporation in India allows discussion of the responsibilities of multinationals.

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The introductory story is a sketch of Coca-Cola Company as a multinational corporation. 

Although headquartered in the United States, the company gets 75 percent of its sales in 200 foreign countries.

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It spreads its operations internationally primarily by licensing bottlers.

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It is attacked by progressive and labor activists who accuse it of human rights and environmental abuses.

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To maintain its legitimacy, it undertakes an array of corporate responsibility activities and aspires to comply with multiple international codes of conduct.

A multinational corporation (MNC) is an entity headquartered in one country that does business in one or more foreign countries. 

MNCs vary greatly in their strategies and structures. Overall, there are five tiers of internationalization that represent alternative ways to extend business into foreign markets. These are export sales, licensing, foreign sales offices, foreign direct investment, and global production.

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The United Nations calculates there are today about 82,000 transnational corporations (defined as parent firms that control the assets of d entities in foreign countries) and they have 807,000 foreign s.

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One method of measuring the multinationality of a corporation is to calculate its transnationality index, which is the average of three ratios: foreign assets to total assets, foreign sales to total sales, and foreign employment to total employment.

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The story of Weatherford International illustrates how multinational corporations can loosen the bonds of attachment to their home country by operating through foreign s.

The best measure of the power and activity of multinationals is foreign direct investment, or funds invested by an MNC for starting, acquiring, or expanding an enterprise in another nation. 

MNCs make foreign direct investments to enter markets, to grow by expanding beyond small domestic markets, and to lower production costs by creating cross-border value chains.

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Most FDI goes to developed countries, but FDI in less developed countries is significant because it can have a great impact on local economies. Progressive activists believe that this impact is often very negative and have sought to limit the power of MNCs.

International codes of conduct are voluntary, aspirational statements of standards for MNC foreign operations. They are proliferating. One study identified 246.

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In 1977 the Rev. Leon Sullivan, an American minister, created a code of conduct requiring multinational corporations in South Africa to do business in a nondiscriminatory way. This pioneering effort inspired later codes.

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Codes come from corporations, industries, business groups, organizations, governments, and partnerships of stakeholders.

Two of the most prominent international codes are discussed as examples. 

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nongovernmental

The first is a set of guidelines from the Organisation for Economic Co-operation and Development, the OECD Guidelines for Multinational Enterprises. 

The Guidelines are recommendations to be taken into by multinational corporations headquartered in the 33 OECD nations and 11 other participating nations.

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They consist of 11 general policies supplemented by more detailed guidelines.

There are no sanctions for violating them. However, a formal process exists to resolve complaints and encourage compliance.

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The story of one corporation, Vedanta Resources, is used as a case study of the strengths and weaknesses of the Guidelines.

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Vedanta, an Indian company headquartered in Great Britain, was accused of violating the human rights of an indigenous people in India where it wanted to build a mine. An NGO filed a formal complaint that it had violated the Guidelines. This complaint was upheld, but Vedanta disagreed and could not be penalized. However, partly as a result of the complaint, the government of India stopped construction of the mine.

The most conspicuous effort to promote MNC social responsibility is the United Nations Global Compact. 

The Global Compact requires corporations to carry out a set of 10 principles based on established and emerging global norms. More than 6,500 corporations had volunteered to by 2011.

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It is ed by six United Nations agencies and istered by an office in the Secretariat.

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Member corporations agree to report each year their progress in carrying out the Global Compact principles. A sampling of these reports is given.

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Critics believe that while the Global Compact has succeeded in enrolling large numbers of multinational corporations it has not fundamentally elevated global corporate responsibility. They want more demanding standards that challenge corporations.

Activists seek to use the Alien Tort Claims Act to apply elevated standards of human rights, labor rights, and environmental protection to the actions of MNCs in developing nations. 

This is a 1789 law permitting foreign citizens to litigate alleged violations of international law in United States federal district courts.

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Most litigation under the Alien Tort Claims Act has failed. The story of the Drummond Company, sued by widows of murdered union leaders in Colombia, is told to illustrate a specific case. A jury found the company not guilty of violating human rights laws.

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Despite repeated failures progressive lawyers and labor unions continue to test various legal theories under which allegations against multinational corporations might be upheld under the Alien Tort Claims Act.

Note

Case

UNION CARBIDE CORPORATION AND BHOPAL The case of Union Carbide and the Bhopal gas leak is a classic. Its dramatic elements keep it alive in the curriculum. Today, we can look back and understand the full scope of the tragedy, the consequences for the company and the people of India, and the changes in the business environment that followed.

Answers to Case Questions 1. Who is responsible for the Bhopal accident? How should blame be apportioned among parties involved, including Union Carbide Corporation, UCIL, plant workers, governments in India, or others?

A range of parties are implicated. 

Union Carbide senior management. Immediately following the gas leak CEO Warren Anderson accepted “moral responsibility” for it. However, as noted in the case, the plant was run by Union Carbide India Limited, a subsidiary with considerable autonomy. In an article analyzing Bhopal as an industrial accident, S. Prakash Sethi criticized Union Carbide’s American managers for underestimating the risks of introducing an inappropriate, complex, dangerous industrial technology into the Indian setting.1 The abstract principle that managers can delegate authority but not responsibility imposes ultimate responsibility for the tragedy on top management.

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Union Carbide India Limited managers. The subsidiary oversaw of plant operations. Managers might have been more attentive to the risks posed by lower training standards, operating economies, staffing cuts, deferred maintenance, and processing shortcuts. Managers at this level bear some responsibility for complacency. In 2010 an Indian court convicted seven UCIL managers of “causing death by negligence,” giving them two-year sentences. They have appealed.

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Workers at the MIC unit. If one worker acted as a saboteur, he or she bears grave responsibility. If the Indian government’s water washing theory is correct sloppy work contributed to the accident. Plant workers were too low in the company hierarchy to see flawed management controls. They may have been too poorly trained to appreciate safety risks. They had little influence over policy. Some of them can be criticized for running from their stations and appropriating for their getaway buses that could have been used in evacuating nearby neighborhoods.

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Bhopal community officials. The city of Bhopal was lax in enforcing residential codes to prevent slum dwellers from settling near the plant. Perhaps it was remiss in not requiring the plant to move away from the dwellings. Homes crowded the plant, violating the codes. Plant officials were never vocal about risks. Holding the poor responsible in any way for their ill fortune seems uncharitable.

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The state and federal governments. The federal government, through the Foreign Exchange Regulation Act of 1973, prohibited American managers from running the plant. Madhya Pradesh, one of the poorest states in India, provided incentives for the plant’s construction and later encouraged building the methyl isocyanate production unit that made the plant more dangerous than when it simply formulated pesticides from shipped-in ingredients. Environmental and safety agencies were overwhelmed. At the time of the gas leak they had insufficient staffing and inadequate equipment to inspect industrial facilities.

1 103.

S. Prakash Sethi, “Inhuman Errors and Industrial Crises,” Columbia Journal of World Business, Spring 1987, p.

2. What principles of corporate social responsibility and business ethics are applicable to the actions of the parties in question? Corporate social responsibility is defined in Chapter 5 as the duty a corporation has to create wealth by using means that avoid harm to, protect, or enhance societal assets. Ultimately, Union Carbide Corporation and its subsidiary, UCIL, did not live up to this standard. In Chapter 5 it is noted that responsibility varies with company characteristics, including the kind of industry and location of facilities. In hindsight, closer monitoring and higher safety standards were necessary for a dangerous pesticide plant in a less-developed nation. Union Carbide Corporation was seen as a highly responsible corporation before Bhopal. Worldwide, it had perhaps the most stringent environmental and safety standards in the industry. After the gas leak, it tried to help the residents of Bhopal recover, but many of its most constructive efforts were rejected. Many ethical principles are applicable. One that leads to a revealing ethical analysis is Aristotle’s theory of ethical responsibility. According to Aristotle, a person (or a corporation) is responsible for the rightness or wrongness of their actions. However, two factors--ignorance or incapacity---excuse or diminish responsibility. Was Union Carbide ignorant of conditions and risks at the Bhopal plant? Having delegated operation of the plant to UCIL and removed Americans from the facility to comply with Indian law, American managers probably knew little about its operations. Can this be defined as purposeful ignorance? Managers at UCIL must have or should have known the details. Should they have reported to Union Carbide? Was Union Carbide incapacitated in any way from acting to reduce risks? Aristotle allowed that some factors create incapacity. In this case it might be argued that the Foreign Exchange Regulation Act of 1973 was an external force that prevented the American company from taking more responsibility. It lacked the power to intervene. If so, its ethical responsibility is eliminated.

3. How well did the legal system work? Do you agree with the decision to try the lawsuits in India? Were victims fairly compensated? Was Union Carbide sufficiently punished? Initially, American attorneys were criticized for unseemly haste in their rush to sign up Indian plaintiffs for cases to be heard in the United States. These attorneys defended their actions as necessary to get justice for gas victims and to establish the precedent of holding U.S. multinationals able in U.S. courts for actions in host countries. Of course, they stood to gain from contingency fees if the cases went to trial.

The cases filed by American attorneys were consolidated in New York, where a federal district court dismissed them on the grounds of forum non conveniens.2 This is a legal principle that allows a court to decline jurisdiction when an alternative trial forum is more convenient. On a practical level, the decision made sense. Witnesses, records, and evidence were in India. Indian law was probably applicable. Travel costs would be reduced. This outcome was a great victory for Union Carbide Corporation. In India, court awards for the value of a life and for injuries were much lower. The Indian government also won, because it wanted to press the case against Carbide in India to stand tall before the world. The big losers were the American attorneys, who were barred by the Indian government from representing plaintiffs in India. In his opinion Judge John F. Keenan commented about these lawyers, remarking that they “did little to better the American image in the Third World–or anywhere else.”3 In 1986 the Indian government brought its case against Union Carbide Corporation in a Bhopal court. The legal maneuvering between 1986 and 1989 was convoluted. It was probably most trying for Carbide. In brief, it involved the following events. 

The Indian government sued only the U.S. corporation and not the Indian subsidiary, under a novel legal theory without precedent in international law.

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Five supervising Indian judges came and went, a remarkable turnover.



In 1987, the Indian Supreme Court issued a bizarre ruling, handed down by a justice on the day he retired, that set a legal precedent moving beyond strict liability to a theory of absolute liability under which Union Carbide Corporation would be held responsible for the gas leak no matter what had happened.4



One judge held that Union Carbide Corporation must pay $270 million to the gas leak victims ahead of any finding of liability. This was later overturned by a higher court.



Union Carbide tried to build credibility for the sabotage theory by having a paper on it presented at an engineering conference.

2

In re Union Carbide Corporation Gas Plant Disaster at Bhopal, India, 634 F.Supp. 842 (S.D.N.Y., 1986).

3

Ibid., at 844.

4 M. C. Mehta v. Union of India (1987) 1 SCC 395. The reasoning in the Mehta decision was this. Existing theories of strict liability for inherently dangerous or hazardous activity, derived in English common law from Rylands v. Fletcher, L.R. 3 H.L. 330 (1868), evolved in the nineteenth century in a different economy in which science and technology were less sophisticated. Now a new theory of liability was needed. It was all right for an Indian court to depart from internationally accepted theories of common law because the time had come for India to build a new principle to deal with the unusual circumstances arising from the operation of dangerous industries.

The eventual $470 million settlement was a victory for Carbide. It capped liability, was affordable, and let the company emerge from the shadow of uncertainty. Death and injury benefits were not great by American standards, but exceeded Indian standards. Union Carbide issued a fact sheet defending the settlement in these words. The final settlement is many times larger than any damage award in the history of India. It is also $120 million more than the settlement accepted in a U.S. court by U.S. attorneys for Indian victims. U.S. attorneys... ultimately told the U.S. court that $350 million was a fair settlement. The Supreme Court of India ruled that the $470 million settlement was “just, equitable, and reasonable.”... The invested settlement will provide major benefits for the victims, whose average yearly income is less than $300 a person... On May 4, 1989 the Supreme Court of India... emphasized that the compensation levels provided for in the settlement were well in excess of those which would ordinarily be payable under Indian law.5

Was the company sufficiently punished? The answer depends on the extent of its responsibility, since a central guideline of retributive justice is that the punishment be proportional to the crime. Students may wish to debate this issue. Union Carbide’s payout was far less than the two other big corporate payouts of the late 1980s ordered by American courts for wrongful death and injury. 

It was $2,105,000,000 less than the $2,575,000,000 paid into a trust fund by Johns Manville Corporation in 1988 to settle an estimated 100,000 asbestos illness claims (and the company was also committed to contributions from future profits).



It was $2,005,000 less than the $2,475,000,000 put into a trust fund by A. H. Robins in 1989 to pay approximately 200,000 women injured by the Dalkon Shield.

Since no trial was held, the world cannot know what theory of causation would have been accepted by a jury once all evidence was presented. A jury verdict would have affixed legal responsibility for the accident. A shortcoming of the overall legal process was delay in getting compensation to victims, but had the case gone forward, Indian authorities estimated twenty years to completion of trial and appeals in India’s court system. This would have meant greater delay. Ultimately, Bhopal exhausted the company. Repercussions from the gas leak, playing out over many years, turned it into a smaller, weaker player. It was forced to sell profitable brands and businesses. It no longer held its own in global competition. In 2001 Dow Chemical absorbed it in a merger.

5

Bhopal Settlement and Aid to Victims, Danbury, Conn.: Union Carbide Corporation, undated, p. 3.

4. Did Union Carbide handle the crisis well? How would you grade its performance in facing uniquely difficult circumstances? The case study details some actions taken by Union Carbide Corporation immediately following the gas leak. In fact, the company did much more. A company fact sheet in 1985 described many more activities in four pages of single-spaced entries. Included are long-term relief efforts designed to provide housing, jobs, medical rehabilitation, and humanitarian relief to the people of Bhopal. Unfortunately, for political reasons, much of Union Carbide’s largess was rejected because Indian officials thought it was tainted. But the company carried through with humanitarian aid programs where permitted. After the tragedy, Union Carbide adopted new, strict guidelines on safety and environmental protection.6 A special committee monitored safety codes and practices. Environmental and safety compliance audits were conducted. A corporate vice president of environmental affairs was appointed. Between $300 and $400 million annually were spent on plant safety in the years following Bhopal.

5. Does Dow Chemical Company have any remaining legal liability, social responsibility, or ethical duty to address unresolved health and environmental claims of Bhopal victims? When Dow Chemical absorbed Union Carbide as a subsidiary it took on the risk of any remaining legal liabilities and, presumably, the obligation of any remaining social and ethical duties. Organized groups of gas victims are tireless in pressing claims. Dow Chemical is just as tenacious in denying responsibility of any kind. It makes several arguments. It never owned or operated the Bhopal plant. No Indian assets were involved in its merger with Union Carbide. All legal claims against Union Carbide were resolved before the merger. Implicitly, it argues that all responsibility to the Indian government and the gas victims ended when legal responsibility ended. Victims try in various ways to reopen legal proceedings. One recent claim is that Dow may have violated international human rights laws. A report by Amnesty International sets forth the argument. It says that beyond nations, “every individual and every organ of society bears responsibility” for protecting and observing the human rights of all persons.7 These rights are found in the Universal Declaration of Human Rights, United Nations treaties, treaties between nations, and international law. Specifically, Amnesty International argues that Dow Chemical is responsible for violating the following rights of Bhopal victims and under international human rights law it must take responsibility for and correct, where possible, these violations.

6 Marc S. Reisch, Carbide’s Kennedy Expresses View on Industrial Safety, Other Issues,” Chemical & Engineering News, May 13, 1991. 7 Amnesty International, Clouds of Injustice: Bhopal Disaster 20 Years On (Oxford, U.K.: Alden Press, 2004), p. 28.



The right to life was violated by the gas leak.



The right to the highest attainable standard of health is violated because medical problems continue.



The right to a remedy is violated because victims have not received adequate compensation.

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The right to an adequate standard of living is violated because many victims, already poor at the time of the gas leak, are now less able to earn a living.

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The right to freedom from discrimination is violated because women exposed to the gas have been stigmatized. They have difficulty finding husbands. Men are reluctant suitors because they fear these women cannot have children, that their future health will be fragile, and that they will have expensive chronic illnesses.



The right to a safe environment is violated because the plant still contains contamination to which Bhopal residents are exposed.8

Some students may argue that former CEO Warren Andersen has an obligation to appear in an Indian court on the culpable homicide charge. All threads of legal liability leading from India back to Dow Chemical are weak. Still, the question of responsibility beyond the law hangs in the air. Students can discuss whether any principle or theory of ethics or any guideline for social responsibility is persuasive. If Dow Chemical wanted to help the victims as an act of either responsibility or charity, it could easily find an ethical argument to justify action. In the end, it does not want to allow any crack in the closed case that might expose it to more legal liability.

8 These alleged human rights violations and the sources of the standards or treaties they violate are set forth in Ibid., chapter 2.

6. What lessons can other corporations and countries learn from this story? Some lessons can be learned from Bhopal. 

The early and continuing efforts to place blame for the accident on Union Carbide Corporation underscore the elementary principle that managers may delegate authority, but cannot delegate responsibility. A large American corporation will be held responsible for any disaster connected with its operations.



Crisis and evil can befall even the best-intentioned companies. In the early 1980s Union Carbide was viewed as progressive by environmentalists and had done more than other large companies. It was making the pesticide Sevin in India rather than the DDT some competitors made there because Sevin was regarded as less environmentally damaging.



Responsible corporations with operations that pose catastrophic risks cannot be even a little bit lax about environmental and safety concerns. The Responsible Care program adopted by the chemical industry after Bhopal reflects learning of this lesson.



Events following the accident illustrate again (as with, for example, A. H. Robins and Johns Manville) that existing legal mechanisms are inadequate to provide reasonably prompt compensation when corporate activity injures and kills many people.



Multinational corporations are morally and (probably) legally responsible for environmental and human rights impacts of foreign facilities they invest in, even if they have no direct management responsibility. Bhopal was the event that taught this lesson.

1 2 Globalization, Trade, and Corruption SUMMARIZING OUTLINE This chapter covers three broad, interrelated topics–globalization, trade, and corruption. It begins with a story about McDonald’s Corporation to illustrate how one multinational company both influences and adapts to national cultures. Then it defines globalization and sets forth main forces that contribute to it. It explores international trade as the mainspring of globalization. After a brief history of trade since 1800 the discussion focuses on the creation and evolution of the Bretton Woods institutions and their role in trade expansion since 1945. Free trade theory is explained. Issues raised by preferential trade agreements and protectionist forces are discussed. The last section discusses types of corruption, international efforts to fight it, egregious examples of corporate bribery, and guidelines corporations can use to prevent corrupt actions. 

The introductory story is about McDonald’s Corporation. 

McDonald’s grew from a small hamburger stand in southern California to a transnational corporation with restaurants in 117 nations and an internationally recognized brand.



The spread of its operations exposes it to cultural differences. It is a lightning rod for critics who believe in American cultural imperialism.





Though some believe that McDonald’s is an agent spreading pernicious American values, the truth is more complex. The story gives examples such as the following. 

Anthropologists document McDonald’s impact. It introduced practices that spread in Asian nations, including clean restrooms and birthday celebrations for children.



Local entrepreneurs with McDonald’s franchises in , China, and Saudi Arabia have adapted their menus and serving policies to reflect local customs.

Globalization occurs when networks of economic, political, social, military, scientific, or environmental interdependence grow to span worldwide distances. It is an ancient, enduring process driven now by a set of interacting forces, among them technologies, international institutions, economic development, and the rise of a vibrant civil society. 

The KOF Globalization Index measures trends in economic, political, and social dimensions of globalization. This index shows a pronounced rise in globalization since 1970.

 

Almost uniformly, nations and areas are becoming more globalized, but rates differ. Two countries at opposite ends of the globalization index, Belgium and Niger, are compared on multiple measures, revealing a wide gap. The mainspring of globalization is trade.



Before 1800, the world economy grew very slowly and trade was limited.



The dominant trading nations were the rich nations of Europe that based their economies on mercantilism, or the policy of increasing national power by creating trade surpluses. These nations exploited colonial empires.



After the Industrial Revolution England lowered protective trade barriers. Other nations followed and global trade grew remarkably.



The run of free trade ended with World War I, which inflamed national rivalries and led to rising tariffs (taxes or duties charged by governments on goods moved across a border) and, in some cases, policies of autarky (reduction or elimination of trade to promote national sufficiency and independence).



After World War II the victorious allies, particularly the United States, resolved to set up institutions that would open nations to trade and bring global economic growth. Their plan came to fruition at a postwar meeting in Bretton Woods, New Hampshire. 

A new World Bank was created to overcome capital shortages.



An International Monetary Fund was created to stabilize exchange rates.



A General Agreement on Tariffs and Trade (GATT) set up a process through which nations could conduct multilateral trade negotiations, or talks in which multiple nations seek consensus on an agreement that will apply equally to all. The GATT was based on two key principles.









The most-favored-nation principle is that if one participant extends any benefit to another, that participant must extend the same benefit to all.



The national treatment principle is that once inside a domestic market foreign goods must be given equal treatment with local goods.

Eight rounds of multilateral trade negotiations were completed under the GATT framework. 

More nations entered the process as time went on. Major tariff cuts were achieved and world trade greatly expanded.



In the last round participating nations created a new international institution, the World Trade Organization (WTO), to succeed GATT.

The WTO is a framework for trade negotiations. It has 153 member nations. It provides a stable platform for resolving trade disputes. However, it has been unable to complete another multilateral trade round known as the Doha Round. There are many reasons. 

Developed countries are unwilling to abandon protective trade barriers for agricultural products, frustrating less developed countries that hope for more agricultural exports.



Less developed countries feel rich nations took advantage of them in previous trade rounds, particularly in imposing expansive requirements for protecting intellectual property rights.



hip has expanded, making it more difficult to reach a multilateral consensus.



With increasing trade from developing nations the United States and its European allies have lost the power to impose their will on the global trading system.

In addition to hip in the WTO, nations also enter regional trade agreements with one or more other nations. In 2011 there were 290 such agreements. 

Many are free trade agreements in which member countries eliminate import duties and other barriers to trade with each other, but maintain them for imports from nonmember countries.



Others are customs unions that form a free trade area and impose a common external tariff on imports from nonmember nations.







Some trade experts believe that regional trade agreements, because they discriminate against nonmember countries, undermine the goal of a world trading system based on the most-favored-nation principle.

Free trade and protectionism are discussed. 

Free trade is a philosophy that recognizes the law of comparative advantage, which is that efficiency and the general economic welfare are optimized when each country produces that for which it enjoys a cost advantage.



Protectionism is the use of trade barriers to shield domestic industries from foreign competitors. There are four reasons for the practice. 

Governments use trade barriers to reduce unhealthy trade deficits.



Trade barriers often accompany industrial policy, or government policies to shape national economies by promoting certain companies or industry sectors.



Countries use trade barriers to retaliate against other countries that have used unfair trade tactics.



Tariffs are important sources of revenue for some governments.



Overall, the United States, despite its strong free trade rhetoric, indulges in hundreds of tariffs, quotas, import prohibitions, and “Buy American” laws.



Despite the long-term trend toward freer trade, protectionist deviations from free trade policy are common. Examples are given from Japan, China, South Korea, and other nations.

Corruption is defined as the debasement of integrity for money, position, privilege, or other selfbenefit. It is a widespread trade barrier. 

Corruption raises the costs of doing business and distorts the operation of markets. According to the World Bank, corrupt expenditures are 5 percent of global GDP.



A spectrum of corruption exists. From one end to the other they include these basic categories. Examples of each are given. 

Facilitating payments are small amounts of money demanded by minor officials to do their duties.



Subtle bribes are endemic and routine in less developed nations. These usually discrete bribes shade into open bribery that is less disguised and less modest.



Major and extortionate bribes are requested and paid in some of the world’s most corrupt nations.



For corruption to exist there must be both demand and supply. Transparency International country indexes show wide variation in perception of the likelihood of corrupt demands and the likelihood of payments being provided.



Corruption has grown along with trade volume, but international efforts to reduce corruption have expanded with globalization. 

The Organisation for Economic Co-operation and Development has called on member nations to laws punishing bribery and requiring corporations to keep better records of financial transactions.



The United Nations, the World Bank, and the International Monetary Fund have adopted anti-corruption measures.



In the United States the milestone law for fighting corruption is the Foreign Corrupt Practices Act of 1977. Recently, enforcement has been stepped up. The basic provisions of this law are set forth. 

It is both a civil and criminal offense to bribe an official of a foreign government or ministry, or a member of a foreign political party or candidate for office.



Bribery is making or offering to make a payment of money or anything of value with the “corrupt intent” to influence any official act or decision in favor of a company’s business.



The law applies to the actions of U.S. executives and corporations anywhere in the world. Foreign corporations can be prosecuted if they are listed on U.S. stock exchanges, pay illegal bribes in U.S. territory, or use U.S. mails or telecommunications in corrupt transactions.



Facilitating payments intended only to expedite “routine government action” are permitted under the law.



Bribes paid to managers of one corporation by managers of another are legal under this law but may be illegal under fraud statutes in most nations.



Basic actions corporations take to prevent corrupt payments include these. 

Establishing policies against bribery.



Setting up ethics and compliance programs.

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Training employees to recognize problems and follow policies and laws.



Studying business climates of countries and potential partners or agents before entering foreign markets.

Note 156.

Case

DAVID AND GOLIATH AT THE WTO

This case relates the story of a trade dispute between the United States and the Carribean nation of Antigua and Barbuda (hereafter Antigua). The United States signed a multilateral trade agreement, the General Agreement on Trade in Services (GATS), that the World Trade Organization (WTO) said required it to open its borders to online gambling enterprises sheltered by the Antigua government. Doing so would make the United States a huge market for foreign companies offering forms of online betting that American firms could not legally offer. After four years of fighting, the United States lost its case. Refusing to open its borders to the online betting parlors, it has opened itself to retaliation. The case illuminates the WTO procedure for resolving trade disputes. It also invites a debate about online gambling.

Answers to Case Questions 1. Was Jay Cohen’s conviction justified? Jay Cohen was a citizen of the United States charged with violating its laws. He was arrested and tried in the United States, where the government of Antigua had no jurisdiction. His actions were fairly straightforward violations of the Wire Wager Act of 1961 that prohibit using wire communications for betting within the United States or between the United States and a foreign country. Jurors were not moved by his basic defense, that a foreign government sanctioned what the United States made criminal. He showed courage in returning from Antigua to U.S. soil so that the clash between domestic laws and international trade rules could be resolved.

Critics of the WTO complain that, through its auspices, these international trade rules are allowed to override domestic laws and regulations, particularly environmental regulations. Not in this case. The United States chose to defy the WTO and adhere to its domestic gambling laws.

2. Do you concur with the decisions of the World Trade Organization in this case? The report? The appellate decision? The arbitration ruling? The WTO delivered three decisions. 

In 2004 a dispute held that the United States had violated its obligations under the General Agreement on Trade in Services. It said the United States had committed itself to opening its borders to international gambling services. Yet even as the United States allowed certain forms of gambling it criminalized cross-border Internet gambling. This was an illegal trade restriction. The decision is correct based on a literal reading of the GATS schedule. In that sense it is effortless to agree with its logic. On the other hand, conformity to GATS would counter a long-standing body of domestic American laws that balance polarized views on gambling by allowing it in some forms and prohibiting it in others. The United States felt it had the sovereign right to uphold laws that were long-standing and necessary to protect American morality. It appealed.



In 2005 an appellate body again rejected the U.S. argument, although it agreed that gambling laws might be necessary to protect against immoral behavior. Still, since the United States allowed domestic betting parlors to take bets on horse races over the wires but not foreign bookmakers it was clearly in violation of the national treatment principle in GATS (which requires equal treatment of foreign and domestic services within the each signatory nation’s markets).

At this point the United States was given a year to comply with the WTO rulings. It could do so in two ways. It could change its laws to permit cross-border Internet betting. Or it could ban all domestic online gambling, specifically, horse racing. It did neither. Instead, Congress defied the WTO by ing the Unlawful Internet Gambling Enforcement Act of 2006 to block bank payments for online bets, with the exception of horse racing bets. The United States also withdrew its commitment to allow cross-border betting services under GATS. This is permitted, but when it occurs trading partners can request retaliation to make up for lost trade revenues. Antigua requested retaliation, leading to a third decision by a WTO arbitration . 

In 2007 the arbitration issued a ruling allowing Antigua to retaliate against the United States by copying and selling annually up to $21 million of trademarked and copyrighted music, films, and software. It was authorizing a rare form of cross retaliation. The argument for this decision is that the United States, like other nations, should be held to its formal commitments. Otherwise, the international trading system would break down. The argument against the ruling is that pirating digital products is an international problem and this legitimizes the practice.

3. Should Antigua and Barbuda have the right to retaliate against the United States by exporting copyrighted entertainment material? Is that a bad precedent? The WTO seeks to facilitate negotiated agreements between disputants. When mutually acceptable agreements are not reached, member nations take their disagreements to the formal dispute resolution process. After a lengthy semi-judicial process WTO bodies issue a ruling. The WTO has no power to enforce its rulings. It has no police powers and no authority to fine its . It can, however, give nations the right to retaliate against other nations that refuse to accept a WTO ruling. Ordinarily, retaliation takes the form of imposing or raising tariffs on products or services. The nation harmed by another nation’s use of prohibited trade barriers can impose concessions equal to the damages it has suffered or continues to suffer while the other nation refuses to comply. Antigua sought to impose concessions worth $3.44 billion a year, an amount it said matched “the level of nullification or impairment of benefits accruing to Antigua and Barbuda as compensation for lost internet gambling revenue.”1 This amount was determined in an economic study commissioned by the government of Antigua. The United States countered that this amount was “a figure more than three times the size of Antigua’s entire economy” and was “patently excessive”2 The Antigua figure was based on assumptions that the United States gambling market would have been completely open and that Antigua’s betting businesses would have gained a percentage of that open market equal to their percentage of the world market. The WTO did not accept these assumptions. It ultimately ruled that the island nation’s lost online gambling revenue was only $21 million a year, less than 1 percent of what Antigua sought. Ordinarily, a nation authorized to retaliate must seek concessions under the same trade agreement that the nation retaliated against has violated. Since the United States violated its obligations under the General Agreement on Trade in Services (GATS), Antigua could raise tariffs or other barriers on imports of American services. However, since imports of services into the tiny Antiguan economy are so limited, this would not have raised $21 million in annual revenue. Therefore, the WTO arbitration gave Antigua the right to engage in cross-retaliation, that is, to seek concessions under another trade agreement. In this case, Antigua was allowed suspend its obligations under the Agreement on Trade-Related Aspects of Intellectual Property Rights (TRIPS). Specifically, it was authorized to violate the intellectual property rights of American corporations by duplicating copywritten films, music, and software. Under WTO rules, neither country can appeal this decision.

1 World Trade Organization, “United States: Measures Affecting the Cross-Border Supply of Gambling and Betting Services,” II.A.2.3. 2 “Statement on Internet Gambling,” Office of the United States Trade Representative,” Press Release, December 21, 2007.

The New York Times reported the decision under the headline “In Trade Ruling, Antigua Wins a Right to Piracy.”3 Since the ruling the United States and Antigua have been in talks about its implementation. U.S. trade representatives have argued that trademark and copyright infringement will undermine Antigua’s efforts to market itself as a legitimate base for electronic commerce. Antigua has not yet acted. If it does, one way the United States can fight is to question the monetary value of any product duplication. For example, if Antigua claims that a certain number of copies of a Universal Studios film on DVD are worth $100,000, the United States can challenge that amount, claiming the copies are worth more. Trademark infringement also violates the Berne Convention for the Protection of Literary and Artistic Works, an international treaty protecting copyrights. Both the United States and Antigua are signatories. This treaty exists separately from trade agreements such as GATS and TRIPS. It could complicate matters if Antigua begins to retaliate with copied or counterfeit products.

4. Should the United States have abrogated its commitment to gambling services under the General Agreement on Trade in Services (GATS)? Did it have a better alternative? Withdrawal of a commitment is permitted under Article XXI of the GATS treaty. The United States probably needed to withdraw its commitment to treat imported “gambling services,” “no less favorably” than domestic gambling services. It could never live up to this commitment. To do so would require revising the laws of almost every state (or ing a preempting federal law) to either ban all online gambling or permit it. Since there are strong forces both for and against gambling in domestic politics this is impossible. To continue the commitment would only have seemed hypocritical and undermined American influence in the WTO and in the multilateral trading system.

5. How can the dispute between the United States and Antigua and Barbuda be resolved now? Negotiations are ongoing between the countries. The United States is under pressure from entertainment and software companies to prevent Antigua from pirating digital products. News reports indicate it is seeking to negotiate a mutually agreeable annual sum of payments to Antigua.

6. Do you the proposed Internet Gambling Regulation, Consumer Protection, and Enforcement Act? Why or why not? The answer depends on your views about online gambling. If enacted, the law would legalize online betting. Online gambling sites would be licensed. They would report customer’s winnings to the Internal Revenue Service. In its favor, it would move online gambling into the open, bring in tax revenue, and free average people from fear of prosecution for gambling in their living rooms. According to some, it would remove a government infringement on personal liberty.

3 James Kanter and Gary Rivlin, December 22, 2007,

p. C13.

Those opposed, argue it would encourage compulsive or irresponsible betting by youth, alcoholics, drug abs, the mentally disabled, and other vulnerable of society. It would harm families, breed money laundering, and otherwise damage the social fabric. Operators of legal card clubs and casinos also oppose the bill, fearing new online competition. There are many forms of gambling and the case study discusses online gambling only as a trade issue. Nevertheless, the following more general questions could lead to a lively discussion. Is gambling immoral? Is it a socially responsible business? Is it primarily harmless entertainment? Does it ruin lives? Does it foster crime? Does it elevate the cost of social services? Do its benefits exceed its costs? Is a continuing ban on Internet gambling practical? While answers are a matter of opinion there are many studies of gambling from which evidence can be found to one side or another.

1 3 Industrial Pollution and Environmental Regulation SUMMARIZING OUTLINE This chapter begins by briefly examining the history of pollution problems caused by human and industrial activity, beginning with a story about the Hudson River. It explores the environmental consequences of industrialization. Then it turns to the history of ideas about the relationship between commercial activity and nature to show that while prominent ideologies of the past encouraged exploitation, newer ideas encourage sustainability. Finally, the chapter surveys environmental regulation of industry in the United States, discussing laws to protect air, water, and land. 

The introductory story is about the contamination of the Hudson River with polychlorinated biphenyls from General Electric factories. 

Once a majestic example of nature’s efflorescence, the river was heavily polluted by the rise of commerce and industry. Its history illustrates the course of industrial pollution described in the chapter.

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Under the federal Superfund law GE has spent more than $1 billion cleaning the river. This is an example of the modern statutory and regulatory approach to environmental protection explained in the chapter.

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Pollution refers to the presence of substances in the environment that inconvenience or endanger humans. 

Pollution endangers human health. Pollution causes 11 percent of the disease burden in less developed countries in contrast to only 1 percent in developed countries. Nonindustrial pollution from feces in water and indoor fuel use in homes causes a far greater disease burden than air and water pollution in industrial societies. As nations industrialize, they reduce pollution dangers.



Industrial activity harms the biosphere. In particular, it degrades ecosystems, the animated, interactive realms of plants, animals, and microorganisms that define areas of the nonliving environment. 

Such degradation inhibits ecosystem services, or the productivity of natural ecosystems in creating food and fiber and in regulating climate, water, soil, nutrients, and other forms of natural capital.



Economic growth has strained broad ecosystems. If industrial activity that capitalizes on ecosystems is to continue and expand it must be modified to allow sustainability.

Sustainable development is nonpolluting economic growth that raises standards of living without depleting the net resources of the earth. 

Newly developing nations do not follow this path, but research suggests that polluting emissions follow an environmental Kuznets curve, or an inverted U-shaped curve.

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Following this curve, pollution rises during early stages of growth, then levels off and falls as public values about environmental quality change and institutions are better able to regulate industry. Thus, growth can mitigate pollution damage.

Early in the history of Western civilization ideas emerged that encouraged humans to dominate nature and consume resources. 

The Bible told that God created nature, then man, and instructed man to subdue the earth and to take dominion over its living creatures. This Judeo-Christian perspective laid the foundation for the view that humans were separate from and superior to nature.

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In the seventeenth century, René Descartes set forth a theory of dualism that reinforced this biblical view. He held that humans were separated from nature by their powers of reason and because they had souls.

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During the early industrial revolution economic expansion was reinforced by popular belief in progress, or the idea that history was a narrative of improvement.

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The theory of capitalism valued nature primarily as a commodity to be used in wealthcreating activity.

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The ethic of utilitarianism, or “the greatest good for the greatest number,” was used to justify industrial growth as the greatest good, despite obvious costs and harms.

In the last third of the twentieth century new ideas emerged to challenge human dominance of nature. 

Aldo Leopold’s land ethic is that humans are of a broad community of interdependent parts of nature and have duties toward other entities including the land, plants, and animals.

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The deep ecology of Arne Naess holds that human domination of nature must cease. All species have equal rights to coexist and flourish. The instrumental value given nature under capitalism is wrong; nature has intrinsic value.



Peter Singer popularized the idea of speciesism, a prejudice in favor of the human species and against other species that is akin to racism or sexism.

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The dominant approach to industrial pollution control in the United States is application of regulatory statutes to industrial activity. The Environmental Protection Agency (EPA) is a massive regulatory agency responsible for most of the nation’s environmental regulation.

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The three media for pollution are air, water, and land. Regulatory activity in each is reviewed. 

Air pollution is a set of complex interrelated problems, each requiring different controls. The Clean Air Act, as amended in 1990, is the primary air pollution control statute. 

To control urban air pollution the EPA sets standards to curb emissions of six substances called criteria pollutants. These are carbon monoxide, nitrogen dioxide, sulfur dioxide, ozone, particulates, and lead. Over the past thirty years aggregate emissions of these substances have fallen.

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Hazardous air pollutants are chemical emissions that pose a risk of serious illnesses such as cancer with small inhalation exposures. Regulation has greatly reduced industry emissions, but the EPA’s goal of less than a 1 in 1 million lifetime risk from exposures is still unmet.

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Acid rain, or the deposition of acids in rain or other precipitation, is caused by releases of sulfur dioxide and nitrogen oxide, primarily by electric utilities. The Clean Air Act set up an emission allowance trading program to reduce these releases. Aggregate emissions of both substances have fallen and the program is considered a great success.

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Indoor air pollution is a serious problem. The EPA has little authority to regulate it.

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Pollution by ozone-destroying gases has thinned the ozone layer in the stratosphere. The Montreal Protocol, a 1987 treaty, phases out the use of these gases. The treaty is working. Emissions peaked in the mid-1990s and the ozone layer will be restored sometime between 2050 and 2075.



Greenhouse gas emissions continue to rise, changing the chemistry of earth’s atmosphere and raising risks of climate warming. No effective global mechanism to reduce emissions of greenhouse gases exists. So far, the United States has made only very limited efforts to reduce emissions.

Water pollution by industry is controlled under the Federal Water Pollution Control Act Amendments of 1972, known as the Clean Water Act. 

Under the authority of the Clean Water Act the EPA sets standards for levels of pollutants permitted in water bodies, then issues permits to industrial point sources setting allowable effluent levels. This permit system is called the National Pollution Discharge Elimination System.



The EPA has had less success controlling effluents from nonpoint sources such as farmlands and urban areas. Such sources are now the primary cause of impaired water bodies. The Clean Water Act does not give the EPA proper authority to control nonpoint pollution.

Land pollution from hazardous waste is regulated mainly by two laws. 

The Resource Conservation and Recovery Act of 1976 gives the EPA authority to manage hazardous waste. It is a strict, complicated law requiring expensive compliance measures.



The Comprehensive Environmental Response, Compensation, and Liability Act of 1980, better known as Superfund, established a program to clean up abandoned toxic waste sites. 

The law has brought effective remediation to many of these sites at great expense. Other sites remain and high levels of spending will continue for decades.



The story of the American Creosoting Co. site illustrates the nature of remediation work, its expense, and benefit-cost issues raised by massive Superfund projects.

Note 157.

Case

A WORLD MELTING AWAY This case focuses on the fate of one species listed as threatened under the law–the polar bear. This large mammal is threatened now and likely to be endangered in the future because of Arctic warming. So the case invites discussion of global climate change. Some students are skeptics of climate change. The evidence of recent Arctic warming is presented in the case. The significance of this evidence can be discussed. Climate change and the bear’s fate should be put in perspective. The bear’s plight is one illustration of broad human impact on natural ecosystems. It has been suggested that we are living in a new epoch within the Quaternary period. This new unit of geological time is tentatively named the Anthropocene epoch because it is an age of planetary change effected by humans. 4 Though geologists have not settled on a beginning date for an Anthropocene epoch, many would date it from the late eighteenth century when James Watt invented the steam engine. Since then, humans have altered earth’s natural processes and terrain in significant ways over a very brief instant in geological time. Earth’s climate has changed before. The Quaternary period, which began 2.6 million years ago, has been characterized by regular ice ages, each lasting 80,000 to 100,000 years. These changes in climate result from irregularities in the earth’s orbit around the sun. Between these ice ages are brief interglacial intervals lasting 10,000 to 15,000 years. We live now in one of these intervals, which has been labeled the Holocene epoch. Since the start of the Holocene epoch at the end of the last ice age about 11,000 years ago, Homo sapiens has flourished in a stable, warm climate. After the Industrial Revolution, beginning only a little more than

4 See Paul J. Crutzen, “Geology of Mankind,” Nature, January 2002, p. 23 and Jan Zalasiewicz, et al., “The New World of the Anthropocene,” Environmental Science & Technology, 44 (2010), 2228.

200 years ago, human activity has altered atmospheric chemistry in ways predicted to cause warming. This could lead to a mass extinction in which species that are unable to follow a suitable, shifting climate band become extinct. The polar bear would be one such species. Can the polar bear be saved from extinction? Since habitat warming is the main cause of its peril, any significant protective action is also an action that drastically reduces greenhouse gas emissions. Such an action is improbable today.

Answers to Case Questions 1. Do you believe that polar bears are endangered as a species now or in the future? Why or why not? Survival of Ursus maritimus as a species is not currently endangered. In fact, its numbers increased remarkably over the last 50 years after Arctic nations put strict limits on hunting. In the 1960s there were only 5,000 to 10,000 of them in circumpolar regions. Now there are as many as 25,000 individuals in 19 somewhat distinct subpopulations, an impressive rebound. But the bear is on the precipice of decline. Of the 19 subpopulations eight are declining, three are stable, and only one is increasing (the small M’Clintock Channel population). Insufficient data is available to report a trend for the remaining seven. Now climate warming is a growing threat to the polar bear. Since the 1990s its sea ice habitat has been diminished by warming ocean currents and rising air temperatures. Climate scientists predict Arctic warming will continue and, about 2050, summer sea ice will disappear. Polar bears have evolved to survive by hunting seals in summer months on frozen oceans with large expanses of broken ice cover. If the summer ice disappears their survival as a species will be endangered. They can move about on dry land eating berries and birds’ eggs, but these terrestrial food sources do not provide enough energy for long-term survival and reproduction. Their main food source, the ringed seal, also depends on summer sea ice habitat and cannot survive on land. When it listed the polar bear as a threatened species in 2008 the Fish and Wildlife Service said this about endangerment. We do not believe that the species is currently endangered, but we believe it is likely that the species will become endangered during the foreseeable future given current and projected trends... 5 The agency defined “foreseeable future” as 45 years, or three polar bear generations. Thus, it was predicting likely endangerment of the species by 2053, about the time summer sea ice will disappear from Arctic oceans.

2. What is the value of the polar bear to the United States? To humanity? The polar bear has little direct, quantifiable economic value. Some tour businesses earn revenue by taking travelers to see them. They attract visitors to zoos and museums. They have been used in advertising to sell consumer products, perhaps most famously, Coca Cola. They are important as a source of income for indigenous peoples in Arctic regions, where some hunting still is permitted. Canada, for example, allows Inuit hunters to take 500 polar bears each year using a permit lottery. These natives can sell hunting rights to trophy hunters or take bears for subsistence use. Inuits have average incomes of about $20,000 a year. A bear hide can bring $2,500. The bones and skull can be turned into tools or saleable craft products. The meat is edible. So a bear kill provides both income and subsistence to an Inuit family.6

5 U.S. Fish and Wildlife Service, “Endangered and Threatened Wildlife and Plants; Determination of Threatened Status for the Polar Bear (Ursus maritimus) Throughout Its Range,” 73 FR 28249, May 15, 2008. 6 George W. Wenzel, “Polar Bear Management, Sport Hunting and Inuit Subsistence at Clyde River, Nunavut, Marine Policy, October 2010, pp. 2-3.

Extinction of the polar bear would, nevertheless, be a loss. Individuals could be kept and bred in zoos, but the species would depart from the wild and with it an awesome example of natural selection. The Arctic environment would lose its top mammalian predator, but here its chief prey species, the ringed seal, would not flourish, having also lost its environmental niche. The disappearance of these species would be only an immaterial, intellectual loss to most people.

3. Is it important that humanity act to save the polar bear? Why or why not? It is not important to save the bear to prevent direct economic losses. It is not necessarily important to save it simply to know it is still there. One argument for saving it is the self-interest of humanity. If the bear’s ecological niche so changes that it cannot survive, that ecosystem change might bode ill for human survival. Another argument is that humanity has a moral or spiritual duty to protect nature, its processes, its terrain, its living elements, and its metaphysical essence. One student of the polar bear puts the arguments this way. [Polar bears] are the envoys from the real world sent to remind us of our obligations as stewards of this planet and its fragile ecosystems. They stand for the eternal beauty of nature, for wildness,... [and] for everything that human beings need to protect in order to survive.7

4. Can the bear be saved? What actions are required? In theory the gathering forces that will endanger the polar bear can be blunted. 

Predicted Arctic warming is the most ominous force. Arctic warming is associated with rising air temperatures and warming sea currents. These, in turn, are associated with human activity releasing carbon dioxide and other gases that trap more solar energy in the earth’s atmosphere. If nations could agree to cut drastically emissions of these gases to preindustrial levels warming might reverse. This will not happen.



Oil and mineral development in circumpolar regions has the potential to disturb the bears. Some of the last and largest unexploited oil fields, containing as many as 50 billions barrels in United States territory alone, now lie near and under Arctic oceans. As ice retreats development becomes more attractive. Aircraft, ships, drilling sites, and oil spills can disrupt bears. Oil production could be banned. This is unlikely while national economies are heavily dependent on oil. Besides oil, geologists believe that ice retreat will uncover big deposits of iron ore and zinc.



As areas of ocean ice shrink new shipping lanes will open in Arctic seas, making them attractive as trade routes. Shipping will increase. Exploitation of new routes would have to be limited to avoid intrusion of tankers and cargo ships in bear habitat.



Chemical pollution of the Arctic food chain may be harming bear health. Removing organic chemicals such as DDT from the Arctic food chain is impractical. But the risks they pose to species survival are unknown and probably insignificant. No action is necessary or likely here.

7 Richard Ellis, On Thin Ice (New York: Vintage Books, 2009), p. 278.



Carbon particles from combustion are transported in the atmosphere to the Arctic where they fall on snow or ice, decreasing reflectance and increasing heat retention. Large global reductions in diesel exhaust are necessary to eliminate this deposition. They will not soon occur.



Tourism in areas populated by the bears is growing. It could be limited to avoid more disturbances.



Encounters between humans and bears will increase as more production workers come to oil fields and more adventurers hike, ride, camp, and kayak in bear habitat. These encounters are most often fatal to bears.



Hunting of bears continues. Each year about 2 to 3 percent of the bear population is killed by hunters or in chance confrontations with humans. Hunting could be prohibited. Some countries now do so, but in Canada there is strong political pressure to continue the Inuit cultural tradition of subsistence hunting. Bears cannot be moved to Antarctica, which is a rocky continent lacking the sea ice habitat they need to survive. Bears can live and reproduce in zoos, so the species could survive in captivity in small numbers. Captive breeding is suggested as an “insurance policy” for threatened species.8 Recently two hybrid bears, the offspring of polar and grizzly bears, were killed by hunters in the Canadian Arctic.9 Such interbreeding is not a solution. The “pizzlies,” as they were called, would not be finely adapted to either Arctic or forest environments and would be at an evolutionary disadvantage.

5. Should more be done now? If so, what is feasible? If Ursus maritimus is to be saved, it is prudent to do more now. Yet little is feasible. The action that would help most, limiting global emissions, is beyond current human resolve. In the United States statutory authority under the Endangered Species Act is inadequate to force even national emissions reductions. The Clean Air Act does not mandate sufficient reductions. As an alternative to regulatory action, plaintiffs emerged attempting to use federal nuisance law to curb emissions. 

The City of Kivalina, a small village in Alaska sued Exxon Mobil and other oil companies claiming that the company’s emissions were responsible for the global warming that was melting sea ice protecting nearby shores from erosion. It claimed the emissions were a public nuisance and the companies must pay to move the village. The case was eventually dismissed because the court felt the issue was a political question not for the courts to decide.10

8 See D. A. Conde, et al., “An Emerging Role of Zoos to Conserve Biodiversity,” Science, March 18, 2011. Today zoos and aquariums hold about 15 percent of threatened species worldwide. 9 “Hybrid Bears on the Move,” National Geographic, June 2011. 010 Native Village of Kivalina v. ExxonMobil, 663 F. Supp. 2d 863 (2009).



Mississippi Gulf coast property owners sued oil and chemical corporations for emitting greenhouse gases that increased the ferocity of Hurricane Katrina and destroyed their property. A federal court has given the plaintiffs standing to assert this claim, but it has not yet been tried.11 This case was doomed by the Supreme Court’s decision in the following case.



Eight states and the City of New York sued six electric power companies with power plants in twenty states, arguing that greenhouse gas emissions from these plants contributed to global warming that harmed human health and destroyed societal resources. The plaintiffs claimed the companies should be held liable for damages under federal and state nuisance laws. In 2011 the Supreme Court rejected the states’ argument, holding that global warming emissions should be regulated by the EPA under the Clean Air Act, not by federal judges hearing nuisance claims.12

Such lawsuits have little promise. In the meantime, environmentalists slow oilfield development in Alaska by litigating over oil exploration permits. They have also tried to shut down the 800-mile Trans-Alaska Pipeline, arguing it is too old to operate safely. If it no longer operated, it would not be practical to produce oil in northern oilfields.

6. Would the economic and noneconomic benefits of saving the bear exceed the costs? The economic costs of saving the bear are both astronomical and incalculable. Poorer nations would have to slow or halt economic development. China would need to cut its energy use drastically. Consumer prices would rise in rich nations, threatening their economies with recession. As opposed to this sacrifice, the short term economic benefits of saving the bear are as insignificant as an ice cube in the Arctic Ocean. Noneconomic benefits, including moral satisfaction and aesthetic delight in the species are elite diversions that would escape most of the worlds’ population.

11 Ned Comer, et al., v. Murphy Oil USA, et al. 585 F.3d 855 (2009). 212 American Electric Power v. Connecticut, No. 10-174 (2011).

1 4 Managing Environmental Quality SUMMARIZING OUTLINE The chapter begins with a story about health risks from diesel exhaust for people living near California railyards. Chapter text begins with an explanation of the Environmental Protection Agency’s two-part risk analysis model. The first part is the four-stage, science-based risk assessment procedure. The second part is the risk management process in which decisions are based on law, economics, politics, and ethics. Benefitcost analysis and the merits of alternative regulatory approaches are explained. The chapter ends with a section describing management methods and strategic approaches that companies use to reduce adverse environmental impacts. 



The introductory story is about a complex of four railyards in Commerce, California. 

The railyards saturate the air with diesel exhaust, a complex mixture of gases and particles containing at least 40 chemical carcinogens.



Inhalation of diesel exhaust from the railyards exposes thousands of residents of Commerce to cancer risks as high as 800 in a million. It exposes 1.3 million nearby residents of Los Angeles to an elevated cancer risk.

The chapter text begins with a discussion of regulating environmental risk, defined as a probability existing somewhere between zero and 100 percent that a harm will occur. To analyze and manage risks, the Environmental Protection Agency uses a two-part model.



One part of this model is a science-based risk assessment process consisting of four steps. The steps are illustrated mainly as they apply to assessment of cancer-causing substances. 





Hazard assessment establishes a link between a substance and human disease. 

Animal tests are often used to establish this link. Animals are exposed to high doses, then dissected to check for tumors. The tests are criticized. High doses and differences in animal physiology make relevance of test results to humans questionable.



Epidemiological studies, or statistical surveys designed to show a relationship between human health effects and environmental exposures, also identify hazards. Although they measure dangers to humans directly, they have low statistical power due to latency periods, multiple exposures, and other problems such as inaccurate death certificates.

Dose-response assessment is a quantitative estimate of how toxic a substance is to humans or animals at varying exposure levels. 

The EPA usually assumes a linear dose response rate between risk and exposure, meaning that risks rise in proportion to exposure amounts.



For most chemicals, regulators use extrapolation (or the inference of the value of an unknown state from the value of another state that is known) from high doses to predict effects on human populations at much lower doses.



Some carcinogens have a threshold. That is, they do not produce tumors at low exposures and pose no risk until the threshold exposure amount is reached.



Exposure assessment is the study of how much of a substance humans absorb through inhalation, ingestion, or skin absorption.



Risk characterization is an overall conclusion about the dangers of a substance. It is usually a detailed, written narrative based on the weight of quantitative and qualitative evidence. 

Benzene is used as an example.



EPA policy is to regulate when risk to a human population exceeds 1 in 10,000.

The second part of the EPA’s two-part model is risk management, or choosing how to manage risks once they are characterized.



Control options are alternative methods for reducing risks. These include both scientific and regulatory options.



Legal considerations include readings of environmental laws to see what actions are mandated. Some laws allow decisions based on the best control technology. Some allow moderate or reasonable risks. Others dictate controls to reach no-harm levels.



Economic and social factors include analysis of costs and benefits and polling to discover public preferences. 

Cost-benefit analysis is the systematic identification, quantification, and monetization of social costs and social benefits so they can be directly compared. 

It has certain advantages. For example, it forces consideration and weighing of many factors, invites rational thinking, and promotes efficiency by revealing marginal abatement costs.



On the other hand, it requires subjective, controversial assumptions about monetizing the value of human life and environmental features. Environmentalists believe it invites unwise trades of environmental quality for economic benefit.



One method used for putting dollar amounts on environmental goods is contingent valuation, a polling process that asks people what sum they are willing to pay for untraded goods, such as an environmental quality or feature. Responses are averaged to calculate monetary value.



Methods of calculating the value of a statistical life are controversial. The EPA now calculates it as the amount that people exposed to pollution are willing to pay to reduce the risk of premature death.



Regulatory options for controlling pollution risks lie on a spectrum. At one end is strict control, at the other complete freedom. The EPA uses the following approaches.



Command-and-control regulation introduces predictable, uniform standards applied to all companies. It can be inflexible and expensive.



Market incentive regulation gives companies financial motives to reduce pollution, allowing freedom to create cost-effective abatement methods. 

Environmental taxes can be imposed on polluting emissions or products. Some nations experiment with environmental tax reform, or the substitution of revenues from taxes on pollution for revenues from taxes on productive activities such as sales, revenue, or payroll taxes.



Emissions trading programs, sometimes called cap and trade programs, allow the most efficient companies to cut relatively more pollution and get the same emissions reductions as command-and-control regulation but at lower cost. Such programs require the following steps.





Set an overall cap, or limit, on emissions of a pollutant.



Allocate permits (usually annual) to companies equaling the emissions they are allowed to release.



Fine companies for polluting over their permit limits.



Allow companies to buy and sell permits on an open market.



Gradually lower the cap at scheduled intervals.

Cap-and-trade programs for greenhouse gases allow carbon offsets, or projects that compensate for a company’s greenhouse gas emissions by eliminating the CO2 equivalent of those emissions from another source. 

Such projects include planting trees, paying farmers not to till their soil, and recovering methane from pig farms.



Environmentalists criticize offsets, comparing them with the sale of indulgences by the medieval Church.



Information disclosure harnesses market forces by affecting consumer perceptions and equity prices. An example of its use is the Toxics Release Inventory, an EPA program that requires industrial facilities to disclose emissions and spills of hazardous chemicals.



Voluntary regulation is regulation without statutory mandate, compulsion, or sanctions. An example is Climate Leaders, an EPA program that invites companies to set goals for reducing greenhouse gas emissions and report on their progress.





There are many incentives and pressures for corporations to protect the environment. Corporate environmental responsibility is most often a response to external forces.



Proactive companies adopt environmental management systems. These systems orchestrate methods and tools for aligning corporate strategies, policies, and operations with principles that protect the environment.



ISO 14001 is a set of standards developed by the International Organization for Standardization to be a model for environmental management systems.

Leading companies take many actions to elevate their environmental performance. These categories of action are discussed. 

Some companies take precautionary actions in keeping with an evolving global norm known as the precautionary principle, or the idea that risky industrial activities should be restrained when their dangers are yet unclear. DuPont took its popular Scotchgard fabric protector off the market when it learned that a chemical it contained was widely present in human tissue, though danger was unproven.



Many companies have pollution prevention programs to alter industrial processes so that pollution is not generated. This philosophy stands in contrast to use of end-of-the-pipe control technologies that remove pollutants after they are generated.



Product analysis detects environmental problems through the product life cycle.



Environmental marketing takes advantage of possibilities for revenue creation in green products, services, or advertising appeals.



Environmental metrics are used to measure environmental performance and costs of environmental management. Examples given are a “dashboard” of indicators used by Office Depot and quantitative environmental goals set by Dow Chemical.

Note

Case

HARVESTING RISK This case tells the story of Amvac, a pesticide manufacturer. It raises questions about Amvac’s strategy, which is to buy relatively dangerous pesticide brands and milk them for profits as obsolescence and regulatory censure close in. It illustrates the idea of risk discussed in the chapter and also the difficulties of regulating risk. It raises ethical issues regarding the molecular-level dangers that Amvac’s pesticides pose to human health.

Answers to Case Questions 1. Does Amvac have an ethical strategy? Ethical issues are raised by three elements of Amvac’s strategy. First, it buys aging organochlorine and organophosphate brands from the big agrochemical corporations. These pesticides have been superseded in major markets by safer products. Second, it seeks new markets for the old brands to extend their life. Some of these are domestic niche markets. Some are foreign markets where regulations still permit broad application. Third, it resists regulators who threaten to limit or cancel registrations. Since its pesticides are ed and marketing is consistent with approved uses, its actions are legal. Legality may set a low bar for ethical behavior. However, Amvac’s actions can be defended as compliant with laws and regulations. The central ethical issue is that Amvac sells pesticides that pose risks to human health, wildlife, and nature. Pesticides are inherently dangerous. Their use is justified by utilitarian arguments that the benefits to society exceed the risks. Amvac’s strategy reduces the net benefit in the utilitarian equation because its brands pose a greater risk than those of other manufacturers. Therefore, Amvac has a narrower margin of ethical legitimacy than competitors with newer, safer products. Even if there is a net gain to society in Amvac’s brands, its strategy might be ethically questionable because its actions increase risk unnecessarily. Amvac is also subject to the basic criticism of business noted in Chapter 4 on “Critics of Business.” That is, that it places profit before more worthy values including protection of human health and the natural environment.

2. Do you believe that Amvac is faithful to its ethics code? Does the code adequately address the consequences of its operations? What might be added or changed to improve it? There is no evidence that anyone at Amvac has acted unethically. The company’s operations raise certain broad ethical issues. Its strategies impose a system that may lead individuals to decisions with ethically questionable consequences for those who apply or have unintended exposures to Amvac products.

The “American Vanguard Corporation Code of Conduct and Ethics” is posted on the company’s Web site at www.americanvanguard.com/Governance/CodeofConductandEthics/tabid/96/Default.aspx. It begins with a section that sets its overall tenor. It says that employees should achieve “business and personal ethical standards” and comply with laws and regulations. The overall standard is to have “high ethical conduct.” Since the Code cannot anticipate every ethical conflict, the company states its intention to rely on “an individual’s sense of what is ethical.” Employees are also instructed to make decisions that “reflect care for all of our stakeholders.” The bulk of the 2,400-word code is devoted to specific areas of ethical concern, including conflicts of interest, gifts, confidentiality of information, protecting personnel and ing records, the company’s rights to intellectual property developed by its employees, accuracy of financial statements, insider trading, antitrust compliance, discrimination, sexual harassment, and protecting the environment. The “Environment” section is short, only six lines. It seems intended to warn employees to be careful when they dump waste or discharge chemicals into the air or water. It notes the need to comply with regulations. A final section discusses how the Code is istered. It is distributed to all employees, who must certify their receipt. Violations are reported to of the audit committee on the Amvac board of directors or to any board member. Nothing in the Code addresses the ethical issues raised in the case study. It does not define the company’s stakeholders, although there is a prohibition against dealing unfairly with “customers, suppliers, competitors and employees.” Applicators of pesticides are never mentioned. There is no statement that makes protection of human health a priority. Overall, the Code is basic and generic. It could serve virtually any manufacturing company as written. It does not directly address unique ethical issues raised by Amvac’s business model. For example, there is no section on product safety. The Code is positive, helpful, necessary, and probably inadequate.

3. Should the law prohibit Amvac and others from exporting pesticides barred from use in the United States? There are two views. Progressives often want to see the regulatory standards of developed nations become global standards. Others argue that this is an imposition on the sovereignty of developing nations, which deserve autonomy in developing their own rules. The scientific expertise necessary to evaluate pesticides may lag in developing nations. The political will to regulate powerful agricultural interests may not be present. Amvac’s export sales have grown. In 2010 they were 17 percent of net sales, more than double their 7.3 percent in 2006.1

1 American Vanguard Corporation, Form 10-K, April 10, 2011, p. 6.

4. Is the value to society of pesticides such as dibromochloropropane, mevinphos, and dichlorvos great enough to warrant the risks they pose? This is a matter of opinion. It is a utilitarian calculation. Monetized figures allowing comparison of benefits to costs do not exist. The discussion in the case study about the overall benefits and costs of pesticide use reports evidence of both great costs and great benefits. The costs decline now as new generations of pesticides and biological alternatives to pesticides prove less dangerous. Amvac is extending the lives of older, more risky pesticides.

5. If economic and market conditions remain favorable for Amvac’s strategy, would you buy its stock? This question invites students to reveal their values. Those who prioritize financial gain will buy the stock. Those who prioritize prudence will not. Prudence, according to Aristotle, is the ability to deliberate and choose both good ends and good means.2 A prudent person chooses practical lines of conduct that benefit both him or herself and others.

2 Aristotle, The Nichomachean Ethics, trans. J. A. K. Thomson, rev. ed. (New York: Penguin Books, 1976), pp. 21216.

1 5 Consumerism

SUMMARIZING OUTLINE The chapter begins with the story of Harvey W. Wiley, a crusader for pure food laws in the early 1900s. Consumerism is defined. The rise of consumerism as a powerful ideology of material acquisition is explained. The attacks on and defenses of the consumer ideology are set forth. Then the actions of government agencies to protect consumers are reviewed. Finally, basic protections for consumers in product liability law are discussed. At the end of the chapter, the case study raises questions about alcoholic beverage advertising. 

The introductory story is about Harvey W. Wiley. 

Wiley was principled and idealistic. He came to Washington, D.C., to head the Bureau of Chemistry in 1883. This small agency was charged with detecting adulteration in foods.



Wiley discovered widespread fraud and impurity. He campaigned for laws to regulate food companies and protect the public.

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As part of this campaign he staged a dramatic experiment in which he fed small groups of volunteers high doses of common chemical preservatives. The volunteers were known collectively as the “poison squad.”

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The experiments and other pressures moved Congress to the Pure Food and Drug Act in 1904.

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

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Wiley and his agency, which would evolve into the Food and Drug istration, enforced the new law. But his strict, vigorous, and uncompromising enforcement alienated industry leaders, who succeeded in undermining his authority.



Wiley resigned in frustration and defeat. He continued working for consumer causes. He might be called the nation’s first consumer advocate.

Consumerism is a word with two meanings. 

First, consumerism is a movement to promote the rights and powers of consumers in relation to sellers of products and services.



Second, consumerism is a powerful ideology, in which the pursuit of material goods beyond subsistence shapes social conduct.

Consumerism as an ideology first appeared in Western Europe about 300 years ago. Its appearance is explained by the rise of conditions that gave new importance to the acquisition and display of material objects. These conditions include the following. 

Economic progress.

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Expanding trade with colonial empires that brought in new products.

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The rise of small shops and innovations in advertising and marketing such as window displays and print ads.

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The decline of religious doctrines that stifled pursuit of material pleasures.

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The rise of individualism.

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Growth of cities.

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The breakdown of traditional status boundaries.

The consumer ideology rose in the United States in the late 1800s, after similar changes prepared the ground. The changes included these. 

An Ascetic Puritan theology relaxed its grip.

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Individualism grew stronger.

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International trade expanded, the American economy grew, and some became affluent.

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Expansion of the railroads created national markets.

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A merger wave created large businesses to serve these markets.

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New consumer products such as autos, watches, and refrigerators appeared.

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People left small towns and moved to growing cities, ing waves of immigrants.

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Traditional status distinctions loosened.

Critics of consumerism have fought a losing battle against its spread. 

Henry David Thoreau rejected material life, living in the woods and writing clever essays to puncture the pretenses of people in his era striving for wealth and possessions.



Economist Thorstein Veblen satirized consumers who spent, not to gain ordinary utility from their purchases, but to create invidious comparison with their neighbors and display status through conspicuous consumption.

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Attempts to create sanctuaries from consumerism, including Sunday closing laws for stores, known as blue laws, and efforts to keep advertising out of schools and reduce advertising aimed at children, have failed. Prescriptions for thrift and simple living attract few converts.

Critics make these arguments, all based on the idea that material values undermine “higher” values. 

Consumerism leads to commodification of life. People are judged by their possessions.



Consumption for emotional reasons encourages unwise, unproductive uses of money.

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Heavy consumption wastes natural resources.

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Consuming luxury items evidences the sins of gluttony and greed.

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Consumerism distorts values. For example, it converts profligacy into social status.



Consumerism is a pathology of corporate capitalism that leads corporations to manipulate consumers.

The triumph of consumerism despite persistent criticism is evidence of important virtues. Its defenders make these points. 

Products and services are designed to fulfill consumer needs. Fulfilling both explicit needs and latent needs awakened by marketers has emotional benefits.



Competition to satisfy consumer needs works to bring consumers lower prices and higher quality.

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Proliferating product and service choices stimulate consumption and, in turn, economic growth.

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Happiness derived from material acquisition is as fulfilling as happiness derived from nonmaterial pursuits and just as fulfilling.

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



The rise of consumer ideology is paralleled by a progressive social movement to protect consumers from fraud, deception, and greed using government power. 

In the United States this movement began with the Populists and the Progressives in the late 1800s and early 1900s.



A new era of activism in the 1960s and 1970s prompted a more recent wave of legislation to protect consumers. 

Consumer critics, including Ralph Nader and Vance Packard, created public discontent and for government action.



President Kennedy gave impetus to the movement in a 1962 speech setting forth basic rights of consumers.



Congress responded by ing more than a dozen consumer protection statutes and creating four new federal consumer agencies.

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Since the mid-1970s, consumer activists have been less successful in getting new laws. However, spending to enforce existing laws has grown continuously as consumer agencies mint new rules.

More than fifty federal agencies are active in consumer affairs. Short sketches of four of the most important ones are given. 

The Food and Drug istration, created in 1906, is the oldest and largest consumer protection agency. It has 11,500 employees who enforce 42 statutes regulating foods, drugs, medical devices, cosmetics, tobacco, and radiation-emitting products.



The Federal Trade Commission is another venerable agency. It was created in 1914 with broad powers to protect the public against unfair competition. It also protects consumers against deceptive advertising, sales fraud, and lender discrimination.



The Consumer Product Safety Commission was created in 1972 to protect consumers against injury from consumer products. With fewer than 500 employees to regulate more than 15,000 products it is an agency overwhelmed by its mission.



The National Highway Traffic Safety istration was created in 1966 to set safety standards for autos and trucks. Its regulatory actions are one factor in the decline of highway fatalities since its creation.

Product liability is a doctrine in the law of torts that covers redress for injuries caused by defective products. There are three fundamental theories. 

Negligence. Manufacturers and sellers have a duty to do what a reasonable, prudent person exercising ordinary care would do under the same circumstances.





In the late 1800s and early 1900s product liability doctrine was undeveloped and manufacturers were protected from findings of negligence by two obstacles in the law. 

First, the principle of caveat emptor, a Latin phrase meaning let the buyer beware, imposed responsibility on consumers to inspect products they bought. The legal presumption was that if a product had a defect, the injured consumer should have been wary and spotted it.



Second, the principle of privity held that consumers could sue only the party that sold them the product. This made it difficult to sue manufacturers and hold them negligent.



Both principles became outmoded as America grew into a consumer society and courts broke them down.



One milestone case was Maherson v. Buick Motor Co., in which the court held that a consumer could sue Buick, the manufacturer, directly. Buick was found negligent for a defect in the wheels.

Warranty. A warranty is a contract in which the seller guarantees the nature of the product. If the product does not conform to the standards in the warranty, the buyer is entitled to compensation for any consequent loss or injury. Two kinds of warranties are recognized. 

An express warranty is an explicit claim made by the manufacturer to the buyer that the product will perform in a specified way.



An implied warranty is an unwritten, commonsense warranty arising out of the buyer’s reasonable expectations that a product will fulfill its ordinary purpose and the particular purpose of the buyer. 



Strict liability. Under the doctrine of strict liability manufacturers and sellers can be held liable without a showing of negligence. It applies where the product is inherently dangerous even if properly manufactured. 



A landmark case is Henningsen v. Bloomfield Motors, in which the court held that limitations on the express warranty for a Plymouth were overridden by an implied warranty that the car was suited for ordinary use.

The landmark case is Greenman v. Yuba Power Products, in which a consumer who was injured using a power tool sued the manufacturer and won after the court held that, although the company had not been negligent, the machine’s design was defective.

Product liability law is intended to compensate victims and to deter future corporate wrongdoing. A basic trend, through the twentieth century but especially since the 1960s, is expansion of this law to favor injured plaintiffs.





Product liability lawsuits create both benefits and costs. They are responsible for removing many dangerous products from the market. On the other hand, they dampen innovation and impose insurance costs on companies.

In sum, this chapter discusses two perspectives on consumerism. First, consumerism is a powerful ideology that has swept across America and the world. Second, as a protective movement, consumerism has led to expansion of government power to regulate business and expansion of legal doctrines designed to protect consumers from fraud and injury.

Note

Case

ALCOHOL ADVERTISING Alcoholic beverages pose risks to society. Companies making them face serious, long-term opposition. About 10 percent of Americans want to ban alcohol. Others are concerned about its consequences for youthful drinkers, particularly drunken driving accidents. Much ire is focused on advertising. The nature of the product dictates use of brand image advertising, but activists find this approach manipulative, misleading, and irresponsible. Image ads inflame the industry’s adversaries and some of them want to dictate the kinds of ads it can use. However, proposals to ban or limit ads collide with speech protections in the First Amendment. Students can discuss the advertising used by the industry. This advertising surrounds us. Although the companies have faith in its efficacy, most students do not believe it affects their consumption. They do not see themselves as gullible and they are unaware of using alcohol brands to satisfy emotional needs.

Answers to Case Questions 1. Were Spykes and Wide Eye bad products? Do you think they were marketed in objectionable or misleading ways? Do you think companies should be allowed to market other caffeinated alcoholic beverages? Spykes and Wide Eye were innovative products. Spykes was an effort by Anhe-Busch to compete for younger drinkers increasingly attracted to novel distilled spirits products. Wide Eye, a caffeinated schnapps beverage was an example. Both sought to capitalize on market trends including caffeination, sweet and fruity flavors, and unconventional ingredients such as ginseng, guarana, and ginkgo biloba. Sales of

products in the caffeinated alcoholic beverage category were growing and several dozen brands had appeared. These were “good” products in the sense that they fulfilled consumer needs. The very traits that made Spykes, Wide-Eye, and the others “good” in the market stigmatized them among antialcohol crusaders. Features that attracted young drinkers such as inviting flavors, small containers, large containers, garish container labels, and Web sites with adolescent themes and imagery were red flags. The use of caffeine was another red flag. Its stimulant action was said to mask impairment for inexperienced drinkers. In short, anything that made this new alcoholic beverage alluring to its target audience was damning to antialcohol groups.

Soon caffeinated alcoholic beverages were demonized in the media. Politicians attacked their manufacturers and ed laws restricting or prohibiting their use. In 2009 the Food and Drug istration sent letters to 27 companies asking them to explain why caffeine was a safe ingredient in their products. Then in 2010 the agency sent letters to four manufacturers saying they had failed to show that caffeine was a safe ingredient and it was recommending that consumers avoid them. The companies were given 15 days to respond before the agency sought a court order to stop the sale of their caffeinated products. 1 All four discontinued their products or reformulated them without caffeine. Reason magazine described the assault on these drinks as a “moral panic” brought on by “the guardians of public health and morals” who were offended by their “popularity among young partiers.” 2 It pointed out that mixing caffeine and alcohol is an old custom. Adults drink coffee cocktails and pour whisky or liqueurs into after-dinner coffee. The only thing offensive about Spykes, Wide-Eye, and Four Loko, it argued, was their marketing to young adults who were condescendingly taken as especially innocent and reckless. So were Spykes, Wide-Eye, and the others “bad” products? Based on their overall market performance the answer is no. Based on the consequences for their corporate parents the answer is yes. Anhe-Busch, Constellation Brands, Phusion Projects, and other companies were subject to considerable criticism followed by regulatory action and, ultimately, the need to discontinue or reformulate brands. For those who are critical of youth alcohol consumption they were “bad” products because their social impact was said to be negative. Their abuse was associated with rapes, assaults, drunken driving, and fatal accidents. Should the companies be allowed to market other caffeinated alcoholic beverages? In practice they will not because the Food and Drug istration opposes them. However, the main problem is not caffeine in beverages. It is marketing imaginative products to youthful drinkers. When Phusion Projects removed the caffeine from Four Loko and remarketed it attacks continued. Four Loko comes in sweet flavors and is sold in colorful 23.5 ounce cans. Critics call it “blackout in a can,” “cocaine in a can,” and even “killer in a can.” Its marketing is said to encourage underage drinking. Although it no longer contains caffeine, its days may be numbered. Similar attacks have been mounted on Blast, a new fruit-flavored malt beverage from Pabst that contains 12 percent alcohol by volume and comes in a 23.5 ounce can. It has been derided by attorneys general from several states as a “binge in a can.”3 There is a perennial war between product innovation and social standards enforced by the antialcohol coalition.

1 Food and Drug istration, “Serious Concerns Over Alcoholic Beverages with Added Caffeine,” FDA Consumer Health Information, November 2010. 2 “Loco over Four Loko,” Reason, March 2011, p. 48. 3 David Kesmodel, “Pabst’s New Label Faces Heat,” The Wall Street Journal, April 22, 2011, p. B8.

2. Do alcoholic beverage companies fulfill their ethical duty to be informative and truthful in advertising? Do they generally uphold their ethical duty to minimize potential harm to society from underage drinking? Industry claims a right to with some voluntary restrictions and minimal regulation by government. In the law this right is protected by the First Amendment, which is the basis for the Supreme Court’s commercial speech doctrine. In practice, the industry receives broad protection for its advertising claims. In traditional ethical doctrines, rights and duties are linked. Therefore, rs exercising First Amendment rights have a corresponding duty to make an ethical sales pitch. At a minimum, rs have these general ethical duties. 

The duty to tell the truth and make honest claims.



The duty to accept responsibility for the consequences of their ads.



The duty to work for a positive societal impact and to avoid doing harm. Ads should not undermine societal values.



The duty to respect and preserve the free will of consumers in buying decisions.



Alcoholic beverage companies have an additional duty to avoid appeals to underage drinkers.

Students can be asked to discuss whether alcohol rs are fulfilling these duties.

3. Are some beer, wine, or spirits ads misleading? What examples can you give? What is misleading in them? Do some ads contain images and themes that go too far in appealing to an audience under the legal drinking age? Can you give examples? Two basic kinds of advertising are informational advertising and persuasive advertising. Although all advertising is intended to persuade, persuasive advertising is characterized by heavy reliance on emotional, nonlogical appeals. It is often used in oligopolistic consumer products industries where products are virtually identical and companies have parallel pricing policies. Its purpose is to build brand loyalty and keep new entrants out of the market unless they can afford the national advertising campaign needed to launch a brand and give it a distinct image. Alcohol ads typify this approach to advertising. Most do not lay out straightforward information about product features. Rather, they show lifestyle images and offer slogans. Partly for this reason, and partly because they fail to acknowledge health risks, critics see them as misleading. Unlike information ads that use words to convey facts, words in lifestyle ads have emotional appeal but often lack clear meaning. What, for example, is the literal meaning of print slogans such as “You’ve come a long way, baby” (Virginia Slims), “Just do it” (Nike), “No one does it like the bull” (Schlitz Malt Liquor), “Bacardi by night” (Bacardi), or “Works every time” (Colt 45)? Some critics say such phrases compound the misleading character of alcohol ads. The same charge could be leveled against catchphrases in political speech. What, for example, is the literal meaning of “New Deal,” “New Frontier,” or “New World Order”?

A more comprehensive list of reasons why alcohol ads may be thought misleading follows. 

The words in them convey no logical meaning.



Products are associated with and subtly promise youth, vigor, athletic prowess, sex appeal, success, wealth, and other things consumers desire. Yet they cannot deliver. There is no connection in life between alcohol use and these attributes, except in the minds of gullible consumers.



The ads encourage young people to drink at times in their lives when decisions lack maturity.



Alcohol has health risks, but ad imagery overshadows government-mandated warnings-when warnings appear at all.



The ads appeal to emotionally vulnerable consumers and they seduce the weakest in the audience to compensate for psychological deprivation by using alcohol.



The cumulative effect of millions of staged scenes spewed out by alcohol companies is that the average American sees drinking as part of an acceptable, even glamorous, lifestyle.



The ads use subliminal appeals, such as phallic symbols or mysterious pictures drawn in ice cubes. Critics do not attribute much significance to this occasional practice, but some students have heard of it and think it is effective and conspiratorial.

Naturally, the alcohol industry does not regard its ads as misleading. Its trade groups claim that critics take a condescending view of drinkers, portraying them as gullible or irrational. The ads, they say, are competitive weapons in the struggle for market share. Emotional appeals are an accepted part of the advertising game and used in many industries. Theodore Levitt argued in a classic article that puffery in advertising is necessary to express the capacity of a product to fulfill legitimate emotional needs.4 What a boring place the world would be, declared Levitt, if all ads were simply dry and informational.

4

Theodore Levitt, “The Morality (?) Of Advertising,” Harvard Business Review, July-August 1970.

4. Do you believe there is a need for more restrictions on alcohol advertising? If so, what limits are needed? Explain how a ban or any restrictions could meet the Central Hudson guidelines? The belief in the need to ban or restrict alcohol ads is a matter of opinion. Some critics want a complete ad ban, but it is unlikely that this extreme measure would survive a court test. Inspired by the success of attacks on tobacco advertising designed to reduce its influence on children, advocates of curtailing alcohol ads have similarly sought to protect underage and youthful viewers. Many of their proposals were combined in a bill introduced in the House of Representatives more than a decade ago by Rep. Joseph P. Kennedy II (D-Mass.). 5 

Alcohol ads would be prohibited in video games or films and on billboards within 1,000 feet of schools and playgrounds.



In publications with 15 percent or more readers under age 21, ads would be restricted to text and black and white only; no images would be allowed.



No television ads could be broadcast between the hours of 7:00 A.M. and 10:00 P.M.



Hats, T-shirts, coffee mugs, and other promotion items with the brand name of an alcoholic beverage would be prohibited.



On college campuses, companies would be prohibited from using brochures, giving away free drinks, and sponsoring concerts, dances, or sports events. Ads in college newspapers could contain only product names and prices.



The tax deductibility of ads for beer, wine, and spirits under the Internal Revenue Code would end.



Health warnings would be required on beer, wine, and spirit labels. (In the past, ad opponents have wanted health warnings in alcohol ads as well.)



In a separate bill, Rep. Kennedy would have required the Federal Communications Commission to write a voluntary advertising code for limiting children’s exposure to alcohol ads.

5

H.R. 1982 (1997).

Kennedy’s bill was opposed by industry and failed to come to a vote. Yet the ideas in it have not lost favor among those who want ad restrictions, and they continue to resurface in policy proposals. How can the constitutionality of bans or restrictions be evaluated? In the Central Hudson case in 1980 the Supreme Court set up a four-part balancing test for situations where government has imposed bans or restrictions on commercial speech.6 The four parts of the test, with brief comments, are these.

152.

Commercial speech must concern lawful activity and not be misleading. Alcohol ads would not be deprived of constitutional protection on either count. Buying alcohol is lawful for adults and typical lifestyle ads would not violate any legal definition of misleading. Only advertising aimed at children or containing objectively false statements would fail here.

153.

The government interest in preventing underage drinking would have to be substantial enough to warrant speech limits. The government might argue that social problems caused by teen drinkers, such as drunk driving accidents, impose costs on society and create a substantial interest in curbing ads. The industry would argue that the government interest is small and indirect.

154.

Ad limits and restrictions would have to advance the government interest directly. Government must show that restricting ads in certain media, places, and times would make substantial inroads into problem drinking. This is a difficult task. Industry lawyers would retort that the government could not prove a connection between ads and underage drinking. The government would lose here unless it had studies showing a connection between various ad practices and, say, drunk driving behavior.

155.

The ad ban must not be more extensive than necessary to advance the government interest. If there are other ways to curb underage drinking that are less restrictive of speech, they should be preferred. Counter advertising, public service advertising, enforcement of point-of-sale restrictions, and increases in excise taxes are several measures that might have equal or greater impact than ad bans.

Overall, it is unlikely that the Supreme Court would uphold broad restrictions. Recent commercial speech cases suggest the justices are skeptical of ad restrictions and believe that if the government’s purpose is to solve a social problem, such as excessive drinking, it should exhaust other policy remedies before trying censorship. It has applied this test in two cases where government restricted alcohol advertising.

6

Central Hudson Gas & Electric Corp. v. Public Service Commission, 447 U.S. 557.

156.

In Rubins v. Coors Brewing Company the Court struck down a federal statute prohibiting labels from disclosing the amount of alcohol in a beer bottle and the use of wording such as “extra strength” suggestive of high alcohol content.7 The government argued that the rule was necessary to prevent so-called “strength wars” in which brewers compete by raising alcohol content and impose the resulting social costs on the public. The Court held that although this interest was legitimate, the government failed to prove that censoring labels would accomplish it.

157.

In 44 Liquormart v. Rhode Island the Court struck down a state law banning price advertising for alcoholic beverages.8 The state argued that the law was necessary to promote temperance, but the Court held that there was no evidence it did so.

The Supreme Court’s commercial speech test applies only to restrictions imposed by government. Alcohol rs can voluntarily restrict their messages and they do. As discussed in the case study, the trade associations representing brewers, vintners, and distillers each have voluntary codes that restrict some forms of advertising. They are a source of moral suasion to control borderline practices that might invite more criticism and perhaps government regulation. They are loosely enforced. The Beer Institute and the Distilled Spirits Council of the United States report formal complaints and code enforcement decisions on their Web sites. Students can be assigned to look at these reports and evaluate the industry’s actions in light of its voluntary code and their own standards.

7

115 S. Ct. 1585 (1995).

8

116 S. Ct. 1495 (1996).

16 The Changing Workplace

SUMMARIZING OUTLINE The main body of this chapter discusses six forces changing the workplace: (1) demographic change, (2) technological change, (3) structural change, (4) competitive pressures, (5) reorganization of work, and (6) government intervention. Discussion is centered on the United States, but the chapter includes sections on Europe and Japan and observations about the global reach of these forces. The thesis that global environmental forces cause great turbulence in the workplace runs through the chapter. 

The introductory story is about Ford Motor Company. It illustrates how Ford workers have been affected over the years by the forces discussed in the chapter. 

Ford was started by the inventor Henry Ford, who introduced an autocratic style and failed to keep up with technological change in the auto industry. The impact of competition forced Ford to close assembly plants in 1927 and idle 100,000 workers.



Unions tried to organize Ford workers, but ran into vicious opposition. Despite the worker’s dissatisfaction with company management, it was not until government intervention with legislation and enforcement action that unions were formed.

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

In the 1980s, Ford underwent reorganization of work for both hourly employees and salaried managers because of Japanese competition. This was the beginning of a series of reorganizations running to the present day.



Ford now faces relentless global competition. It is still hampered by a dysfunctional culture that proves impervious to change. Its workers suffer.

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The 2008 financial crisis forced union concessions that lowered production costs and allow management more labor market flexibility.

Six environmental forces shape the workplace. 

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

Demographic change is altering the United States labor force of 154 million in the following ways. 

It is growing at 1.1 percent a year, but growth has slowed compared with historical rates.



It is becoming more diverse. Hispanics and Asians are increasing their numbers faster than whites and blacks. The percentage of women compared with men is rising, but the rise is now slowing.



It is aging. Because the large baby boom generation is aging, the median age of workers is rising. Declining fertility contributes to aging in the labor forces of all developed nations. The American labor force ages more slowly because it takes in many young immigrants.

Technological change affects working conditions and the number and types of jobs available. 

A compelling example of its impact is the quick conversion of 7.6 percent of the labor force from agricultural to industrial work after introduction of mechanical harvesters in the 1850s.



Automation has caused significant job loss in less-skilled manufacturing and service occupations. Coal miners and telephone operators, for example, have lost jobs to mechanization.

Structural change refers to any shift in the proportions of agricultural, goods-producing, and service occupations in an economy. 

The agricultural sector has declined to 1.4 percent of the United States labor force, down from 90 percent in colonial America.







The goods-producing sector that employed 34 percent of workers in 1950 employed only 14.2 percent in 2008. Despite this decline, manufacturing output has increased by approximately one-third.



The service sector consists of occupations that add value to manufactured goods. It employed 40 percent of the labor force in the 1950s. This rose to 77 percent in 2008.



Sector trends in the United States, particularly long-term job loss in agriculture and long-term gains in service jobs, are consistent with trends in other developed nations.



Long-term employment stagnation in the goods-producing sector has been a critical factor in the decline of unions, which represented only 7.2 percent of private sector employees in 2009.

Competitive pressures have intensified. 

For businesses this is due to deregulation, growth in foreign trade that puts domestic firms in competition with foreign rivals, faster new product development, and customer pressure for better service.



Workers in high-wage, developed nations now compete against rivals in low-wage, less developed regions. For example, hourly compensation for manufacturing workers in 2009 was $33.53 in the U.S. compared with $1.17 in India.



Reorganization of work by corporations is an adjustment to environmental changes, primarily competition. A key driver of change is the altered relationship with time and space because of faster communications and cheaper transport.



Outsourcing is the transfer of work from within a company to an outside supplier.



Offshoring is the transfer of work from a domestic to a foreign location or to a foreign supplier.



Offshoring has attracted much attention, but it is a tiny fraction of job loss in the U.S. labor force. Job gain and job loss is a dynamic and healthy process caused by companies adapting to competitive forces.

Government intervention in the workplace has grown in the United States. 

Historically, a strong laissez-faire current in American economic philosophy made government reluctant to interfere in the employment contract, or the agreement by which an employee exchanges his or her labor in return for specific pay and working conditions.





This laissez-faire thinking was reinforced by the old liberty of contract doctrine, which was that employers and workers should be free of government intervention to negotiate all aspects of the employment contract. In the late 1800s and early 1900s courts often struck down laws that interfered with this freedom.



Eventually, due in part to the agitation of a strengthening labor movement, the public and the courts realized that in employment bargaining there was a huge imbalance of power between workers and big companies. The liberty of contract doctrine lost its hold and in the 1930s a wave of federal and state laws were enacted to protect and encourage unions.



Since the 1930s, almost 225 major statutes protecting the rights of employees have been enacted. States have enacted many others. These new laws and accompanying regulations have greatly redressed perceived weaknesses of workers in the employment contract.



Employment-at-will is a legal theory that an employment contract can be ended by either the employer or the employee without notice and for any reason.



Until recently, the interpretation of this theory was that employees could be dismissed for good, bad, or no cause. However, state courts have introduced several exceptions that limit an employer’s ability to fire a worker. 

The public policy exception is that employees cannot be fired for complying with laws and public policies.



The implied contract exception prohibits firings where workers have been promised permanent employment.



The implied covenant of good faith exception is that employers have a duty to be fair to workers and cannot dismiss a worker for unjust reasons.

American workers enjoy a high level of benefits and protections. Workers in other developed nations have similar or greater welfare. 

In Japan, workers receive steadily rising compensation and lavish benefits in community firms, or corporations that operate on a model analogous to a family. 

These firms promise lifetime employment and a comfortable income. In return, they expect absolute loyalty and strenuous effort from workers.

 







Labor unions are not as strong or antagonistic to employers as in the United States or Europe.

Workers in the industrialized nations of Europe have the world’s highest wages and extensive benefits. 

After World War II, European nations adopted a social welfare model of industrial relations in which government heavily regulates the labor market to secure strong rights and high benefits for workers. The model is designed to ensure full employment.



is an example. Among many generous arrangements, German workers get six months notice before being fired. During the global recession in 2008-2009 the German government paid up to two-thirds of the salary of an underemployed worker so their employer would not have to lay them off.

Minimum standards for labor market regulation are set forth in international labor conventions. All nations are called on to comply with four core labor standards. 

Eliminate all forced or compulsory labor.



Abolish child labor.



Eliminate employment discrimination.



Guarantee the right of collective bargaining.

There is a tradeoff in labor regulation between protecting worker welfare and allowing labor market flexibility. Research suggests that growth is slower, unemployment is greater, and corporate investment is lower in more heavily regulated labor markets. 

Labor flexibility is the ability to make quick and smooth shifts of workers into and out of jobs, companies, or industries as business conditions change.



Countries differ in labor flexibility. The World Bank has constructed a Rigidity of Employment Index to measure it on a scale of 0 (less rigid) to 100 (more rigid). The United States scores 0.



Flexibility benefits employers and the economy, but labor activists believe it is a “corporate con” that enhances employer power at the expense of workers.

In conclusion, six powerful forces are reshaping the workplace today. Perhaps the most critical factor in determining the experience of workers is the balance a government strikes between protecting labor and allowing adjustment to competitive forces.

Note

Case

A TALE OF TWO RAIDS Employers find it difficult to avoid hiring immigrants not authorized to work in the United States. Some companies have trouble filling jobs because citizens are unwilling to do the work. The case explores these and other problems in the stories of two raids. One is an early morning raid on six Swift & Company plants by uniformed immigration agents. The second is a “silent” raid in which a document audit by immigration agents led to mass terminations at an apple grower in Washington. The case also explains the strengths and weaknesses of current civil rights and immigration regulation.

Answers to Case Questions 1. Is the current employment verification system fair to employers? The answer is yes and no. Yes. In many ways the system is fair and helpful to employers. Form I9 requires minimal processing, training, and investigation. An employer need only look at documents a worker produces to that their appearance is reasonably authentic. E- works quickly and at low cost to employers. If a discrepancy arises, the burden is on the applicant to resolve it. The error rate is low. No. Neither screening method is foolproof. Both Form I9 and E- are subject to fraud. Despite goodfaith compliance a company can wind up with unauthorized workers. Then, like Swift or Gebbers Farms, it may feel the sting of enforcement. In addition, employers can be cut off from the supply of willing applicants for demanding, monotonous, low-wage work. Is it fair they pay the price for enforcing a policy that fails to accommodate a national need for people in jobs Americans are unwilling to do? An additional problem for employers is lawsuits by employees who claim that companies depress their wages by hiring illegal aliens. In 2010 Mohawk Industries settled a class action suit for $18 million and tort lawyers have sued other companies.1

1 Williams v. Mohawk Industries, No. 4:04-cv-0003, N. Dist. Ga., 2010.

2. Was Swift & Company socially responsible in its hiring and verification practices? Could it have done more? Was it treated fairly by ICE? All indications are that Swift & Company acted as a responsible firm. It treated its workers well, giving them good wages and benefits. After age of the Immigration Reform and Control Act in 1986 it began using I9 forms to screen workers. It was, indeed, overconscientious, giving greater scrutiny to applicants than the law required. In consequence, it committed civil rights violations and was heavily fined. In 1997 it was an early

volunteer for E-. It is not clear what more the company could have done. Despite its efforts, it still had many unauthorized workers on its rolls. When it learned that Immigration and Customs Enforcement (ICE) was planning a raid, it tried to work with the agency. ICE rejected its suggestion for conducting plant-by-plant raids. One-at-a-time actions would have defeated the main purpose of the raids, which is to catch and deport illegal entrants. It talked the agency into allowing it to do a voluntary I9 audit of its workforce, but undocumented workers caught on and were disappearing. The agency concluded that this too defeated its purpose and ended Swift’s voluntary workforce review. Then Swift tried to stop the raids in court by arguing it had constitutionally-guaranteed property rights that would be violated when ICE disrupted its operations. This was a weak argument. If a federal judge allowed it to prevail, corporations could claim violation of their property rights whenever regulatory enforcement interfered with their ongoing way of business. Every enforcement action would have to be weighed against the property rights of the company. ICE countered Swift’s claim by asserting there was no constitutional right to break a law. The judge ruled for ICE. Finally, after the raids Swift contributed to charities to help families of workers taken from its six plants. Overall, this is a record of conscientious, responsible, even exemplary action.

3. Is the work authorization audit a better enforcement tool than the worksite raid? What are the advantages and disadvantages of each? Immigration and Customs Enforcement (ICE) emphasized worksite raids during the George W. Bush istration. They are labor intensive for the agency and expensive to conduct. They can be highly stressful for workers, employers, and (probably) agents. They result in the detention and deportation of unauthorized workers who have illegally entered the United States. Nabbing and removing illegal entrants is their main advantage, although not everyone agrees this is an advantage. During the Barack Obama istration ICE has emphasized audits. One advantage of audits is lower cost. They are done in the background by individuals or small teams. It is not necessary to use large contingents for surrounding worksites, detaining people, bussing them out, and processing them at detention centers. Another advantage is less trauma for unauthorized workers and their families. Their lives are not instantly sundered. However, this makes the audit less of a deterrent than a workplace raid. Employers are still hit with a sudden loss of workers. But the unlawful immigrants remain in the country. Many must shift from relatively good, high-paying jobs where they pay taxes to lower-paying work or exploitation in the underground economy. Any conclusion about which approach is better depends on views about immigration policy. If your views are conservative and oriented toward strict enforcement then you favor raids. If your views are more liberal and oriented toward tolerance and amnesty then you favor audits.

4. Is the current verification system fair to job applicants and employees? Does it allow companies to exploit unauthorized workers? Overall, the system is fair to applicants and employees. Form I9 requires minimal identification. The rules protect the person’s civil and privacy rights by limiting the employer’s ability to require more information and documentation. The rules protect legal immigrants and United States citizens by prohibiting discrimination based on national origin. The E- system has similar protections and a very small error rate. A recent study by the Government ability Office found significant improvement in error rates and fraud detection.2 Both systems offer some protection to legal residents and citizens from competition with undocumented applicants. Neither system can prevent fraud by an employer conspiring with unauthorized workers. Likewise, neither can protect workers in the underground economy from forms of exploitation including harassment, belowmarket or minimum wage pay, unpaid overtime, and poor working conditions.

5. Do you believe that unauthorized workers should have the same protections against discrimination, sexual harassment, and wage and hour violations as authorized workers? The Immigration Reform and Control Act makes it illegal to employ an unauthorized worker. Nevertheless, if such a worker is employed, he or she is entitled to the same civil rights and labor protections as a United States citizen or permanent resident. Title VII, the Age Discrimination in Employment Act, the Americans with Disabilities Act, and the Equal Pay Act . . . prohibit discrimination against employees who work in the United States for covered employers, regardless of citizenship or work authorization. While federal law prohibits employers from employing individuals lacking work authorization, employers who nonetheless employ undocumented workers are prohibited from discriminating against those workers.3 Unauthorized workers are also protected under the Fair Labor Standards Act which requires, for example, that all covered workers be paid no less than the federal minimum wage. 4 However, farm workers and domestic workers are excluded from coverage. The National Labor Relations Act, which gives workers the right to unionize, also excludes farm workers, domestic workers, and taxi drivers. 5 Even though illegal workers have rights, they are easily exploited by employers who know the illegals fear deportation if they report violations.

2 Government ability Office, Employment Verification: Agencies Have Improved E-, but Significant Challenges Remain, GAO-11-552T, April 14, 2011. 3 U.S. Equal Employment Opportunity Commission, EEOC Compliance Manual (Washington, DC: EEOC, December 2, 2002), §13-VI(B). 4 Ibid., §13-VI(A). 5 Harold Meyerson, “Worker Loopholes,” Los Angeles Times, June 24, 2011, p. A17.

Some students may argue that unauthorized workers are not entitled to such protections. They are not citizens. They are violating immigration and employment laws themselves. They may be complicit in document fraud. However, civil rights and labor protections must be enforced uniformly. Until a worker is found to be unauthorized, he or she must be treated equally with others under the law. When the worker’s unauthorized status becomes known, he or she must be dismissed, not abused.

6. Does current enforcement of workplace immigration rules invite disrespect for the law? Should the government step up enforcement? Should U.S. immigration policy be reformed? If so, how should it be changed? Immigration laws and their enforcement have failed to check illegal entry and unauthorized employment. The presence of low-wage jobs for unskilled workers and a dearth of Americans willing to take them are huge incentives for entry and for laxity of detection by employers. Immigration rules are widely violated. Efforts at strict enforcement have driven much immigration underground. The nation’s last major statute on immigration was the Immigration Reform and Control Act in 1986. A subsequent, bipartisan effort at comprehensive reform failed in the mid-2000s. More recently, even narrow reforms have failed in Congress. The Dream Act of 2010 would have set up a road to citizenship for children of immigrants who enrolled in college or ed the military. The Secure Border Act of 2011 would have built more fences and put more agents on borders. Neither was enacted. The idea of reform is polarized. Liberals and civil rights groups believe immigrants help the economy and strengthen the nation by working hard and rising in status over generations. They favor some combination of opening borders and granting amnesty. Conservatives believe immigrants lower wages, burden social welfare programs, and aggravate social problems such as crime, teen pregnancy, and illiteracy. They want stricter enforcement, more deportations, and more fences. Some business groups favor creating new guest worker programs for growers, meat packers, and seasonal industries that need low-cost labor. Business also favors visa reform to loosen entry requirements for entrepreneurs with funds to start businesses and for highly educated graduates of foreign universities. Absent comprehensive reform at the national level states and cities have ed immigration laws. The Legal Arizona Workers Act of 2007 is the current model for employment-related rules. It requires all employers within the state to use E- or lose their business licenses. The Chamber of Commerce challenged this law on the narrow constitutional grounds that immigration law was preempted by federal policies that make E- voluntary for most companies. However, the Supreme Court found no express preemption in federal statutes and held it was within the police power of a state to enact such a law.6 Four other states--Alabama, Georgia, Indiana, and Utah--have similar laws. Some cities, for example, Temecula, California, also require E-.

6 Chamber of Commerce of the United States v. Whiting, 179 L. Ed. 2d 1031.

1 7 Civil Rights, Women, and Diversity SUMMARIZING OUTLINE The thesis of this chapter is that the American nation was founded on high ideals of justice, but throughout its history civil rights practice has never lived up to these ideals. Beginning with a discussion of slavery in the colonial era, the chapter explains the discrepancy. Two historical eras are emphasized. The first is the post-Civil War period when constitutional amendments and statutes intended to end employment discrimination were rendered ineffective. The second is the period from age of the Civil Rights Act of 1964 to the present, during which practice has come much closer to the ideal of equal treatment. Next, the chapter examines women at work and the kinds of discrimination they face, including sexual harassment. A final section discusses diversity and explains actions taken by corporations in diversity management programs. 

The introductory story is about the Employment Non-Discrimination Act of 2009, the latest version of a bill to extend workplace civil rights protections to gays, lesbians, bisexuals, and transsexuals. 

Workers in the United States enjoy a wide range of protections against discrimination at work. However, gay, lesbian, bisexual, and transsexual workers are still subject to arbitrary firing in most states because they have no federal statutory protection.



For more than 20 years, advocates in Congress have tried to legislate against such unfair actions. The Employment Non-Discrimination Act is opposed by conservatives and religious fundamentalists who see it as promoting a homosexual lifestyle.

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Advocates of the bill, including progressives and civil rights groups, argue it is the constitutional right of every American to have equal workplace protection under the law.



This story is a preview of both the civil rights protections workers have gained over many years and the continuing presence of gaps in those protections.

Employment discrimination in America has a long history. 

The earliest discrimination dates back to 1619, when slave traders first brought African natives to the nation’s shores.



In 1776, the Declaration of Independence established an American Creed incorporating high ideals of equality, justice, human rights, freedom, and opportunity. The promises in this document were not a reality then or later, but existed as a set of ideals that minorities looked to and called on the country to live up to. 

The Declaration endowed Americans with “unalienable rights,” or natural rights to which a person is entitled simply because he or she is human and that cannot be taken away by government.



Natural rights exist on a higher plane than civil rights, or rights bestowed by governments on their citizens. Civil rights guarantees must be measured against the natural rights to which all persons are entitled.



The U.S. Constitution reflected the gap between high American ideals and the reality of workplace discrimination. While it gave citizens many rights, in five clauses it sanctioned slavery by protecting the interests of slave owners.

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Following the Civil War (1861-1865) Congress ed three constitutional amendments and other laws to end discrimination against former slaves.

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The Thirteenth Amendment (1865) abolished slavery.

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The Fourteenth Amendment (1868) prohibited states from ing discriminatory laws that deprived citizens of their rights.

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The Fifteenth Amendment (1870) prohibited race discrimination in voting.

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Civil rights measures, including acts prohibiting employment discrimination in 1866 and prohibiting discrimination in transportation and accommodations in 1875, completed a formidable legal mechanism for ensuring the rights of freed slaves.

The new civil rights structure functioned well for a brief time in the 1870s, but was soon undermined by three developments. Long years of workplace discrimination followed.

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

First, when the electoral vote was contested in the presidential race of 1876 between Republican Rutherford B. Hayes and Democrat Samuel J. Tilden, candidate Hayes agreed to remove federal troops still occupying the South in return for electoral votes from southern states. When the troops left, the new civil rights laws were not as well enforced and southern racism reasserted itself.

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Second, in the Civil Rights Cases (1883) the Supreme Court held that Congress lacked the authority to regulate race relations between private citizens. It allowed the “private wrong” of race discrimination in transportation and accommodations to continue by declaring the Civil Rights Act of 1875 unconstitutional.

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Third, in Plessy v. Ferguson (1896) the Supreme Court ruled that state segregation laws were permitted by the Fourteenth Amendment while accommodations for blacks were equal to those of whites. This entrenched the separate but equal doctrine that remained in the law until overturned in Brown v. Board of Education in 1954.



Because of these developments, the American South was rife with Jim Crow laws, or measures legalizing segregation in public places, transportation, schools, and business.

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During the 1800s American Indians, Hispanics in territories ceded to the United States, Chinese immigrants, and Japanese immigrants faced prejudice and employment discrimination institutionalized in law.

Spurred by the civil rights movement of the 1950s and 1960s, Congress ed the landmark Civil Rights Act of 1964. 

In the law was Title VII, a section prohibiting employment discrimination based on race, color, religion, sex, or national origin. As originally ed, Title VII was flawed as a legal tool to fight discrimination. 

Title VII was intended to level the playing field for all workers by ending discrimination.



It outlawed disparate treatment, or unequal treatment of employees based on race, color, religion, sex, or national origin.

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It contained no means of fighting disparate impact, or discrimination caused by policies that apply to everyone and seem neutral but disadvantage a protected group.

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The Supreme Court remedied this deficiency in Griggs v. Duke Power Company (1971) when it struck down an employer’s high school diploma requirement in a geographic area where blacks had very low graduation rates. After the Griggs decision, Title VII outlawed disparate impact.



In 1978 the Equal Employment Opportunity Commission defined illegal disparate impact in the 80 percent rule, as “[a] selection rate for any race, sex, or ethnic group which is less than fourfifths (4/5) or (eighty percent) of the rate for the group with the highest rate...”

As originally ed, Title VII did not require affirmative action, defined as policies that seek out, encourage, and sometimes give preferential treatment to employees in the groups it protects (unless a federal court ordered it). However, two developments soon led to widespread affirmative action by companies. 

In 1965 President Lyndon Johnson issued Executive Order 11246 requiring affirmative action by federal contractors.



In United Steelworkers v. Weber (1979) the Supreme Court held that Title VII permitted affirmative action plans leading to reverse discrimination against white workers if the plans were designed to break down patterns of past discrimination, did not absolutely bar white advancement, and were both temporary and flexible. Dissenting justices argued that this violated the plain language of Title VII.



Since Weber, the Supreme Court has made a series of decisions on affirmative action, at first expanding it, but in recent years making it harder to justify.

Basic arguments for and against affirmative action are grounded in three broad ethical perspectives. 

Utilitarianism justifies affirmative action for those who believe it benefits the nation as a whole though inconveniencing some who do not fall into protected categories. Opponents of affirmative action say its benefits do not exceed its costs.

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Compensatory justice requires that those wronged by past discrimination be compensated, and affirmative action helps them. On the other hand, distributive justice requires that work benefits be distributed based on equal treatment and merit. Affirmative action seems to violate this. Conflict between these separate spheres of justice is what makes contrary views on affirmative action irreconcilable.



Advocates of affirmative action say that it does not violate the rights of whites because it is benevolent of intent, unlike ill-intended discrimination based on race prejudice. Opponents argue that affirmative action violates the more fundamental right of equal treatment under the law.

Women have entered the workplace in large numbers. The trend is worldwide. 

Worldwide, 52 percent of women enter labor forces compared with 78 percent of males.



Participation rates are highest in the least developed nations of East Asia and Africa, lowest in Arab nations.

Women who work face gender-based discrimination. 

Men and women are socialized into distinct sex roles such that men are perceived as aggressive and logical while women are seen as submissive and emotional.

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These traditional stereotypes, now eroded but still present, are often carried into the workplace.

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Often, the discrimination created by these stereotypes is subtle. 

Women are evaluated based on physical attractiveness, marital status, and potential for motherhood.

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Workplace cultures are based on masculine norms. Advancement requires staying late at work when women have heavy responsibilities to home and children.

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Men misinterpret female linguistic styles as indications of lacking self-confidence, often interrupting them in meetings.

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Many women experience sexual harassment, defined as annoying or persecuting behavior in the workplace that asserts power over a person because of their sexual identity. Many behaviors, from joking to physical assault, may be sexual harassment. 

Men are motivated to harass by gender distinctions. Harassment is usually intended to reinforce male power and status in work settings. By frightening and humiliating women it puts them in the stereotyped role of submissive female.



In 1980 the Equal Employment Opportunity Commission issued guidelines making sexual harassment a form of sex discrimination under Title VII. The guidelines defined two situations where harassment is illegal.

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One is the quid pro quo, when submission to sexual activity is required to get or keep a job.

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The other is a hostile environment, where sexually offensive conduct is so pervasive that it makes work unreasonably difficult.

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Although quid pro quo situations are usually clear, courts at first struggled to define the characteristics of a hostile environment.



In Harris v. Forklift Systems (1993) the Supreme Court set guidelines for what constitutes a hostile environment. No precise test was created, but a “reasonable person” would find the environment abusive. Harassing conduct is to be evaluated based on its frequency, its severity, its unreasonable interference with work, and its threatening or humiliating nature.

Women also face occupational segregation in jobs that are lower in status and pay than typically male jobs. 

Women dominate traditionally female occupations such as school teacher, secretary, and receptionist.

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They are underrepresented in traditionally male occupations in manufacturing, construction, and craft work. In these areas women are often 5 percent or less of workers in specific occupations.

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Women hit a glass ceiling, or an invisible barrier of discrimination thwarting their advance to top corporate positions. In 2010, they were only 7.6 percent of top earning executives.

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Women receive lower compensation than men for the same work. The Equal Pay Act of 1963 forbids sex-based pay differences. Since its age the pay gap has narrowed from 59 cents for every dollar earned by a man to 81 cents in 2010. The pay gap between men and women is worldwide. There are several causes for the persistence of an earnings gap. 

First, occupational segregation places women in female-dominated occupations that tend to be lower-paying.

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Second, women pay a heavy earnings penalty for child bearing and child rearing. Their careers are interrupted.

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Third, the earnings gap reflects elements of sex discrimination.

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The pay gap between men and women is worldwide, between 10 and 30 percent in most countries according to the International Labour Organization.

Diversity management refers to programs to recruit from diverse groups, promote tolerance, and modify cultures to include nonmainstream employees. 

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Categories of diversity are numerous. They encom individuals sharing a characteristic disfavored by the mainstream. 

Being in such a category can lead to discrimination, exclusion, and inhibited opportunity.

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The identity of disfavored groups varies among societies.

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Workforce diversity creates tensions. Their causes are elusive, but can be unspoken assumptions in corporate cultures based on mainstream values (usually white and male values in the United States).

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Many companies train employees to recognize and tolerate divergent attitudes. Other companies have tried the more difficult task of deep culture change.

Diversity programs have many elements. 

Leadership from the top.

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Changes in the organization structure, such as setting up affinity groups, which are networks for employees who personify an attribute associated with discrimination, stereotyping, or social isolation.

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Training programs.

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Mentoring.

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Data collection.

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New policies to adapt to the needs of diverse employees.

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Rewards for managers who achieve diversity goals.

Despite decades of effort, tensions caused by diversity remain. There are many reasons. 

Problems are complex and prejudices are deeply rooted.

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Diversity programs are now institutionalized at big companies and some believe they have turned into empty rituals.

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When employees believe their status is threatened they resist change.

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Some diversity practitioners accept the inevitability of strife and friction.

In conclusion, the chapter covers four civil rights eras. 

A 244-year era of slavery ending when President Lincoln signed the Emancipation Proclamation in 1863.

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A short post-Civil War era in which freed slaves were protected by new laws and constitutional amendments extending “equal protection” to all citizens.

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A long era of widespread employment discrimination lasting to age of the Civil Rights Act of 1964.

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A modern civil rights era since 1964 characterized by lessening workplace and societal discrimination.

Note

Case

ADARAND v. PEÑA The subject of this case study is a landmark legal challenge to affirmative action. Adarand Constructors is a highway construction firm in Colorado that bid on a guardrail contract. Despite making the low bid it lost the job to a Hispanic-owned company. Adarand sued, arguing it had been deprived of its constitutional right to equal treatment under the law. What followed was twelve years of litigation on multiple federal court cases. The end result was a partial victory for Adarand Constructors. The Supreme Court made affirmative action harder to justify, but did not rule it unconstitutional. Students can discuss the strengths and weaknesses of affirmative action in the context of its use in federal highway construction. Students researching the case or assigned to present it in class can be referred to the six separate opinions in the 1995 Adarand v. Peña decision. The majority opinion makes the argument for reducing the use of affirmative action. The two concurring opinions make the case for ending affirmative action. And the three dissenting opinions argue for retaining affirmative action.

Answers to Case Questions 1. What constitutional issue is raised in the Adarand litigation? The question before the Supreme Court was whether a federal affirmative action program that favored some citizens over others based on race, ethnicity, and sex was constitutional. The specific constitutional issue in Adarand was the precise meaning of the due process clause in the Fifth Amendment that reads: “No person shall... be deprived of life, liberty, or property, without due process of law.” The white-owned contractor argued that these words guarantee each citizen the right to equal treatment under the law and prohibit racial, ethnic, or sex preferences in contracting. The words in the Fifth Amendment do not literally state that people have to be treated equally by the federal government, but accumulated precedent from past Supreme Court decisions creates such a guarantee. There is a more specific guarantee of equal treatment in Section 1 of the Fourteenth Amendment: “No State shall... deny to any person within its jurisdiction the equal protection of the laws.” This guarantee is binding only on states, not the federal government, but the Supreme Court has held that no lesser duty to treat citizens equally should be enforced on the national level than on the state level. Therefore, the Fifth Amendment embodies a guarantee of equal treatment as strong as that in the Fourteenth.

Despite these guarantees of equality, governments are not prohibited from classifying citizens for various reasons when a legitimate purpose is served. For example, citizens are classified based on their income for taxation and their age for licensing drivers. However, any classification of citizens must be carefully scrutinized.

When laws set up racial and ethnic classifications they must meet a stiffer test. How strict a standard should race-conscious affirmative action programs meet? In the past, a Supreme Court dominated by liberal justices who believed in the need for affirmative action upheld race-conscious classifications if they met a standard of intermediate scrutiny. In Adarand the more conservative majority discarded years of precedent and concluded that this standard was too lenient; henceforth, federal affirmative action had to meet a standard of strict scrutiny.

2. After the Supreme Court’s 1995 decision in Adarand v. Peña what requirements did an affirmative action program have to meet to be constitutional? A program had to meet the strict scrutiny standard. In practice, this meant it had to two tests. 

First, the government must prove a compelling interest. That is, the government has to prove that discrimination against the favored groups exists and that the affirmative action plan is designed to end it.

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Second, the plan must be narrowly tailored. It must cover only persons who have suffered discrimination. It cannot give unfair advantage to a wider group that includes persons who have not suffered discrimination.

Because of the decision the Department of Transportation revised its rules for awarding federal highway contracts to disadvantaged business enterprises (DBEs). 

The 10 percent of highway funding intended for DBEs was defined as an “aspirational goal at the national level.” These words moved away from any presumption that there was a firm quota or set-aside.

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To meet DBE goals, Colorado and other states were required to emphasize race-neutral methods, or methods that encouraged all small businesses, including minority-owned firms.

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Race-conscious methods of awarding contracts could only be used if race-neutral methods failed in the presence of “egregious” discrimination.

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States were required to do studies proving the existence of racism before race-conscious methods of distributing highway funds could be used.

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The definition of “economically disadvantaged” was changed so wealthy owners of minority businesses no longer qualified. Specifically, those with a net worth of $750,000 or more (not including the value of their homes) were excluded.

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White males were allowed to apply for socially and economically disadvantaged status, which they could get by proving they had suffered financial hardship due to discrimination.

These changes were a significant weakening of affirmative action in government contracting. Randy Pech and his lawyers still believe the program is unconstitutional. Their appeals were unsuccessful. In Adarand v. Slater (2000) a federal appeals court upheld the modified program as constitutional. In Adarand v. Mineta (2001) the Supreme Court dismissed Adarand’s challenge as improperly raised.

3. Was the decision of the Court majority correct? Why or why not? This question refers to the decision in Adarand v. Peña. Opponents of affirmative action approve of this decision. They see it as correct on a constitutional plane, believing that affirmative action violates fundamental guarantees of equality. They may believe that some affirmative action is all right if it can withstand strict scrutiny. Or they may think that all affirmative action is wrong and approve of Adarand only as a way station on the road to ending all race-based preferences. Since Adarand makes it harder to justify affirmative action, people who advocate it disagree with the decision. They believe that the majority’s principled argument about the need for strict scrutiny hobbles the most effective laws the nation has to stop ongoing racism and sexism in contracting.

4. In a concurring opinion, Justice Scalia said that race classifications by government were never legitimate. In dissenting opinions, Justices Stevens, Souter, and Ginsburg argued that race-conscious remedies were justified. What were their arguments? With whom do you agree? Why? Justice Scalia argued that, in principle, government can never have a legitimate reason for classifying citizens based on race. This is so because (a) the constitution bestows rights on individuals and not groups, so racial groups cannot have rights (“there can be no such thing as either a creditor or a debtor race”) and (2) the Constitution clearly rejects distinctions based on race for any purpose, be it evil or benign. He adds that race-preference laws also “preserve for future mischief” the same evil that ed slavery.1 Stevens, Souter, and Ginsburg argued in their separate opinions in favor of so-called “benign” race distinctions. 

Stevens argued that it was correct for the Court to be wary of race distinctions in law but that race preferences in set-asides were justified by their morally correct intentions. The principle of utterly race-blind policy, said Stevens, “would disregard the difference between a ‘No Tresing’ sign and a welcome mat.”2 He also observed that federal affirmative action laws reflected the will of the people as expressed by a democratically elected Congress.

1

123 L. Ed. 2d 190 (1995).

2

132 L. Ed. 2d 193 (1995).

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Souter wrote that discrimination has existed and continues to exist in the construction industry and its lingering effects justified the use of affirmative action if programs were “reasonable” and “temporary.”3 He would have required only intermediate scrutiny.

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Ginsberg cited recent research showing that discrimination continues. Congress, she wrote, should not be required to ignore race, but should be allowed to use affirmative action for achieving the equality promised in the Constitution. Preferences should be “carefully designed” and not “interfere too harshly” with the opportunities of white males.4

Agreement with Scalia or with the dissenters is a matter of opinion. There is a major difference in perspective. Scalia makes a principled argument in which a color-blind Constitution is inviolate. Using racial thinking in law merely reflects and perpetuates racism. The three dissenters are pragmatic. Lofty sentiments and principles will not stop entrenched discrimination. They believe that race preferences, used well, are important, practical tools against bias.

5. Following Adarand v. Peña, the district court held that the affirmative action program in federal highway contracts was unconstitutional. Do you agree with this decision? Why or why not? In due course, John L. Kane, Jr., a federal judge in Colorado, applied the strict scrutiny standard to the affirmative action plan objected to by Adarand Constructors. 5 When he did, he decided it ed only one part of the two-part test. Therefore, he declared it unconstitutional. He held that the government did have a “compelling interest” in using affirmative action. Evidence of discrimination existed and Congress was entitled to legislate preferences as a remedy. But the program in question was not narrowly tailored, mainly because the definition of a disadvantaged business enterprise was too broad and gave unfair advantage to affluent minorities and women. Those who oppose affirmative action agree with Judge Kane’s decision, believing that the Department of Transportation plan was unfair to white contractors. Those who oppose the decision must argue that Judge Kane’s reasoning was bad when he applied the strict scrutiny test. They cannot make general or idealistic arguments about the need for affirmative action. They need to read the decision and make an argument that the strict scrutiny standard was wrongly applied. The gist of this argument has to be that there was no better way of constructing the federal program, a program that allowed disadvantaging white-owned contracting companies.

3

132 L. Ed. 2d 209 (1995).

4

132 L. Ed. 2d 213 (1995).

5

Adarand v. Peña, 965 F. Supp. 1556 (1997).

6. Do you believe that the Department of Transportation’s current rules for helping DBEs get highway construction contracts the strict scrutiny requirement? The revised rules back away from troublesome policies. First, instead of setting aside a pool of money to be awarded only to DBEs, the rules now create only an “aspirational goal” for DBE contracts. Second, flatout preferences such as the bonus payment for picking a minority contractor instead of a white contractor are eliminated. In their place, race-neutral ways of increasing the number of DBEs on highway projects are required, mostly inoffensive measures such as outreach and training programs. And third, the nature of a DBE is redefined to exclude wealthy and privileged minority business owners who do not need favoritism and include, in theory, disadvantaged white-owned enterprises. In 2000 a federal appeals court said that new highway contracting rules in Colorado, modified because of Adarand, are constitutional. In 2001 the Supreme Court dismissed Adarand’s appeal challenging federal rules, though on technical grounds.

1 8 Corporate Governance SUMMARIZING OUTLINE This chapter defines corporate governance. It sets forth its legal basis. It discusses the basic actors whose evolving power relationships determine its character. And it acquaints readers with major issues concerning shareholder rights, the duties of directors, and the compensation of executives. 

The introductory story is about how the Hewlett-Packard board of directors fired CEO Marc Hurd. It illustrates corporate governance in action. 

Hurd was a strong CEO who executed well and raised HP’s stock price.

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His downfall was a questionable relationship with a woman he hired to help him at marketing events. This woman accused him of sexual harassment. He denied it.

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When the board of directors investigated, Hurd was found to have made deceptive expense claims and given deceptive answers to board .

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The boards decision to fire Hurd was criticized by some, who argued that its primary duty was to protect the interests of stockholders and Hurd was making money for them.

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The story illustrates corporate governance in action. It is also a sequel to the end-ofchapter case study about how the Hewlett-Packard board fired Carly Fiorina some years before. It had hired Hurd to replace Fiorina.

Corporate governance is the exercise of authority over of a corporate community based on formal structures, rules, and processes. 

This authority is exercised according to a body of rules that define the rights and powers of shareholders, boards of directors, and managers. In Figure 18.2 these parties are depicted as the corporate governance triangle.

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The rules come from many sources including state charters, corporate bylaws, state and federal laws, stock exchange listing standards, and corporate governance policies.

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The authority to govern is granted by the corporate charter, a document issued by a state to create a corporation. 

The charter broadly specifies rights and responsibilities of stockholders, directors, and officers. Charters may also include provisions about such matters as annual meetings, the size of boards, and procedures for choosing or removing directors.

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More detailed rules of corporate governance are found in bylaws.

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By law, the line of authority in corporate governance descends in order from governments to shareholders, to boards of directors, and then to management. In practice, power runs from governments to the CEO, the board, and finally stockholders.

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Stockholders own stock certificates, giving them limited, but important, rights. Their rights are limited because they are legally not liable for corporate actions. Therefore, their control over those actions is diminished. Their basic entitlements are to: 

Sell their stock.

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Vote to elect directors and on other issues.

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Receive information about the corporation.

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Receive dividends.

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Sue the corporation if directors or officers commit wrongful acts.

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Acquire residual assets in case of bankruptcy.

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Shareholders can also propose resolutions for a vote at the annual meeting. Such resolutions must comply with Security and Exchange Commission rules. Most such resolutions are opposed by management and fail to receive a majority vote. Even if they do get a majority, they are nonbinding.

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Although in theory shareholders have the voting power to influence or replace management, in practice they rarely create an effective majority and are dominated by management.

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Federal regulation of governance has grown over the years. At first states defined the requirements of corporate governance. But federal intervention came when business ownership and activity began to cross state lines. 

Beginning in the late 1880s, the size of firms grew. Their activities were no longer mostly confined within state boundaries.

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Bigger firms needed more capital. Ownership was dispersed among many small investors in many states.

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The stock market crash in 1929 revealed the need for more regulation to protect stockholders. Congress ed the Securities Act of 1933, then the Securities and Exchange Act of 1934.

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At the turn of the century, when governance mechanisms, particularly boards of directors, failed to prevent the bankruptcy of Enron and other bankruptcies and financial frauds, Congress again legislated new governance requirements in the Sarbanes-Oxley Act of 2002. The law has imposed heavy implementation costs on corporations. Among its provisions are these. 

It creates a Public Company ing Oversight Board to regulate ing firms.

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It prescribes rules to improve auditing.

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Boards of directors must have audit committees of independent directors.

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It requires CEOs and CFOs to certify the accuracy of financial statements.

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It stipulates that executives forfeit profits from stock sales and bonuses when earnings are restated because of fraud.

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It prohibits boards from approving personal loans for executives.

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It allows the SEC to bar offenders from serving as corporate directors or officers.

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After the record bankruptcy of Lehman Brothers in 2008, again the result of failed oversight by a board of directors, Congress ed the Dodd-Frank Act of 2010 with more governance reforms, including these. 

Shareholders have the right to vote to approve executive compensation and to approve special executive compensation in mergers or buyouts.

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of board executive compensation committees must be independent directors.

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Companies must disclose the relationship between executive compensation and financial performance.

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If a company restates earnings, it must recoup any executive compensation based on wrongly stated financial performance.

The structure, duties, and dynamics of boards of directors are discussed. 

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In theory, boards are tenacious, vigilant watchdogs over management. In practice, they have many shortcomings. 

Directors are often hand-picked by CEOs and unwilling to challenge them.

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Boards depend on management for information and allow it to control agendas.

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Board cultures are harmonious. Abrasive, confrontational directors are ostracized.

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Many directors see board service as largely honorific and ceremonial and do not work hard. Some dissipate their energies by serving on too many boards.

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Many CEOs see their boards as unproductive and fail to demand much out of them.

The duties of directors are enumerated. Among them are these. 

Approving the issuance of securities.

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Reviewing company goals and strategies.

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Selecting, evaluating, and firing (if necessary) the CEO.

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Creating governance policies.

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Setting executive compensation.

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Evaluating fellow directors and the board as a whole.

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Nominating candidates for election as directors.

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The average board has 11 who serve one-year . It meets 8 times a year.

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Directors are chosen when nominated by the board and approved by a majority vote of shareholders. 

Directors who are employees of the company are called inside directors.

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Directors who are not otherwise employed by the company are outside directors.

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When outside directors have no important business dealings with the company other than being on the board, they are called independent directors. Stock exchange listing rules require regular meetings of independent directors away from management. Many boards elect a lead director to preside over these sessions.

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Boards are divided into committees. Due to statutory and stock exchange listing requirements, most boards have audit, compensation, and nominating committees.

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A perennial controversy is whether the board chair and CEO positions should be combined in one person or split. 

Advocates of greater board independence argue for a split. They believe it is a conflict of interest for the CEO to chair (and perhaps dominate) the group that is responsible for evaluating their performance.

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Many CEOs oppose a split. They argue it can encourage conflict between the two individuals, slowing decisions and confusing managers seeking guidance.

Executive compensation is based on policies devised by the board. If they are well devised, pay follows performance. If not, pay may be unrelated to performance. 

Total compensation is usually the sum of the following elements. 

Base salary. It is often based on comparisons to peer companies. Base salaries for CEOs are often near $1 million, the amount that is tax deductible.

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Annual cash incentives. These are bonuses earned when performance targets are met. The targets are usually financial goals.

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Long-term stock-based incentives. There are several kinds.

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Stock options give an executive the right to buy the company’s stock at a fixed price or grant price in the future on a specified vesting date. 

The grant price is the price at the close of the market on the grant date.

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The vesting date is the date, typically three to ten years in the future, when the option holder can buy shares at the grant price.

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On or before an expiration date, a specified date following the grant date, the options must be exercised or they become worthless.

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A box explains backdating of options. It occurs when the exercise price of stock options is set at the price on a date before the date they were granted. This is done to lower the grant price. It is illegal if not disclosed to shareholders.

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Performance shares are awarded on a fixed future date if individual or company performance goals are met. Part of the shares may be awarded if goals are partly met.

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Restricted stock is a grant of stock with restrictions. It cannot be sold until certain conditions are met, most often the lapse of time. It is used to retain promising executives.

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Retirement plans. Executive pensions are often generous.

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Perquisites. These include a range of benefits from gym hips to life insurance.

Five problems with CEO compensation are discussed. 

First, some critics are outraged by extraordinary payouts that seem unfair in relation to the pay of average workers. However, pay is often determined by market forces and most top managers do not get the spectacular salaries of a few that receive notice.

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Second, compensation is not always aligned with performance. Often, however, it is.

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Third, compensation committees fail to design adequate compensation plans. Some choose comparator groups of larger firms. Tootsie Roll Industries is given as an example. This bloats executive pay. Others give in to CEOs demands.

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Fourth, top executives can inflate performance-based compensation by manipulating ing measures. For example, they can delay or accelerate revenue to coincide with times when options vest.

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Fifth, compensation policies are hard to understand. Shareholders, who vote to approve them, are faced with lengthy, arcane discussions in proxy materials.

Two points are made in conclusion.

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First, the governance triangle of stockholders, boards, and management is dominated by management. Fortunately, most of the time management is trustworthy and proficient.

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Second, after failures of governance the federal government has intervened to strengthen the checks and balances between the parties in the governance triangle.

Note

158.

Case

HIGH NOON AT HEWLETT PACKARD This case brings a board of directors to life for students to study. It describes boardroom politics behind the firing of CEO Carly Fiorina and the subsequent “pretexting” scandals at Hewlett-Packard. It shows how one board carried out its duties. It invites debate about the broad role of directors. It raises ethical issues related to the leak investigations initiated by the board that subsequently embarrassed HP and led to the resignation of the board chairman.

Answers to Case Questions 1. Over the time covered here, did Hewlett-Packard’s board of directors fulfill its duties to the company’s share owners? Explain how it met or did not meet basic duties. Duties of directors are set forth in the chapter on page 652. As explained, boards have two overarching duties and must perform a short list of more specific functions.

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The two basic duties are (1) to represent the interests of shareholders and (2) to watch over management. The HP board carried out these duties. It closely watched CEO Carly Fiorina, reviewing her management activities, offering advice, and then firing her. It acted to bring the company’s share price out of a long swoon. The HP board also carried out the following more specific functions noted in the chapter.

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Review and approve major strategies and goals. It performed this function with care. For example, it initially reviewed and approved Carly Fiorina’s plans to restructure operations and centralize management.

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Select, evaluate, and remove the CEO. It performed these functions with Carly Fiorina. It also selected a second CEO, Mark Hurd. Annual evaluation of the CEO was done formally by the Organizational Review and Nominating Committee, later renamed the Nominating and Governance Committee.

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Give advice and counsel to management. It carried out this function with boundless enthusiasm. It recommended acquiring Compaq. Directors Thomas Perkins and George Keyworth offered new strategies and explored ideas for new products. There was disagreement over how closely the board should enter into day-to-day management decisions. Even as Carly Fiorina balked, a majority on the board approved detailed oversight. She argued that the board exceeded its authority. The directors believed they were being conscientious. The board walked a fine line between helping her and undermining her.

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Create governance policies for the firm, including compensation policies. Especially after age of the Sarbanes-Oxley Act it put great energy into compliance with governance rules. Some friction arose when Perkins and others came to believe that director Patricia Dunn allotted too much of the board’s time and energy to routine compliance matters. Much of the board’s governance work was done in its committees. Compensation for directors and officers was set by a Compensation Committee.

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Evaluate the performance of individual directors, board committees, and the board as a whole. It carried out these tasks primarily through its nominating committee. This committee set criteria for board hip, searched for nominees, and reviewed the performance of board before recommending them for continued service. The committee also reviewed the charters of each committee, defined criteria for director independence, and evaluated Audit Committee for financial expertise.

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Nominate candidates for board hip. It carried out this function through its nominating committee. In practice, it had difficulty replacing who retired or resigned because of disagreements about the function of the board and the kind of directors who could best serve. One faction sought CEOs of large firms who were knowledgeable about general management and governance matters. Another sought directors who were technology experts. Because of this disagreement the board shrank from 13 to 9 during the time covered in the case study.

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Exercise oversight of ethics and compliance programs. It performed this function through its Auditing Committee, which had responsibility for legal and regulatory compliance.

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2. What different perspectives on the role of the board are revealed in this story? Two different perspectives emerge. They were defined in a Wall Street Journal column written by HP director Tom Perkins.1 A guidance board, according to Perkins, is an older model based on venture capitalist practice. On such a board the chair and CEO positions are separated. The director’s main goal is to boost company performance to benefit shareholders. The board is usually small and actively involved in strategy, tactics, picking managers, and reviewing their decisions. In Silicon Valley directors on such a board have technical expertise. A compliance board, on the other hand, is defined by Perkins as a phenomenon that has emerged more recently and become common among large corporations. Such boards no longer focus almost exclusively on making money for shareholders. They accept other priorities, including gender and racial diversity of their . They emphasize obeying governance requirements. Instead of closely focusing on business issues, they spend their time on conforming policies to legal requirements and stock exchange listing standards. Perkins was ed in his devotion to the guidance board model by fellow technologists Jay Keyworth and Richard Hackborn. The Technology Committee they created had the characteristics of a guidance board. As it grew influential it began to rival the full board as a forum for discussion and debate, becoming, in effect, a “board within a board,” or more precisely, a guidance board within a compliance board. Carly Fiorina and Patricia Dunn wanted a compliance board. They wanted to nominate CEOs of other large corporations familiar with regulatory and governance issues. They wanted agenda time devoted to these issues, not to the freewheeling strategy discussions favored by the technologists. The opposing perspectives led to a power struggle. Either perspective could have been right or wrong for Hewlett-Packard. However, each view had value to those who sought to increase their power over the company’s direction. Interest in self-aggrandizement underlay arguments on each side. For Carly Fiorina a compliance board would focus on governance issues and broad matters of strategy, meddling less in her day-to-day decisions. This would enhance her power to act independently and without being second-guessed. For Perkins and the other technologists a guidance board would legitimate their desire to share decisions with Fiorina. They could force her to justify herself before she acted. They could make decisions about hiring, firing, and daily operations with her.

1 Tom Perkins, “The ‘Compliance’ Board,” The Wall Street Journal, March 2, 2007, p. A11. 203

3. Was Carly Fiorina treated fairly by the board? Why or why not? Her treatment seems fair. She was hired to be a change agent. Although changing the HP culture and the Compaq Computer merger led to some organizational turmoil and conflicts between directors, most of the board ed her until near the end. As the board lost confidence in her reorganization to centralize authority in her office some directors sought to advise and redirect her. She resisted their efforts, sensing intrusions on her independence that went beyond the proper role of the board. This led to a showdown. She lost because as of the Hewlett and Packard families and others left the board she was unable to appoint new directors loyal to her and create a ive bloc.

4. Were the leak investigations overseen by Patricia Dunn useful and important? Were they ethical? The leaks violated company policy. Directors also have a fundamental duty of confidentiality. Unless board discussions are confidential directors will be reluctant to speak their mind. Stockholders are best served when issues are fully and freely discussed. If directors believe their remarks can end up in the media they might withhold opinions or be reluctant even to serve. Thus, leaks impair the functioning of a board. Stopping the leaks was important to preserve confidentiality of deliberations. However, it was also important to Carly Fiorina for another reason. The leaks originated in the power struggle between her and the board. She believed the leakers were her opponents, including Perkins and Keyworth. If an investigation proved this, she could get rid of her enemies. So, beyond the high ground of compliance with rules and duty, the investigation was also founded on the pursuit of political advantage. The leak investigations were questionably legal. It is unclear that Patricia Dunn would have been convicted if her case had come to trial. Congress subsequently legislated to clarify that pretexting was illegal. The investigations were not ethical. They involved actions that, when revealed, could not stand the light. Two specific ethical wrongs were lying and invasion of privacy. The lying had to be renamed “pretexting” so it could be rationalized. In these investigations the means were justified by the ends. Students can be asked to debate whether lying and invasion of privacy were justified to protect the confidentiality of board discussions.

5. Should George Keyworth have been asked to resign? Why or why not? The resignation request was appropriate. Although his remarks to the reporter were mundane, he had violated company policy and had breached his duty of confidentiality. Perkins suggested simply a private scolding of Keyworth with a request to desist. In retrospect this was probably preferable. The leak was immaterial. The power struggle with Fiorina was resolved and the motive to leak to advantage the leaking party in board politics was lessened. Had Perkins not been angered, he would not have had the same incentive to batter Dunn. Instead, Perkins resigned and used his knowledge of the investigation to get revenge.

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6. How do you appraise the behavior of Tom Perkins? Was he a model director or a renegade? Perkins was forceful. As a former HP manager, he was exceptionally knowledgeable about the company. As a wildly successful venture capitalist he was a sage about technology companies. Wealth gave Perkins remarkable independence and he had a big ego. He was sure he knew what was best for HP. In fact, after nearly six years of Fiorina’s leadership the company was adrift. He pushed her, trying to impose his will. She resisted. He organized the Technology Committee on the board. It was an effective political tactic. Its meetings gave him a new platform to express his ideas. It provided formal legitimacy for his cause. A committee now sanctioned his challenging agenda, making him less a lone dissenter. He came to dominate the board and he won both of his main battles. He deposed Fiorina and inserted the board more directly into HP’s strategy and its execution. Picking Dunn as non-executive chairman of the board was part of his plan. It separated the board chair and CEO positions, moving the HP board closer to the model of a guidance board. As a director he was unable to control Dunn, but he ultimately destroyed her from the outside after his resignation. Political infighting and power struggles may be either functional or dysfunctional. Sometimes they are necessary to realign and redirect a company. Powerful individuals associated with the status quo often see change as a status threat. They resist it. Outsiders and mavericks such as Perkins may be best positioned to see the need for change and to shove others toward it. The case study asks what would happen if Perkins were put in a time machine and returned to the 1990s for service on Enron’s board. Students can be invited to predict the results. Would he have risen in anger as astonishing financial transactions ed before his eyes? Could he have found political allies among Enron’s directors and challenged its top management even as its stock price soared?

7. What actions could have been taken to improve the functioning of the HP board? Some believe the conflicts recounted in the case revealed a dysfunctional board. In fact, the board fulfilled its range of functions. The presence of board politics and leaks reflected a significant power struggle. But the board never suffered from the common problem of ivity. One failure of the board may have been to allow airing of this power struggle in the media. However, it would have been difficult to contain. HP is a large, well-known company. When the board hired Carly Fiorina, it invited a spotlight on HP. She attracted a frenzy of attention as the first woman to head such a large firm. She was engaging, dynamic, and photogenic. Some believe she reveled in her celebrity at the expense of her work, traveling and speaking too much. When trouble with her performance surfaced it became a big story.

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Also, the investigations were ultimately a bad way to handle board leaks. The leaks were a consequence of political conflicts on the board and between the board and Fiorina. It was wrong for directors to violate company policy and their basic duty of confidentiality with respect to board discussions. Fiorina was angry about the leaks. At one point, she confronted the directors in a conference call and scolded them. This was a factor in alienating Perkins and some others. She pursued a secretive investigation because she suspected that her main antagonists, Perkins and Keyworth, were the leakers. If they were snared, they could be forced to resign. This would be a political victory for her. After Fiorina was fired, the investigations had some momentum and so they continued under Dunn’s direction.

8. Did gender play any role in the fortunes of Fiorina and Dunn? Gender did play a role for Carly Fiorina. From the start she received more attention in the media than any equally distinguished man might have. Media coverage often focused on her clothing, appearance, and attractiveness. A false rumor that she had remodeled her office with a pink bathroom persisted. A man would not have attracted similar coverage. Fiorina believes that this immediate and continuing focus on her as a woman was a hindrance. ...[T]he coverage of my gender, my appearance and the perceptions of my personality would vastly outweigh anything else... It is undeniable that the words spoken and written about me made my life and my job infinitely more difficult. 2

The board ultimately evaluated Fiorina on her performance. When she was fired there were seven men and two other women on the board. Two factors were central in her firing. First, she had alienated some in the company and on the board by trying to centralize operations through her office. This went against the grain of the HP Way. She believed that her gender was a factor. For example, as she reorganized, she removed managers. She sensed that being a woman her actions were seen as cold-hearted because they went against the stereotype of female comion. She felt that a man taking the same actions would have been called decisive. She was called abrasive. And second, the HP share price had dropped after the Compaq Computer merger. The board lost faith in her ability to raise it. Some element of her failed performance may be attributable to subtle gender biases that made the work she did more difficult because she was a woman. Gender did not seem to play any special role in Dunn’s fortunes.

2 Carly Fiorina, Tough Choices: A Memoir (New York: Portfolio, 2006), p. 172. 206