“Good” People, “Bad” Corporations?

Behavioral ethics has evidenced that through a combination of deliberate and non-deliberate processes, people may end up behaving unethically with limited awareness of the true ethicality of their behavior (eg, Treviño et al., 2006).

 

One of us has recently completed a book – The Law of Good People (CUP 2018) – that attempts to introduce the area of behavioral ethics to law, focusing on how the law should deal with the ordinary unethicality of “good” people whose behavior in various legal contexts, such as contract performance or hiring an employee, is ethically bounded. The book analyzes and compares the different ways that states can regulate “situational wrongdoers” (as opposed to “intentional wrongdoers”) whose intentions are to benefit themselves only to the extent that the regulatory situation allows them to feel good about their actions.

 

This suggests, for example, that regulation should identify situations in which it will be easy for the people who like to view themselves as “good people” to engage in wrongdoing, either explicitly or implicitly, rather than focusing on an ex-post approach. In a new working paper, we have started to explore how corporate law should account for this new perspective of peoples’ moral agency.

 

There has been an extensive discussion on corporate deviance which is believed to account for corporate misconduct, and the examples are striking in terms of magnitude: Worldcom and Enron; AIG, CitiBank, Lehman Brothers, Goldman Sachs and the credit rating companies in the context of the financial crisis; Volkswagen and more recently the Wells Fargo case.

 

From a behavioral ethics standpoint there are various aspects in which the corporation is a perfect hub for situational wrongdoing. In corporate settings, much of the wrongdoing does not benefit the individual herself but rather the corporation. Behavioral ethics literature has emphasized that there is a much greater likelihood for wrongdoing when it is done for the sake of others (Gino & Pierce, 2009; Wiltermuth, 2011). As such, there should be greater oversight of managerial decisions to promote social preferences on behalf of the firm, such as requiring some form of shareholder input on such decisions (Libson, 2019). In corporate settings, the people who design policy are usually not the ones who execute it, creating a shared responsibility problem from an ethical standpoint. Furthermore, in corporate contexts there is often no personal relationship allowing for identification of a clear victim of unethical conduct; rather, there are multiple unidentified victims of unethical corporate policies, and many people are affected by corporate wrongdoing without them noticing (Köbis et al., 2018).

 

Behavioral ethics sheds new light on some of the conventional suggestions for addressing corporate corruption such as the “four eyes principle”, where two signatures are needed on various corporate documents, or expanding the quorum for decision-making. Studies in the field demonstrate that these solutions may actually increase the level of unethical behavior – Kocher et al. (2017) find that group deliberation tends to provide more justification for dishonest behavior. In addition, when there is less attention on the decision of an individual in a group setting, the individual's tendency to be dishonest increases. Since social norms affect the likelihood of people engaging in wrongdoing, imposing harm on others for the benefit of the organization can become a norm in the corporation that affects many others who would not have otherwise engaged in wrongdoing. Given the understanding of the problematic ethical effect of making decisions as part of the larger entity, there should be a special focus on making individuals personally accountable for decisions they make. This supports a recent suggestion to impose a horizontal duty on directors, enabling directors to sue other directors for their wrongdoing (Eckstein & Parchomovsky, 2018)

 

A behavioral ethics analysis leads to giving more attention to wrongdoing caused by inaction. Similarly to the “omission bias” in behavioral economics, there may also be an “ethical omission bias” in which the agent attributes a lower level of moral responsibility for wrongs caused by her action than wrongs caused by inaction. As a consequence, there may be a greater likelihood that individuals promote their own interests through omissions that commissions. The possible legal implications in the corporate setting would be transforming certain forms of behavior from passive forms to active forms (eg, signing periodical statements, etc.). This could curtail the ethical omission bias and decrease the likelihood of wrongdoing.

 

The focus on direct monetary aspects of conflicts of interest is also problematic in the current corporate law paradigm. It may be easier for situational wrongdoers to ignore or justify conflicts which are based on personal connections rather than those which bring pecuniary benefits (Feldman, 2017). The more indirect the dependency between the corporate executive and his or her conflicting interest, the more likely it is that the executive would behave in a biased way. One of the classic examples of this effect in the corporate context is that of independent directors. Independent directors have no formal affiliation with management or the company, but they have a subtle conflict of interest because the managers had a role in their appointment. The fact that independent directors do not have any direct conflict of interest may increase their tendency to promote their subtle self-interest. This may serve as an additional explanation to the surprising phenomenon observed in the relative underperformance of firms with high numbers of independent directors (Bhagat & Black, 2002; Guest, 2009). As a consequence, corporations should limit their reliance on those with subtle conflicts of interest such as independent directors. This could be done by adopting “enhanced-independent directors” (ie, directors less dependent on management) as suggested by Bebchuk & Hamdani (2016), or by reducing the role of independent directors altogether.