Author’s Corner: The Small World of Corporate Governance by Bruce Kogut
December 10, 2012
Yes, picking up on the ASR article that Gordon Walker and I wrote now some time ago, we make a very explicit case for what sociology brings to the exercise and practice of governance; for many people in this field, this needs to be demonstrated. It’s odd, the top of the pyramid, folks are very aware of their social networks, but somehow the transition from the networks of money and connections is lost in the mainstream accounts of who gets to buy and who gets to sit on boards.
What was your motivation for writing about “small words” in corporate governance?
I wanted to do two things. Show how social science would do much better working under the principle of open science, sharing data, inviting folks to join, posting the data –you can get our data on our Columbia Bernstein Center web site. And I also wanted to show how computational social science provides us with powerful tools and ideas, including comparative and world sociology. Some of these tools, i.e. algorithms, are posted, and they are also detailed in the book. I am pretty excited by dynamics and simulations and use data for simulations and I hope that others take notice, even if not per interested in governance. And also, I wanted to have a fun with a lot smart people, many who were early in their careers.
Given the extensive work complied in this book, what is the main message that, if at all, changes the way we think about corporate governance?
The simple message is that society matters to governance and we can trace this social influence dynamically through the pattern of connections within elites. We show how governance outcomes differ depending on these social connections. There is a lot more to be done here, and many more kinds of ‘multiplex’ connections to be considered. In our age of big data and algorithmic search, we are at the frontier of a revolution and we wanted to be in barricades, fighting this battle.
Should market regulators have read this book before the 2009 financial crisis?
Well, probably we should all have been a bit smarter but every crisis teaches a different lesson. The Asian crisis gave rise to the teaching that liberalization of financial markets is a good thing. It can be a good thing in countries that need capital and the vendors of capital are a few banks. What our book says is to understand how structural patterns of ownership and power matter to a country. In the US, the book that still needs to be written in the vein of our study is how connections of politicians, regulators, and money have been, probably still are, too tightly held. I am glad to see that the office of systemic risk is part of the Dodd-Frank bill and is looking at loan exposures. I think we should migrate this study also to owners and boards.
One of the strengths of the book is the use of “innovative methodologies” in social network analysis to map ties among board directors. Are research methods to be blamed or lauded in the popular association between corporate governance and the turmoil in the markets?
Not sure how to answer this question, but I have no doubt that there are not enough sociologists to cover every major question, so we have to start working smarter together. I was very happy to see a community of scholars develop, and it was remarkable how many joint papers were produced between members of the small world community, as we called ourselves, that were separate from the book. It was a great learning experience, for me too.
One believes that companies are globally connected and yet this book demonstrates that the world of corporate governance is “small” (e.g. low connectivity across countries) indeed. Is this a story of how a “small” group of directors controls a “large” part of our lives?
That’s not quite what we found. In fact, the world does not have the structural properties of a small world –and I think this is a problem. There is no global law, no common rules on governance, and no deep social fabric. Small worlds are often clubs, but these clubs can serve to monitor firms, keep an eye on corruption, respond in a crisis. Internationally, who controls the large corporation? Who knows what Walmart is doing in Mexico and elsewhere and Walmart headquarters may truly not know. We need small worlds to provide this additional governance.
What are the implications of a “small world” for the spread of social innovation in governance practices, such as partnerships where the employees sit on the board of companies)?
That experiment has been run and Europe is still fighting that battle, but it is surprising how many firms in America are also employee (and union owned) through ESOPs. I don’t know if ownership ties matter a lot here, clearly law does, but there are also very interesting private equity companies who spread this type of ownership because the data show that these firms do relatively well.
One of the findings (by Martin Conyon and Andrew Shipilov) is that “governance models” – for example, the Anglo-Saxon – is indeed formed by multiple models. What are the implications for implementing international governance and accounting standards?
This was a mischievous chapter simply to say that you may think Anglo-Saxon countries consist of atomistic firms run by independent directors, but alas you are very mistaken. End of story.
What are the implications of a “small world” of corporate governance for corporate bankruptcy?
Good question. Bankruptcy means that banks and lenders choose to refuse to lend more. We have good evidence that those firms with closer bank ties had better access to capital during the crisis. However, once bankruptcy occurs, lenders own the firm (though labor and others may also have power) and their ability to coordinate a work out will depend upon their own ties and relationships. We did not study this, but others have; it’s rather colourful research.
Social structures (e.g. families) and governance structures are argued to be mutually reinforcing. Although insightful, this view leaves us with little hope for social change in countries were social embeddedness plays a critical role. This idea strikes me specifically in the context of emerging economies (e.g. Brazil and China). Which direction are we heading to?
We tried to wean a generation of scholars from the notion that family ownership is bad and also away from this notion of social embeddedness. The pure libertine will say, families and governments get out, but we have to ask relative to what. But quite frankly rather than enter this debate (other than to say the evidence is all over the map), we showed through a very simple simulation that family firms emerge out of social rules, such as who in the family inherits the firm or how many sons does a family have. Again, we were stressing the pitch here’s how society matters to emergence of corporate governance. Once we understand these rules and macro outcomes, then we can start to think why an alternative might be good or bad.
Governance is described as a social asset shared among a club, how much can we change the composition of this club – for example, more females sitting on boards?
Norway showed that a quota law can change the club dramatically and of course such clubs must be open to societal intervention. Quotas leave me very uncomfortable for I don’t understand why Norway thought that legislating outcomes, 40% females, was necessary or socially desirable. What about people who come from poor homes? Take this to an extreme and we will have to have a quota for white males to keep a few around. What we did using Belgian data on real directors was to give a mini-simulation how low quotas can generate considerable power to ‘women’ as a category. Since then in a paper that will come out soon in SMJ, we isolate more clearly the tipping point where a quota is just enough to get the ball rolling. But I don’t mind saying, I am not real big on government intervention on setting quotas and this kind of thinking, as we analytically show, is confused.
Should society expect this club to promote social change?
That question presumes that social change is desirable and I don’t fully disagree with the Edmund Burke tradition that conservation of the past is conservation of the future, and this club can in this sense be a conservative force with the capability to monitor and enforce better governance. I don’t see firms as homogeneous, and thus I don’t see clubs necessarily pushing for change or conservation. But since I have come to learn that much of social science pays so little respect to conservatism unless we are discussing governance of universities, that it might be healthy to say we can and should expect these clubs as much to be conservative as to be actors for social change.
Can corporate governance practices shift from wrongdoing prevention to doing good?
As many know, I am a CSR skeptic, though I see many good examples which don’t make me bilious. I see corporations doing good through a growing enlightenment of how what they do can be powerful forces for good in the world and also profitable. I am of course troubled by how much profit from providing goods and services to the poor is not defensible, but we should also respect that firms are powerful engines for the efficient delivering of services and these efforts employ people. Lowering the costs of providing finance to the poor, hiring people, and not being too greedy (the thorn in the heel of this argument) are worthy aims that boards need to move off the CSR agenda into the business for business agenda.
Recently, Michael Woodford was dismissed as CEO of Olympus Corp. after he whistled on a $1.7 billion accounting fraud at the top level of his own company. What is the role of individual’s values in the “small world” of corporate governance?
It’s hell to be a foreign CEO of a firm where the boys don’t like you. And whatever his values, which appear to be admirable, he was not a player in the business networks of Japan. Game over for Mike.
As for ethics in corporate governance, is “small” really beautiful?
I don’t know. The Rajastani miniatures are beautiful, as is a large canvas of Reubens. Small in our sense does not mean small firms, it means that there are clubs that are not big relative to the size of the network and, here is the good news, these clubs are pretty well connected between clubs and to smaller players. I kind of like this, it’s better that a Simon/Barabasi world of a few giants and then a lot of squid. Many people don’t like atomistic competition or markets made of small firms. So as far as a structure goes, small worlds can be very aesthetically pleasing topologies – and I say this with full pride in the nerdiness of that observation.