Stakeholder Theory and the Challenge of Welfare Economics

The dominant view of corporate governance, enshrined in Delaware law, is that directors should manage the corporation for the financial benefit of its shareholders. The primary problem for directors implementing this model thus concerns maximizing the present value of the corporation’s shares by trading off present cashflows against future ones. For decades directors have adopted the concepts and methods of financial economics (capital budgeting, discounted cashflow analysis, the CAP-M, etc.) to make such decisions in a rational and disciplined way. The stakeholder model of corporate governance, by contrast, holds that directors should manage the corporation for the benefit of all its stakeholders, including its employees, customers, creditors, suppliers, and the communities in which the corporation operates, and, in an age of climate change, the class of stakeholders may plausibly expand include all human beings now living or to be born in the future. Virtually always, however, the interests and preferences of individuals in such disparate groups conflict, and so the primary problem for directors implementing the stakeholder model thus concerns balancing these interests and preferences, trading off harms to some in order to capture benefits for others. Assuming that, in making these decisions, directors should be guided by the actual preferences of the individuals involved (and not the directors’ own normative views about what is good for such individuals), the discipline of welfare economics provides concepts and methods that directors could use to make these decisions in a rational and disciplined way. Indeed, without these concepts and methods, the stakeholder model cannot even be coherently formulated. Hence, as financial economics is to the shareholder model of corporate governance, so welfare economics is to the stakeholder model. Thus far, however, advocates of stakeholder theory have done nothing to adopt the concepts and methods of welfare economics. Boards of corporations that purport to follow the stakeholder model do not perform welfarist analyses before making business decisions, and even the academic advocates of stakeholder theory have utterly failed to adopt the concepts and methods of welfare economics to advance their theory beyond commonsense intuitions and notions in order to develop a rigorous account of corporate governance on a par with the shareholder model. In a word, stakeholder theorists have failed to rise to the challenge of welfare economics, and until they do so, the stakeholder theory of corporate governance will not become fully intellectually respectable.