As a longtime fan of The Volokh Conspiracy, it’s a particular honor to join you today. I admit spending much class time in law school surfing Volokh rather than taking notes, and it was often a wiser investment (not true for my students of course). The financial crisis has made it an exciting time to teach corporate law and financial regulation inside the beltway. My recent focus has been Treasury Inc.: How the Bailout Reshapes Corporate Theory and Practice, a paper coming out next semester in the Yale Journal on Regulation about how the government’s new role as a shareholder requires a paradigm shift for corporate law. The plan is for this to be the first in a Treasury Inc. series looking into strange consequences of government shareholdings for administrative law, federal budget accounting, theory of the firm, and public choice theory.
Most of the debate over the bailout has been whether we should have bailed out the finance and automotive sectors in the first place, done something else, or done nothing at all. Fascinating question, and it is fun watching the economists fight that one out, but that’s not the question that interests me. My focus is the tectonic shifts in corporate theory and practice that result as companies have given the Treasury and the Federal Reserve equity stakes in exchange for TARP bailout money. To sum up my position: the theory and practice of corporate and securities law are unprepared for the presence of a control shareholder, like the government, that also enjoys sovereign immunity from the federal securities laws and state corporation law.
The six central theories of corporate law, which at times stand in mutual and vigorous opposition, all break down in the presence of an immune control shareholder. Debates about whether we should give more power to shareholders to maximize shareholder wealth, give more power to directors to do the same, or abandon wealth maximization as our paradigm and take a progressive view toward stakeholders, all lose their usefulness in the chaotic presence of a controlling immune shareholder.
The corporate practitioner’s view is equally problematic. We will need to rethink everything we know about insider trading, securities class actions (for which Treasury may end up serving as a lead plaintiff), and state law fiduciary duties for control shareholders. A Board’s ability to approve transactions may be endangered. Finally, the government may obtain the right to nominate candidates for the Board of Directors of public companies under the SEC’s new proxy access rule at TARP recipients in which the government owns a mere 1% stake.
To defend this idea, over the next week I will need to answer a few questions first. Is the government really a control shareholder, and in which firms? Do Treasury and the Federal Reserve enjoy complete sovereign immunity in their exercise of shareholder power? And is there any way to limit the fallout going forward? We will also take a look at a bi-partisan bill from Senator Warner and Senator Corker to which I have contributed language that may limit some of the damage, the TARP Recipient Ownership Trust Act of 2009.
We will also close with an observation on a related issue. If I can establish that the government controls merely the five bailed-out companies in which it has the largest stake (Fannie, Freddie, AIG, Citigroup, Bank of America) then under private sector accounting principles and under government accounting rules (and in these strange times, who knows which is which?) we are currently failing to recognize roughly HALF of the real national debt and HALF of the real budget deficit due to failure by the President and Congress to consolidate the debt of those firms into the national debt and deficit (particularly interesting in light of how the health care debate seems to center around the deficit).