Opinion

Emanuel Derman

How should one punish organizations?

By Emanuel Derman
July 19, 2011

There is an orgy of glee as people watch the News of the World implode and see powerful or formerly powerful people threatened with legal action and loss of power.  It’s a nice distraction in which almost everyone can feel righteous. There was a similar frenzy when FNMA, FHLMC and Lehman collapsed, but with no consequent long term behavioral consequences. One of the questions I don’t know the answer to, but which keeps presenting itself to me these days, is:

How do you restrain or punish corporations, collections of people that have some of the advantages of real people, but less of the disadvantages?

Larry Summers writes that “The European Central Bank is right that punishing creditors for the sake of teaching lessons or building political support is reckless in a system that depends on confidence.” This an argument against punishment, for our own greater good.

But letting corporations and creditors get away with confidence-shattering behavior is confidence shattering too, in the longer run. Punishment for folly should be shared more equally among debtors and creditors. For every put society provides to a creditor as belated insurance, the creditor should  give taxpayers a future call, a late payment of the insurance premium they should have paid.

More generally, the punishment of organizations is much less severe than the punishment of individuals, and consequently much less effective. James Grant, in the Washington Post, wrote:

In Brazil — which learned a thing or two about frenzied finance during its many bouts with hyperinflation — bank directors, senior bank officers and controlling bank stockholders know that they are personally responsible for the solvency of the institution with which they are associated. Let it fail, and their net worths are frozen for the duration of often-lengthy court proceedings. If worse comes to worse, the responsible and accountable parties can lose their all.

In the U.S. it often feels as though banks allegedly guilty of money laundering or other offenses settle by paying fines. The fines “hurt” the banks, but don’t really act as restraints, because a corporation isn’t a person. The same is true of churches whose members have committed abuses. You can’t effectively punish a church. Restraint works best on individuals, not on organizations.

How can you restrain organizations? Only by somehow making clear that organizational acts are at bottom acts of some individual within them.

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