Cover image for Employees and corporate governance
Employees and corporate governance
Blair, Margaret M., 1950-
Publication Information:
Washington, D.C. : Brookings Institution Press, [1999]

Physical Description:
v, 362 pages : illustrations ; 24 cm
ch. 1. Theoretical framework. pt. 1. Why capital (usually) hires labor : an assessment of proposed explanations / Gregory Dow and Louis Putterman. pt. 2. Firm-specific human capital and theories of the firm / Margaret M. Blair. pt. 3. Workers and corporate governance : the role of political culture / David Charny. pt. 4. Tailored claims and governance : the fit between employees and shareholders / Edward B. Rock and Michael L. Wachter -- ch. 2. German Codetermination. pt. 5. Codetermination : a sociopolitical model with governance externalities / Katharina Pistor. pt. 6. Codetermination and German securities markets / Mark J. Roe. pt. 7. The market value of the codetermined firm / Theodor Baums and Bernd Frick -- ch. 3. Japanese corporate governance. pt. 8. The political economy of Japanese lifetime employment / Ronald J. Gilson and Mark J. Roe. pt. 9. Employment practices and enterprise unionism in Japan / Nobuhiro Hiwatari -- ch. 4. Employee share ownership. pt. 10. Employee stock ownership in economic transitions : the case of United and the airline industry / Jeffrey N. Gordon.
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Most scholarship on corporate governance in the last two decades has focused on the relationships between shareholders and managers or directors. Neglected in this vast literature is the role of employees in corporate governance. Yet "human capital," embodied in the employees, is rapidly becoming the most important source of value for corporations, and outside the United States, employees often have a significant formal role in corporate governance. This volume turns the spotlight on the neglected role of employees by analyzing many of the formal and informal ways that employees are actually involved in the governance of corporations, in U.S. firms and in large corporations in Germany and Japan. Examining laws and contexts, the essays focus on the framework for understanding employees' role in the firm and the implications for corporate governance. They explore how and why the special legal institutions in German and Japanese firms by which employees are formally involved in corporate governance came into being, and the impact these institutions have on firms and on their ability to compete. They also consider theoretical and empirical questions about employee share ownership. The result of a conference at Columbia University, the volume includes essays by Theodor Baums, Margaret M. Blair, David Charny, Greg Dow, Bernd Frick, Ronald J. Gilson, Jeffrey N. Gordon, Nobuhiro Hiwatari, Katharina Pistor, Louis Putterman, Edward B. Rock, Mark J. Roe, and Michael L. Wachter. Margaret M. Blair is a senior fellow in Economic Studies at the Brookings Institution and author of Ownership and Control: Rethinking Corporate Governance for the Twenty-first Century (Brookings, 1995). Mark J. Roe, professor of business regulation and director of the Sloan Project on Corporate Governance at Columbia Law School, is the author of Strong Managers, Weak Owners: The Political Roots of American Corporate Finance (Princeton, 1996).

Author Notes

Margaret M. Blair is a senior fellow in Economic Studies at the Brookings Institution and author of Ownership and Control: Rethinking Corporate Governance for the Twenty-first Century (Brookings, 1995). Mark J. Roe , professor of business regulation and director of the Sloan Project on Corporate Governance at Columbia Law School, is the author of Strong Managers, Weak Owners: The Political Roots of American Corporate Finance (Princeton, 1996).



Introduction MARGARET M. BLAIR AND MARK J. ROE In recent years legal and finance scholars who have studied the institutions of control and governance in large corporations have focused on the relationship between shareholders and managers, particularly on the problem of getting managers to act as faithful agents for shareholders. But little energy has gone into analyzing the role of employees in such governance. Do corporations adapt their governance structures to the type of human capital found among their employees? Do some governance structures work better in some labor markets or structures than in others? Do some labor markets affect the type of governance structure that will achieve and keep industrial peace without compromising productivity? Although human capital is widely acknowledged to be the most important asset of many firms, its role has been treated as a labor issue and not as a central concern of corporate governance.     Yet there are compelling analytic and policy reasons to care about how boardroom decisions affect employees and how employees can affect corporate governance. First, human capital is often as important as physical capital in creating value. For many firms, human capital--the ideas, skills, and organizational capabilities that employees can bring to bear on a problem, and the swiftness and flexibility with which they can deploy resources--is more important than their physical capital. Second, as a result of today's economic globalization the relevant competition for many firms and their employees may be halfway around the world, in a place where the relationships between employees and their companies may function under different legal rules and social norms. Third, boardroom decisions to close a plant, spin off a business, or merge with another company can affect the daily lives and financial security of employees; employees, in turn, may become political actors in pursuit of their own agendas. If they feel adversely affected by corporate governance institutions, employees need not be passive pawns in a corporate chess game but can try to change the institutions of corporate governance directly through contract or indirectly through courts and legislatures. Mechanisms of Influence Labor directly influences corporate governance structures in the United States less than it does is in some other countries. Mechanisms of influence in U.S. firms include informal internal structures, such as work teams or quality circles, by which employees influence decisionmaking on the shop floor. Employees can also organize unions, strike, seek legislation, appeal to the media, file lawsuits, negotiate individually for better terms, or leave for another job with better terms (sometimes taking critical human capital with them). In some cases, they can use control over pension fund investments in firms to influence corporate behavior. Boardroom representation is rare, however.     Employees abroad sometimes have a more formal governance role. In Germany, corporations with more than 2,000 employees must have a two-tier board, and half the seats on the upper tier, or supervisory board, must be filled by employee representatives. Works councils, which represent employees' interests at the plant level, are also a mandatory feature of German corporate governance. Japan relies more on norms than on formal law in its corporate governance structures, but major firms seem committed to lifetime employment for some employees and fill their corporate board seats with senior employees, thereby bringing employees' interests to the center of decisionmaking in corporate boardrooms. New Contributions and Insights This volume brings together ten essays about employee participation in corporate governance. Nine were first presented at a Columbia Law School Sloan Project conference in the fall of 1996, and the tenth, Mark Roe's essay on codetermination (chapter 6), was written apart from the conference. Several essays are about why the role of employees in corporate governance is limited in the United States and why employees have more access to corporate boardroom decisionmaking abroad. Several authors explore and seek to explain the origins or effects of three arrangements that can give employees considerable influence in the boardrooms: codetermination, as practiced in Germany; lifetime employment and enterprise union, as in Japan; and those special American situations in which employees have become significant shareholders in the corporations in which they work. Theoretical Framework The first four chapters in this collection lay the intellectual foundation for the overall discussion by asking why shareholders usually have the key rights of corporate control (such as the right to vote for directors and on important corporate transactions), and why employees do not typically share these rights. Greg Dow and Louis Putterman suggest in the title of chapter 1 that this question might be rephrased as "Why does capital (usually) hire labor and not vice versa?" In their discussion of the central contracting party--the party that hires the other inputs and has critical control rights--Dow and Putterman sharply distinguish between labor-managed and capital-managed firms, though they acknowledge that in practice it is not always easy to determine which input provider actually controls the firm. A traditional stock corporation, for example, may have employee representatives on the board, employees may own stock or have it held in trust for them, or employees may participate informally in decisionmaking. The far more common practice in industrial companies is for the parties that contribute financial capital, rather than employees, to have formal control, by which Dow and Putterman mean the right to choose the board and the formal authority to replace management. (This formal control may be diluted by managerial influence, a topic at the heart of recent financial and legal inquiry in the past few decades.)     The question of "why capital hires labor" is one that economists have long sought to explain in theory. Dow and Putterman group the many theories into five categories, according to the problems that worker-managed firms face: problems connected with work incentives and monitoring; wealth constraints and credit rationing for worker-owners; risk aversion and insurance market imperfections; contracting problems caused by asset specificity and investment incentives; and collective choice problems. At present, they say, anecdotal and systematic empirical evidence is insufficient to rule out any of these problems as a factor contributing to the rarity of worker-managed firms. Accordingly, they call for further empirical research to test the strength of each theory. Another point Dow and Putterman make concerns productivity in worker-managed and capital-managed firms. They find good empirical evidence to indicate that worker-managed firms often have superior productivity. This makes it all the more important, they state, to evaluate theories about the rarity of worker-owned firms, to discriminate empirically among the competing hypotheses, and to better understand the environments in which these firms flourish.     In chapter 2, Margaret Blair takes up one category of contracting problems identified by Dow and Putterman: those caused by asset specificity and investment incentives. Physical assets that are highly specific to an enterprise--in other words, that cannot be used easily outside the enterprise--are a risky investment, she notes, because their costs are sunk and not recoverable outside the firm. Investors who finance such assets will seek to protect their investment through contract and/or involvement in the firm. Many times their best protection may be to obtain control rights. Hence, according to this theory, if parties to the firm can freely contract with one another, providers of firm-specific capital will frequently end up getting control rights (unless other impediments arise).     But, Blair notes, the same line of reasoning applies to firm-specific human capital. Investment in skills that cannot be readily used outside an enterprise and that are not easily recoverable other than by sharing in the firm's returns will put its employees at serious risk. One might expect employees who make such investments to bargain for control rights to protect their interests. While that possibility has been noted by other theorists (including Edward Rock and Michael Wachter in chapter 4, as well as Dow and Putterman in chapter 1), most have considered it unimportant or have argued that the negative effects of employee control outweigh the benefits, or have concluded that employees can protect themselves through alternative contractual and institutional arrangements. Hence employees do not end up with control rights in the firm itself. For this reason, scholars generally treat the employee-firm relationship as a matter of labor law, outside the purview of corporate governance policy.     This standard analysis is consistent with the way most corporate and financial theorists have, in recent years, come to view a corporation: as a nexus through which participants in the firm contract with one other. Since all relationships within a firm are contractual in nature, according to this paradigm, corporation law itself is seen as a standardized solution to a central contracting problem, namely, the agency problem between shareholders and their hired managers. All other relationships are said to be governed by ordinary, negotiated contracts.     But Blair takes issue with a key assumption of this standard analysis, which is that shareholders are, and should be, the hiring party, or the "owners." This assumption (which is examined in several essays in this volume) has constrained American corporate governance scholarship by concentrating on the shareholder-management nexus. To understand why control rights have evolved as they have, she says, one needs a broader view of what a firm is, and what corporation law accomplishes.     Blair reviews several newer theories, noting that investments in knowledge, skills, relationships, and other forms of human capital can create contracting difficulties that neither arm's-length market transactions nor formal contracts can readily resolve. Where firm-specific employee investments are important, one would expect to find institutions that encourage continuity in the relationships between employees and the firm and that give employees the means to protect their stakes. Such institutions might include unions, severance pay, social norms of lifetime employment, internal job ladders, career paths, seniority rules, and direct and formal control rights. The new theories view the firm as a system of incentives or as a nexus of specific investments: in other words, as a mechanism for governing the relationships among all the participants (those who contribute labor, especially firm-specific labor, as well as those who contribute capital, especially firm-specific capital), not just the relationship between shareholders and managers. According to Blair, one of these institutional arrangements is that the law makes the corporation itself a legal entity separate from any of its participants, a fact that tends to be dismissed as unimportant by advocates of the nexus of contracts paradigm.     David Charny's discussion in chapter 3 starts with the premise that workers do participate in corporate governance, broadly defined, and that they influence management, even in mainstream, traditional, capitalist industrial firms. Three fundamental challenges arise when workers participate in governance, he states: conflicts of interest among the workers need to be resolved; workers must be kept informed so that they can provide meaningful input into management decisions; and workers must be able to make credible commitments to one another, to management, and to other participants in the firm. Charny explores the advantages and disadvantages of three governance systems that might be used to meet these challenges: "hard," "soft," and "no participation" regimes.     --Hard regimes are those that would support or make specific legal provision for institutional mechanisms or procedures by which employees would participate in governance. German corporations, for example, combine mandated social benefits, works councils, and codetermination to this end.     --Soft regimes do not explicitly mandate or enforce the mechanisms and procedures by which workers participate in management but operate through powerful social norms and traditions. Japan offers a prime example: its firms emphasize flexible work teams, job rotation, and problem solving and resource allocation on the shop floor, thereby involving employees in strategic decisions about production. In addition, unions have effectively participated in decisionmaking at higher levels of the managerial hierarchy.     --No participation regimes, epitomized by U.S. institutions, follow no particular standard of employee participation but make use of various idiosyncratic mechanisms that lead to deep employee involvement in some firms and no involvement in others.     Charny argues that industrial relations practices in all three regimes are tightly linked to corporate governance arrangements, and political cultures of each regime help sustain the various systems. He claims that all three regimes can adapt reasonably well to stresses caused by changing circumstances, such as globalization and changing technology, even if the stresses (and adaptations) differ in form, although he predicts that "soft" regimes, such as that in Japan, may have the most difficult time adjusting. Charny emphasizes the interconnectedness of institutional arrangements and suggests that it might be counterproductive to import one or a few rules or arrangements from one type of regime and impose them on another type.     Edward Rock and Michael Wachter argue in chapter 4 that employees even in standard, widely traded industrial corporations are involved in governance, but that their tasks, risks, claims, and control rights have been divided up in accordance with their specific knowledge and influence. Managers and shareholders oversee matters in which they have more specialized knowledge. Similarly, employees get claims that strike a balance between the need to motivate them and their desire to protect themselves against undiversifiable risks, whereas shareholders, who can better diversify risk, get a residual claim.     Drawing on the literature on labor economics, organizational economics, and the relevant areas of the law, Rock and Wachter argue that the division of governance tasks, risks, claims, and control rights is determined by the characteristics of the parties involved, the nature of the assets they contribute, and the transactions in which they engage. Four factors determine how the tasks, risks, claims and control rights are apportioned: the degree of asset specificity, the extent of information asymmetry, the extent of risk aversion, and the costs of drafting and enforcing explicit contracts. When the factors are similar, the authors argue, the governance arrangements tend to be similar; and, by implication, when the factors differ, legal efforts to force a uniform policy would probably be bad policy.     To demonstrate, the authors examine the arrangements in widely traded corporations. Employees of such corporations do not typically bargain for a residual claim because they are averse to the risk involved. This is not a problem for shareholders, since they can diversify their risks. Furthermore, employees do not typically participate in firm-level governance--that is, they do not have a say in the broad direction the firm should pursue, how it should invest its capital, how well executive officers are doing their jobs, or whether the corporation should be sold or restructured financially--because they lack expertise and information about these issues. But employees participate in decisions concerning wages, benefits, working conditions, terms of employment, and often the organization of work in their work units. These are areas in which they would be expected to have relevant information and expertise.     Rock and Wachter find that in closely held corporations shareholders and employees make surprisingly similar contributions in each of the four dimensions. Correspondingly, their rights, claims, and involvement in governance tend to be similar. Indeed, the authors note, shareholders' and employees' roles overlap in the closely held firm:many shareholders of small firms are firm employees, and vice versa. German Codetermination The authors of chapters 5 through 7 turn their attention to codetermination in Germany. German law requires large firms to have a two-tiered board, and half the seats on the upper tier, or "supervisory" board, are to be occupied by employees or their representatives. Katharina Pistor (chapter 5) analyzes the economic and political rationale for why the German government required codetermination and its consequences for corporate governance. She distinguishes between "social governance," which constrains large firms and their shareholders from exercising some of the power that they would otherwise have, and "firm governance," by which she means control of management by the owners of the company. She argues that German society sought through codetermination laws to improve the social governance of private capital, as well as to reduce worker alienation by engaging them in the firm's decisionmaking.     Although many in Germany believe this sociopolitical goal has been achieved, codetermination, Pistor notes, has raised the cost of firm governance and affected the dynamics among the three major parties involved in corporate control: shareholders, managers, and employees. Codetermination has strengthened management's hand, she argues. With membership on the supervisory board divided, management can play off the employee half against the shareholder half, to management's benefit. Anecdotal evidence suggests that the additional costs imposed by codetermination on firm governance may outweigh the benefits of social governance, although she says that codetermination cannot be made responsible for most of the inherent weaknesses in German corporate governance.     In chapter 6, Mark Roe extends these arguments, hypothesizing that codetermination may help explain why large-block shareholding persists in Germany, while securities markets--especially markets for initial public offerings (IPOs)--remain thin. Where codetermination is mandated by law, he reasons, stockholders may want the firm's governing institutions to have a blockholding "balance of power," which would be impossible to achieve in diffusely owned firms because half the supervisory board represents employees. Shareholders' "demand" for blockholding reduces the incentive of founding and large-block shareholders to sell out to a diffuse market because potentially diffuse buyers will not pay enough. Hence a good securities market does not develop, and the players have less reason than they otherwise would to build good securities distribution institutions.     Roe also suggests that having labor representatives on the board may induce German managers and shareholders to keep the supervisory board weaker than it would otherwise need to be. Board meetings are said to be infrequent, information flow to the board is poor, and the board itself is often too big and unwieldy to be effective. Instead, shareholder caucuses and meetings between managers and large shareholders substitute for effective boardroom action. Lacking a more effective board, German firms lack one control mechanism that diffuse shareholders would prefer the firm to have. One implication of Roe's thesis is that, even if other rules and institutional structures were conducive to better-developed capital markets in Germany, codetermination might lead shareholders to retain their concentrated structures and keep the board weak.     In Chapter 7, Theodor Baums and Bernd Frick take up the question of whether codetermination could be efficient, despite some arguments to the contrary (some of which were reviewed by Pistor in chapter 5). Efficiency might arise, the authors point out, if mandated rules resolved the prisoner's dilemma arising from institutional arrangements needed to support investments in firm-specific human capital, especially compressed wage structures and protection against dismissal. All firms could conceivably be better off if workers made such investments and cooperated with management. But if one firm offered a compressed wage structure and dismissal protection to encourage such investments while others pursued the traditional strategies of motivating workers through sharply differentiated wage structures and the threat of dismissal, then the firm emphasizing a cooperative culture will suffer from adverse selection: it will attract the less-motivated workers who value dismissal protection, while the best workers will go to traditional firms that pay more to its best workers. Hence a competitive market, without legally imposed codetermination rules, would inevitably end up in noncooperative equilibrium.     Even if an equilibrium with compressed pay and dismissal protection were more productive than one with more high-powered market incentives, they argue, it could unravel if it were not mandated for all firms. Firms could not always pursue the cooperative package, because their best employees might be hired away. Legally mandated codetermination could move all firms to the cooperative equilibrium, they argue, with potentially higher total output in those economies where the cooperative package is more productive than the market-based package. Given the divergent predictions of theory, then, one cannot predict with certainty whether the net effects of codetermination on firm performance and stockholder value will be positive or negative.     For insight into this issue, Baums and Frick turn to empirical evidence, namely, the impact of events leading to the promulgation of codetermination laws and court decisions on the stock prices of German firms. If the various events they identify were important, and news to investors, and if investors believed that codetermination lowered firm value, stock prices should have declined in response to those events. Although other studies have reported a negative impact of codetermination on stock price, Baums and Frick find no evidence that codetermination rules caused the equity value in German corporations to decline, a result consistent with the possibility that shareholders were not harmed by codetermination. (It is also consistent, they note, with the possibility that the effects were previously impounded into the stock price.) Japanese Corporate Governance In chapter 8, Ronald Gilson and Mark Roe ask whether lifetime employment facilitates investments in human capital, as conventional wisdom suggests. Most analysts in the United States have argued that lifetime employment produces a win-win situation: the employer gets a highly skilled employee and the employees get job security. But, Gilson and Roe argue, a firm's commitment to job security for its employees would not, by itself at least, protect either the firm's or the employees' investments in human capital. Even with lifetime employment, they note, the employee is free to leave and the employer is free to adjust salary, so lifetime employment does not, by itself, protect either's investments in human capital.     What, then, explains the heavy investment in human capital in the Japanese firm? Gilson and Roe argue that is more likely to be the "dark" side of the Japanese firm's relationship with labor--the constriction of the external labor market--than it is lifetime employment. Firms are prepared to pay for human capital because employees cannot easily jump to another firm after the employer pays up. This feature of enforced low mobility, they further note, is not something most Americans would find appealing.     Gilson and Roe hypothesize that lifetime employment arose for both "macro" and "micro" political reasons, rather than economic ones. At the macro level, Japan's deep economic troubles after World War II may have prompted conservative leaders to endorse lifetime employment as a means of warding off socialist electoral victories. At the micro level, managers tried to defeat unions that had become hostile after the war and win back factories from worker occupation, firm by firm, by offering lifetime employment to a core of workers. Neither of these goals had any direct connection with human capital training but were about reducing total worker influence, either in elections or in the factory. But once lifetime employment was in place as standard practice, other institutions, such as enterprise unions (see chapter 9), emerged to support and complement it. Another complementary institution is the inside board, in which managers who win internal promotion contests end up on the firm's board.     Gilson and Roe concede that the historical record does not provide "smoking gun" evidence that Japan's large firms agreed not to raid one another's employees. (Again, they suggest that the constriction of the external labor market in Japan does more to protect employer investments in human capital than does the firm's promise of a lifetime job.) At the same time, they offer some theories as to why the parties would not advertise such agreements, why government efforts to constrict the labor market could have been the result of the firms' influence, and why firms might on their own decide not to hire laterally. They also state that market-constricting arrangements, if they do not become consistent with a labor market equilibrium, are fragile without government enforcement.     In chapter 9 Nobuhiro Hiwatari considers whether economic forces are causing various institutional arrangements by which labor participates in corporate governance to converge. His analysis suggests they will not converge. Although local, historical, and political circumstances may have caused some arrangements to collapse, Hiwatari notes, others have emerged that are likely to prevent convergence. A case in point is the Japanese enterprise union, an institution sometimes regarded as one of the "three sacred treasures" of Japanese management (the other two being lifetime employment and the seniority wage system).     Like Gilson and Roe, Hiwatari rejects the idea that these arrangements are due primarily to a cultural predisposition toward cooperation in Japan. He finds their roots in the history of unionism in the postwar period, especially during the occupation, noting that "revolutionary unionism," the most powerful force in the earliest postwar years, was bent not just on organizing workers for gains in the workplace, but on mobilizing them politically and creating a socialist revolution. If anything, these unionists rejected cooperative approaches. Management crushed revolutionary unionism after the occupation authority's reforms and austerity in the late 1940s forced Japanese companies to face market competition, which in turn led to massive layoffs and a restructuring of Japanese industries. In the large firms, enterprise unions emerged and replaced the revolutionary unions, as workers at all levels united to cooperate with management in an effort to save their own firms and, they hoped, their jobs.     Enterprise unions have the following characteristics:membership is limited to permanent employees, blue- and white-collar workers join a single union, membership is automatic upon joining the firm, union dues are collected automatically, union officers retain their employee status during their tenure, and union sovereignty is retained at the enterprise level. Enterprise unions cooperate with firm policies, Hiwatari says, as long as the firm is "committed to employment security and provides wages and fringe benefits comparable to those offered at other large corporations in the same industry." Enterprise unionism has been credited with stabilizing employment in Japan in the past few decades and with enabling the economy to survive repeated oil and financial crises over this period with low unemployment. Hiwatari argues that the cooperation of the enterprise unions enabled some large Japanese firms to keep investing during the crises and thereby kept the firms competitive. Also important was the fact that oligopolistic export-oriented industries coordinated their investments, while fragmented industries were forced by market factors to adjust. Employee Share Ownership Jeffrey Gordon closes the circle in chapter 10 by returning to the idea of employee control. Like Rock and Wachter, he discusses the means by which employees participate in governance or exercise partial control rights to help protect their interests, particularly through share ownership. Although Gordon recognizes the arguments (reviewed by Dow and Putterman) against employee share ownership as a permanent arrangement, he postulates that employee stock ownership transactions might help solve at least four types of problems associated with sharp economic change in U.S. corporations: the justice questions raised by the allocation of general transition costs between shareholders and employees, inefficient bargaining over the allocation of one-time transition costs, inefficient bargaining over ongoing transition costs, and the lack of adequate structures for rapidly changing environments where "transition" costs might be a continuous part of doing business. Gordon is skeptical of the idea that employee share ownership is about justice. Rather, he shows how employee stock ownership can improve the bargaining environment between a firm and its employees, especially when the stock is granted to employees in exchange for wage and benefit concessions. His arguments apply even (and perhaps especially) in times of wrenching transitions, as in Eastern Europe and Russia. In such instances employee participation in governance as well as gain sharing may be critical to a successful restructuring. Lessons Learned Of the recurring themes in this volume, a central one is that institutions matter. Different institutions of governance, whether involving employees or not, have different costs and benefits, and there may be no unique, economically optimal governance arrangements. Rather, history and politics matter in explaining which institutions arise and which ones persist.     Another theme is that institutional arrangements and practices may interact to complement and support each other and thus cannot be studied in isolation. Furthermore, the institutions observed in a given nation or at a particular point in time may be partly an accident of history, rather than an optimal solution to a current economic problem. Gilson and Roe refer to this circumstance as "path dependency," a concept similar to that of multiple equilibria. Path dependency implies that an institutional arrangement may simply represent a reasonable solution to a prior problem, which in the case of governance participation in Japan and Germany happened to be a political rather than an economic one. Likewise, the general absence of standardized structures for employee participation in U.S. companies may be a product of the nation's history and political pressures. As Charny notes, the three prominent regimes ("hard" rules, "soft" rules, and no rules) simply "represent three different solutions to a set of problems common to firms in each economy." All three have adapted with more or less equivalent success to different stresses, although they may distribute the costs of adjustment in different ways.     Another theme here is that lifetime employment, codetermination, and other institutions may have been adopted to solve one problem but then had unintended costs or unintended benefits. Or, as malleable institutions evolve, the economic results may be similar to those produced by another set of institutions. To refer to the Gilson and Roe example again, Japanese firms may have adopted lifetime employment to solve a political problem, but in so doing they facilitated the rise of supporting institutions that led Japanese firms to invest in human capital and caused Japanese managers to rank employees ahead of shareholders as important constituents and beneficiaries of the activities of the firm. This arrangement, apparently beneficial for many years, may now be impeding Japan's efforts to adjust to its current financial crisis.     The chapters in this volume also have a common methodological theme: that the tools of economic and financial analysis can, when due regard is given to historical sequencing and institutional complementarities, better explain the relationships among the firm, shareholders, managers, and employees than either economic theory or historical anecdote can alone. In prior academic work, employee-related corporate governance issues have come up mostly in connection with stakeholder theory, which has not made much progress in the core inquiry into corporate governance, perhaps because purveyors of stakeholder theory have not made as much use of the intellectual discipline provided by economic theory or finance theory.     In addition, the contributors to this volume emphasize that the arrangements in place today should not be considered fixed. Corporate governance institutions have adapted before, and new historical, political, and economic pressures may precipitate other adaptations. Moreover, policy debates about reforms must not only consider economic analyses but must also be textured, contextual, and sensitive to political realities. Copyright © 1999 The Brookings Institution. All rights reserved.

Table of Contents

Margaret M. Blair and Mark J. RoeGregory Dow and Louis PuttermanMargaret M. BlairDavid CharnyEdward B. Rock and Michael L. WachterKatharina PistorMark J. RoeTheodor Baums and Bernd FrickRonald J. Gilson and Mark J. RoeNobuhiro HiwatariJeffrey N. Gordon
Prefacep. v
Introductionp. 1
I Theoretical Framework
1 Why Capital (Usually) Hires Labor: An Assessment of Proposed Explanationsp. 17
2 Firm-Specific Human Capital and Theories of the Firmp. 58
3 Workers and Corporate Governance: The Role of Political Culturep. 91
4 Tailored Claims and Governance: The Fit between Employees and Shareholdersp. 121
II German Codetermination
5 Codetermination: A Sociopolitical Model with Governance Externalitiesp. 163
6 Codetermination and German Securities Marketsp. 194
7 The Market Value of the Codetermined Firmp. 206
III Japanese Corporate Governance
8 The Political Economy of Japanese Lifetime Employmentp. 239
9 Employment Practices and Enterprise Unionism in Japanp. 275
IV Employee Share Ownership
10 Employee Stock Ownership in Economic Transitions: The Case of United and the Airline Industryp. 317
Contributorsp. 355
Indexp. 357