Flawed corporate methods fuelled current economic meltdown

October 10th, 2008 - 3:02 pm ICT by IANS  

Lehman BrothersWashington, Oct 10 (IANS) Archaic corporate systems failing to unearth risky business deals helped fuel the country’s deepest financial meltdown since the Great Depression, a University of Illinois business law expert said.Larry E. Ribstein, a law professor, argued that the traditional, corporate-run firms that dominate the nation’s Fortune 500 are ill equipped to prevent sleazy management decisions that have choked credit markets, sparking a massive, taxpayer-financed Wall Street bailout.

But he says those problems could be averted by shifting to the partnership-style structure of hedge funds, private equity firms and other “uncorporate” businesses, which have better weathered the crisis through controls that include more closely tying managers’ compensation to company financial fortunes.

“There’s nothing like the fear that you yourself are going to lose money,” said Ribstein, an authority on corporate and partnership law. “With corporations, everyone has long known that the oversight of managers is imperfect and it’s always going to be.”

Shareholders in traditional corporations have limited options to monitor powerful managers, said Ribstein, who wrote an article about the meltdown. Even those scant alternatives, such as electing directors to oversee company operations, offer little direct control, he said, according to a release of Illinois University.

“In corporations, boards of directors are supposed to be independent, which means that they don’t really have strong incentives to pay a lot of attention to what’s going on,” Ribstein said. “They worry more about making some embarrassing mistake than trying to identify the fundamental problems that need to be fixed.”

In contrast, he says, hedge funds and other “uncorporations” rely on incentives and discipline that essentially make managers partners in the operation and less likely to take needless risks that could ultimately cost both them and owners.

As a result, those partnership-based firms ducked miscalculations about the real estate market that sank traditional corporations such as Lehman Brothers and forced a $700 billion government bailout of others, Ribstein said.

The analysis appeared in the University of Chicago Law Review

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