How Fix Boards?

In his book The Wisdom of Crowds, James Surowiecki held out hope that prediction markets could reform corporate information flows, and he was kind enough to mention me as an early innovator.  In his New Yorker column recently, he discussed fixing corporate boards:

Over the past couple of decades, a tremendous amount of attention has been devoted to improving corporate boards. New regulations, along with pressure from big investors, have forced companies to appoint more independent directors—people who have no direct connection to the company—and have tightened the definition of independence.  … All these changes, though, have had a much smaller impact than expected. …

There are ways to make boards proactive and more than nominally independent. Investors need to be able to play a much bigger role in determining who ends up on boards, nominating candidates themselves, instead of choosing among the C.E.O.’s picks. … On top of that, … big institutional investors [should] create a cadre of full-time directors, people whose only job would be to sit on corporate boards and look after shareholder value.

Problem is, investors need to own non-trivial fractions of companies to make this worth their while, and so this proposal needs a lot more concentration among investors than we have now, and probably more than most folks are comfortable with.   In contrast, my proposal to use prediction markets to advise key board decisions like firing a CEO requires no investor concentration.

I don’t really know if Surowiecki likes my proposal, or even knows of it.  He’s never returned my emails, though maybe he’ll see this post.  I suspect that he sees my proposal is too “out there” to befit a respected New Yorker columnist, and so wouldn’t endorse it even if he knew of and privately liked it.

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  • K. Larson

    Robin has totally convinced me of the utility of prediction markets in generating accurate data (except where Brian Caplan has convinced me that error is not normally distributed).

    However, as I understand it, the primary problem with US boards is not that they lack quality information, but that they are disinclined to act on good information.

    Board members that overpay the CEO or fail to adequately oversee management’s shenanigans aren’t acting under the mistaken belief that they are maximizing shareholder value- they’re acting under the entirely correct belief that they are protecting and assisting their friends/co-conspirators at the cost of the shareholders.

    Prediction markets would be a fantastic aid to honest boards however, and so one might argue that prediction markets could raise the price of fecklessness by increasing competitive pressure from firms with less supine directors. This doesn’t seem like a sure thing, however.

    • JGWeissman

      If a prediction market, or any other means, produced reliable information about what decisions a board should make, then having that same information available to shareholders should motivate the board to act on that information. If voting in my best interest is as easy as taking the recommendation of a prediction market, this becomes worthwhile to me even for small investments, especially if the prediction market enables small investors to vote as a bloc.

  • Bauer

    ” In contrast, my proposal to use prediction markets to advise key board decisions like firing a CEO requires no investor concentration.”

    ______________

    …availability of ‘good’ advice to board members is not the problem — and is not a solution.

    The problem is a general lack of integrity by board members (.. and CEO’s) as economic agents of stockholders.

    The “Iron Law of Oligarchy” always arises in static organizational structures.

    Dishonest employees (agents) must be promptly fired by the owners (principals). If honest employees (board-members/CEO’s) cannot be economically found — the owners should liquidate the specific enterprise… and seek more productive investments for their capital.

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  • http://ssmag.wordpress.com a_c

    How do we know that employees will not “vote” for firing top brass as an act of frustration rather than as a rational choice?

  • tg

    Following up on ac’s thought: once prediction markets become as mainstream and democratized as the stock market, what is to keep them from being highjacked for speculation and providing less data on the issue being priced and merely reflecting speculative expectations of the predictions of the masses?

  • http://hanson.gmu.edu Robin Hanson

    K and Bauer, if you followed the link to my proposal you’ll see the idea is to collect a track record of board that follow vs not the market advice, and then publicize and hopefully shame boards that reject such advice.

  • Tangurena

    We already effectively have a cadre of full-time directors in the US. As someone who ran for an elected board position, I looked into private boards as well and what I saw was that they are all drawn from the managerial classes.

    The best change that we could do would be to eliminate the incestuous relationships between board members. And one way to do that would be to make it illegal to be on more than one board at a time. We should avoid (mis)managers for board members and instead hire people who work for a living.

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