Liability, shmiability

In preparation for a speech I'm giving tomorrow, I was re-reading Eric Raymond's excellent Libertarian FAQ. In response to the question, "What would libertarians do about concentrations of corporate power?", I came across this interesting tidbit:

    We'd abolish the limited-liability shield laws to make corporate officers and stockholders fully responsible for a corporation's actions.

Now, I don't have any objections to this idea in principle, but I am not quite sure if it would be a good idea in practice. I've often heard anti-capitalists make similar arguments, but I usually discount their proposals without giving them much thought. (Not a character trait I am proud of, but hey, I'm only human.) It was not until I heard a libertarian make this argument that I began to take it seriously.

Would businesses be able to get the kind of investment needed to create and maintain large ventures if potential stockholders knew that they would be held personally responsible for any misdeeds of the corporation? Would corporate officers be willing to serve on executive boards? Or would all businesses be relegated to small partnerships or single-owner type arrangements? I just don't know how such a policy would work, if at all.

As a business and economics major, I'm supposed to know the answers to these types of questions. It's quite embarrassing that I do not. Can anyone shed some light on this for me?

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The more important part of

The more important part of limiting concentrations of corporate power is that corporations become more inefficient as they grow past a certain size. A quick look at the Global 500 shows two types of "big companies" - retailer/distributors who can effectively decentralize management and privileged corporations (such as energy and financial institutions).

To the specific question, in a true free market, a stockholder would probably be liable by law, but by contract and practice the corporation and officers will be held fully liable while the stockholders would only lose their investment amount.

Without limited liability

Without limited liability much of the world's capital structure would collapse. The biggest survivors would be state owned and family owned firms.

John Micklethwait and Adrian Wooldridge wrote a wonderful little book (http://www.amazon.com/exec/obidos/ASIN/0679642498/qid=1062480390/sr=2-3/ref=sr_2_3/103-2926877-6679046) on the history of the company that briefly discusses pre-limited liability business.

David, I'm familiar with the

David,

I'm familiar with the "diseconomies of scale" argument, and you are correct that it does help limit concentrations of corporate power. However, one must also consider the other side of the coin: economies of scale. Without limited liability, would corporations even exist? How would large ventures like airlines survive in a world where stockholders and officers were too afraid to participate, given the enormous risks of liability?

I understand why Marxists and other anti-capitalists types want to abolish limited liability, but what I don't get is why a libertarian would want to do the same.

As I said, I have nothing against such a move in principle, but what would be the real-world effects of such a proposal? It doesn't seem very beneficial.

Sean, thanks for the book recommendation.

What exactly is the

What exactly is the justification for limited corporate liability, in the first place? How does shielding people from the negative effects of their bad decisions encourage sober and responsible business practices? The whole idea of limited liability, *especially* for large companies, seems exactly backward to me.

P.S. "Now, I don't have any

P.S.

"Now, I don't have any objections to this idea in principle, but I am not quite sure if it would be a good idea in practice."

Then you either need to check your theory, or check your premises.

Limited-liability only

Limited-liability only limits losses what investors put into the company. It doesn't shield investors from loss. At most, they would lose what they put in. The profit-loss feedback mechanism is still in place to encourage the best use of resources.

As to why l-l was created (developed or evolved?) was so investors wouldn't be afraid to put money in risky projects where they would be liable for more than they invested.

The diseconomy of scale is

The diseconomy of scale is generally much larger than any economies of scale. Remember, most businesses are command economies.

On the liability front, a corporation faces many liabilities, these can be broken down into two broad categories: financial/contractual obligations and damages. The first includes loans, vendor relationships, etc. The second includes product liability, damages to neighbors, etc. The first type can be contractually negotiated as to the extent of liability the company and its shareholders can face. That is, a bank loan may contain a clause saying the bank can go after corporate assets and officer's assets but will not go after shareholders. I expect that this would be fairly common in a free market. (I would also expect that there would be even more types of stock available, perhaps Preffered shares, limited liability shares, and full liability shares.)

The other type of liability cannot be contractually negotiated beforehand, but is also insurable. Airlines (using the mentioned example) have not had any significant problem in paying damages for crashed airliners. Caused some to go out of business shortly after, but as best as I can tell they paid off damages claims. (I can't believe that such a blanket statement is true, so cites demonstrating otherwise would be greatly appreciated.) The point here is that there are enough incentives for a company to do the right thing in a free market that this type of liability really shouldn't be a problem. Besides there are large numbers of independently operated airplanes that fly everyday, maybe the big airlines are not market efficient or desirable except by Fed types.

I am not familiar with John Micklethwait's and Adrian Wooldridge's specific arguments, but other arguments I've heard for limited liability corporations based on historical evidence failed to consider various innovations that affected the growth of modern capital markets. I just added another book to the "to read" pile.

I'm not sure if insurance

I'm not sure if insurance solves the airline problem, as it simply shifts this argument from a question of "how will the airlines exist?" to "how will the insurance companies exist?". Further, at least with regard to 9/11, the government restricted the types of lawsuits that could be filed against the airlines and used tax-payer dollars to subsidize some of these costs. I disagree with this practice, but it does shed some light on why the airlines have remained in business despite these huge losses.

Further, at least with

Further, at least with regard to 9/11, the government restricted the types of lawsuits that could be filed against the airlines and used tax-payer dollars to subsidize some of these costs.

Would 9/11 have occurred in a libertarian society - would anyone feel the need to terrorize us, would there have been two huge structures sticking up out of the skyline, would the terrorists be able to even hijack the planes? Then, would the courts hold the airlines (and thus the insurance companies) liable? Would private courts be efficient enough that legal costs would not drown out the damages? Much of the legislation protecting the airlines was enacted to keep the airlines from going under just due to legal costs alone. 9/11 is problematic as evidence for or against anything. There are too many variables.

Micha, I'm sure you remember

Micha, I'm sure you remember the concept of "piercing the corporate veil" from your Business Law classes.

Basically, there are already mechanisms for holding managers and shareholders personally liable and responsible for gross mismanagement, malfeasance, fraud, willful misconduct, etc.

My step-mother is teetering on the brink of starting a major new business venture. Without the ability to incorporate (and thus shield the family's personal assets from seizure), this venture would be totally unthinkable. But with incorporation comes a responsibility to treat the corporation as a separate entity. There are rules in place that prevent a manager/owner from benefitting from the corporation's success in the way a sole proprietor or partner could.

If you break THOSE rules, you open yourself and your personal assets to a creditor's ability to have the court pierce the corporate veil.

Micha Ghertner wrote: I've

Micha Ghertner wrote:
I've often heard anti-capitalists make similar arguments, but I usually discount their proposals without giving them much thought. (Not a character trait I am proud of, but hey, I'm only human.) It was not until I heard a libertarian make this argument that I began to take it seriously.

I think that one way of accounting for this part of the FAQ involves examining the source. Eric Raymond may describe himself as a 'libertarian' and many of his beliefs fit with the 'traditional' libertarian mindset but Raymond is part of the open source software movement, which is, I'm afraid to say, dominated by people like Richard Stallman, who believes selling software is immoral and advocates forcing all software developers to give away the source code to their products.

In writing this FAQ, Raymond not only attempts to make his relatively radical views (as a key player in a movement dominated by left-wing ideas) more palatable to these socialist types who are likely to read his libertarian FAQ (because they value his ideas as an important open source leader) but he also seeks to appease those associated with the movement who he knows will try to attack his libertarian beliefs on the grounds that 'free markets breed unstoppable corporate power - like that exercised by Microsoft'. I think Raymond probably wrote this part of the FAQ with the aim of making libertarianism more attractive to socialists who believe free markets lead to big business and big business leads to massive corporate power, which will oppress workers and consumers alike.