Archive for March, 2009

The Harvard Business Review started today an important online debate on whether business schools are to blame for the financial debacle and what we should do to fix them.  The debate opens up with a very interesting piece by former Yale School of Management dean and current head of Apple University, Joel Podolny, which has already generated a lively set of reactions.

My position in this debate will be posted by HBR in the next couple of days.

El Pais quotes me on a story tomorrow that tries to interpret Bernanke’s words and deeds this week.  The article discusses how he and President Obama find themselves trying to balance messages of realism and optimism: realism to gather support to their stimulus policies, optimism to encourage families and businesses to invest and consume.  Interesting how the entire world tries to interpret the oracle of DC.  We’re all in the same boat!

Bernanke gave yesterday a speech to a group of small community bankers in Phoenix, where he explains how sound regulation is not the opposite of free market competition, but actually a necessary precondition.

When a bank becomes so big (and interconnected) that its failure becomes too potentially harmful for the overall economy, then the bank may be simply too big. Even if it does not fail, it can distort the market.  For example, managers of a too-big-to-fail bank, knowing they will not be allowed to fail by the regulator, may take advantage of the implicit (and unfair) taxpayer backing by taking on too much risk without adequate capital coverage and at unfair prices.  Regulations that prevent financial institutions from becoming “too big to fail” may be necessary to allow markets to work appropriately.

Even more interesting, compensation practices too may constitute a public risk that would need to be regulated:

Supervisors must pay close attention to compensation practices that can create mismatches between the rewards and risks borne by institutions or their managers. As the Federal Reserve and other banking agencies have noted, poorly designed compensation policies can create perverse incentives that can ultimately jeopardize the health of the banking organization. Management compensation policies should be aligned with the long-term prudential interests of the institution, be tied to the risks being borne by the organization, provide appropriate incentives for safe and sound behavior, and avoid short-term payments for transactions with long-term horizons.

A couple of days ago, President Obama likened credit markets risks to those in any other consumer good market (like the proverbial toaster oven exploding in one’s face).  The idea is not to stifle innovation in the financial markets, but to set up some boundaries limiting public risks.

Suppose your dad is about to undergo open heart surgery.  Before the operation, the doctor, a world-class authority in this type of procedure, proposes the following deal:  “To begin with I will charge you $500,000 in base pay for my work and the work of my team.  If your father survives the operation, we will charge a $1 million bonus.  If he survives six months longer you will owe us $2 millon more” Given what’s at stake, you decide to sell the family villa in Cabo San Lucas and accept the deal.

Half-way through the surgical procedure, it becomes clear that the team has made a couple of bad calls and your dad is on the brink of dying.  Hospital management makes an executive decision to remove the surgeon and bring a new one to try to unwind the mess caused by the first one.

A couple of hours into the new procedure, the new surgeon comes out of the room and informs you that you need to pony up $6.4 million in so-called “retention bonuses”, not for him, he says, but for the rest of the team.  You fuss about it a bit and ask what would happen if you refused to pay the bonus.  “Well, your dad could be hurt by losing people who know how to unwind the outstanding issues with his surgery”.

Disturbing tale?  Replace a few words in the story and there you have the script of yesterday’s session in congress with AIG’s chairman Edward Liddy.

This is not just about AIG, of course.  It is about the distorted and dangerous view of business and management we have created and continue to perpetuate (think agency theory).

I hope some creative mind puts together a “Best of C-Span 08/09″ CD.  Between yesterday’s AIG testimony, and last fall’s “Fly-in, Drive out” show featuring the three Detroit executives before Congress, there is enough material for a whole three-credit hour course.

Tomorrow morning I’m scheduled to participate in an on-line conversation about on-line MBAs organized by the Financial Times.  The one-hour conversation will start on March 18th at 9:00AM EST.  It will also feature Babson’s new president Len Schlensinger, and FT business education editor Linda Anderson.  Any one interested can submit questions between now and the start of the conversation by following the following link.

The New York Times asks today (see article online here, where the picture comes from) whether it may be time to retrain business schools, given the fact that most of the individuals involved in the Wall Street debacle came out of one.  Needless to say, my answer, which is quoted in the article, is a resounding yes.

In spite of the critical reports on the state of business education produced by the Carnegie and Ford foundations in the 50s, we have failed as an academic community to develop a true professional ideology and a value set of service and social responsibility.  The only principle that has been universally accepted and embedded in our curricula is the notion of shareholder value maximization.  In its most radical form, the principle states that everything goes as long as it maximizes shareholder value.  In other, milder versions, the principle is qualified with a “as long as we don’t break the law”.

The late Sumantra Ghoshal was one of the few notable academics who dared question the unquestionable.  Shareholder’s interest is widely considered to be above any one else’s interests, he argued, because shareholders are believed to assume the biggest risk of anyone involved in or impacted by the activities of the business.  The last six months have shown quite graphically and painfully how it can be employees and taxpayers who end up picking up the tab when businesses implode.

Yes, it is time to retrain business schools.  We need to accept our role as repositories of not only scientific and technical knowledge, but of the values of responsibility, long-term value creation and service to society.

My friend Linda Rottenberg, co-founder of Endeavor and a pioneer in the world of social entrepreneurship, just sent me the script of her keynote to the Harvard Social Enterprise Conference last Sunday.  Here are a few highlights of her views on social entrepreneurship.

What exactly were Social Entrepreneurs? And why should anyone care about us? Well, in our minds, we were clearly differentiated from traditional NGO’s and non-profits. Social Entrepreneurs are problem-solvers, not idealists. We’re driven by innovation not by charity. And we don’t believe in hand-outs, we use entrepreneurial strategies to achieve social change.

Endeavor’s mission is – to coin a phrase that should exist but doesn’t yet – to meritocracize wealth. We believe that by removing barriers and increasing support for future business role models, we will move the macroeconomic needle of these emerging economies forward.

Today, instead of asking, “So what is Social Entrepreneurship?” People are asking, “So what has Social Entrepreneurship achieved?” And today, we can answer with pride. The outstanding achievement that we’ve come here this weekend to celebrate is that our answer is no longer quaint, anecdotal, or easily ignored. IT’S BIG. IT’S GROWING. AND IT’S VERY, VERY REAL.

El Pais just published my op-ed “A new ethical code for capitalism” (in Spanish).

In short, I argue that business leadership is in part to blame for the current financial crisis, and that business schools have failed to provide the right professional value set to business leaders for decades.  Admittedly, these arguments don’t make me the most popular man among business educators these days, but unless we recognize our failures, we won’t be able to do what it takes to correct them.

Business education needs to create a new set of frameworks and tools to help managers deal with the full complexity of their responsibilities.  For years we have argued that the only (or the ultimate) responsibility of managers is to shareholders because it is they who bear most of the risk.  Today we have learned the hard way that it is not shareholders, but taxpayers who ultimately are left to clean up the mess.  Our models need to recognize that management serves a more complex set of duties, and that at the end of the day businesses exist to create value for society at large.

The notion of a “hippocratic oath” for management, which Thunderbird has pioneered since 2005, seems today more relevant than ever.

PS. I was just told that the Google translation of my op-ed produces almost understandable results.  Check it out here.

El Pais (Spain’s leading newspaper) runs a story today “Nationalization or bankrupcy” where I am quoted (though wrongly referred to as an economist).  The article deals with the last taboo to fall victim of the current crisis: the nationalization of banks.

After decades of increasing, universal adoration of the almighty market, it is hard to accept not only that markets can fail but that, at the end of the day, only government has the capacity to straighten things up and restart the system. In commenting the recent news of the nationalization of Citigroup, University of Maryland Professor Carmen Reinhart sums things up nicely: “it’s something simply incredible, and yet, simply unavoidable”.

The article ends with a reference to a graphic narrative of the financial crisis by Spain’s economic vice-president (and former EU commissioner) Pedro Solbes:

At the beginning, banks knew where they were selling, and clients what they were buying.  We then moved into a phase where banks knew what they were selling but clients didn’t know what they were buying.  Now, neither banks nor clients have a clue about anything.

As El Pais closes, let us hope that governments now know what they are doing.