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Limited Liability: Profit Without Responsibility

KUALA LUMPUR, Malaysia, Oct 20 2020 (IPS) - Limited liability protection for shareholders in joint stock companies was introduced to encourage investments in them. However, it has encouraged irresponsibility, causing much harm while generating profits without responsibility.

Limited liability limits responsibility
Columbia Law School’s Professor Katarina Pistor has extended her critique of the legal system to emphasize the implications of such limited liability. Limited liability encourages shareholders not to pay attention to the harm corporations they invest in may do.

Jomo Kwame Sundaram

Instead, as emphasized by Milton Friedman, shareholders should focus on returns to investment, and not be distracted by other considerations, especially the notions of corporate social responsibility and stakeholderism.

Chicago University’s Professor Luigi Zingales has emphasized that companies are not just value-neutral institutional or contractual arrangements. Instead, they have obligations to serve the public good or otherwise benefit society, to reciprocate for privileges provided by the state.

“Historically we know that corporations were born as public institutions with a special privilege granted by the state… Even today, … the privilege of limited liability, especially with respect to tort claims, is an extraordinary privilege granted by the state.”

The limited liability of these companies has allowed them to pursue profits with impunity, and to blatantly violate ethics and moral restraint, with little accountability to other ‘stakeholders’, i.e., with interests in the company’s activities and operations, including their consequences.

Limited liability effectively provides a legal guarantee to prospective shareholders intended to encourage investments in joint stock companies. Legal protection thus exempts shareowners from responsibility for the harm their corporations cause.

Limited liability companies
This amounts to a privileged legal exception granted by the state, effectively tantamount to an economic subsidy. Indeed, limited liability has long lay at the heart of the joint stock company. The corporation itself may face liability, but not shareholders who get to keep the profits they get.

Shareholders can, of course, lose money on their shareholdings, but they also profit without liability even if their companies harm others, cause ecological damage — e.g., water or air pollution, or greenhouse gas emission — and deliberately conceal and deny the dangers and costs of corporate practices which may involve corruption or other abuses, whether legal or otherwise.

In effect, shareholders bear virtually ‘no liability’ legally, and have no legal responsibility to other ‘stakeholders’. Unintended beneficial ‘side effects’ or ‘externalities’ for others were acceptable, but corporate governance should not be distracted and undermined by such considerations.

Shareholders are shielded from the consequences of the harm — or ‘negative externalities’ — that corporations inflict on others and on nature with the protection of ‘limited liability’. Under this legal dispensation, company shareholders are absolved of liability, regardless of the human and environmental costs caused by their activities, products or services sold.

Hence, limited liability has long been at the very core of their business models. Those running such limited liability companies have been quite aware of at least some of their ‘negative externalities’, or harm they cause, as such externalities are actually at the core of their profit maximizing strategies.

Thus, cost-saving or efficiency considerations typically involve skirting legal regulations, ‘passing on’ or ‘socializing’ costs, minimizing tax exposure, extracting non-renewable valuable resources, otherwise harming the environment, and other ‘socially irresponsible’ conduct.

Off the hook
In case after case of corporate crime, shareholders have been let off the hook: from the 1984 gas leak at the Union Carbide plant in Bhopal, India, which killed hundreds of thousands, to the health consequences of the use of tobacco, asbestos and other toxic and carcinogenic substances.

More recently, shareholders of Boeing, responsible for two airplane crashes in Indonesia and Ethiopia that killed 346 people, made US$43 billion from share repurchases during 2013-2019 when the firm ignored safety standards in order to cut costs. Meanwhile, the families of those who died will be compensated from a US$50 million disaster fund, i.e., about under US$150,000 per victim, much less than 0.2 per cent of the share repurchase gains.

A lawsuit against the Sackler family, which owns Purdue Pharma, the company believed to have profited most from the US opioid epidemic, is trying to hold beneficiaries of corporate misconduct accountable. Apparently, Purdue hired McKinsey as consultants to “turbocharge” opioid sales, willfully encouraging addiction, knowing it would lead to many deaths.

Nevertheless, fearing liability, some family members have reportedly moved much of their money to Switzerland. However, they need not fear as US courts have long protected influential shareholders from the victims of such corporate abuses, a norm unlikely to be reversed by senior judicial appointments in recent years.

Internalising externalities
Limited liability has often been criticised for preventing markets from properly pricing risks posed by corporate activities known to or suspected of causing substantial harm. But this, of course, presumes that assessing and pricing risk and harm by markets is straightforward, unproblematic and uncontroversial.

Property rights, it is claimed, increase efficiency by ensuring that owners bear the costs of the profit-seeking activities their assets are engaged in. Yet, limited liability protects investors from having to bear the full costs of their consequences while retaining profits so generated. Unsurprisingly, shareholders will defend such privileges and resist efforts requiring them to bear such costs.

‘Command and control’ or top-down regulation is dismissed as ineffective, costly and inefficient by the ideology of shareholder market capitalism. Meanwhile, market deterrents, e.g., via taxation, are opposed as governments are dismissed as incapable of setting optimal tax rates.

Shareholders also try to avoid liability by locating assets in safe havens, and by persuading governments to protect them, even threatening sanctions against those seeking to undermine such protection. But laws that allow investors to do harm with impunity also undermine the very legitimacy of the economic and legal system besides the very conditions for humanity’s survival.


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