Posted February 19, 2021

Tamar Frankel: State of The Union With The Godmother of Fiduciary

Host Chris Cannon, CFA, Investor First Podcast, interviewed Professor Tamar Frankel on her career focusing on fiduciary law and what it means to be a fiduciary. They covered conflicts of interest within the advisory space and what regulatory suggestions she has to help eliminate them. They discuss soft topics like trust, honesty and kindness and why we would all benefit more if we focused more on those.

Investors First Podcast is a service of CFA Society Orlando. The CFA Society Orlando has determined that this podcast qualifies for .75 PL credit hour(s) under the guidelines of the CFA Institute Professional Learning (PL) Program. If you are a CFA Institute member, visit CFA Society Orlando for details.

To learn more about Prof. Frankel’s life and her thoughts on trust, honesty and kindness,
read her book Living in Different Cultures.

Available at  Barnes&Noble         Amazon        Bookshop.org

Exclusive Interview with Tamar Frankel: DOL Should Return to ERISA’s Original Definition of Fiduciary

by Christopher Carosa, CTFA

Just days ago, The Institute for the Fiduciary Standard announced Robert A. G. Monks as the first winner of the Frankel Fiduciary Prize. According to the press release issued by the Institute, the Frankel Fiduciary Prize, named for Professor Tamar Frankel, the Michaels Faculty Research Scholar at the Boston University School of Law, was established to acknowledge individuals who have made significant contributions to the preservation and advancement of fiduciary principles in public life. We are honored to feature Professor Frankel in this month’s FiduciaryNews.com Exclusive Interview.

Continue reading interview here.

Posted May 7, 2019

Dick Taffe: Good morning, Tamar.

Tamar Frankel: Good morning.

D: You have written thirteen academic books and more than one hundred articles. This book, Living in Different Cultures, is different. Tell me why.

T: This book does not deal with law, which all my other books and articles do. And yet, it deals with a system that is similar to law, and that’s culture. It’s how people behave and react to each other. And the other thing that is different is that these stories are of my own life. But they don’t talk so much about myself as about what I saw and heard.

D: The theme of the book is appreciating different cultures. In fact, you were literally born into a mixed culture because of your parents’ background. Tell me about your parents.

T: My father was a lawyer who graduated from the University in Austria. He was Germanic in his attitudes. My mother was a nurse, and she came from, and had a background in Russia. So they had different backgrounds, different manners, different foods. But they loved each other, and that was the way they merged, if you will, into a family, which was a very happy family.

D: In pre-Israel Palestine?

T: Yes, it was.

D: You bring a unique perspective of an Israeli Jew in comparing cultures, because you compare it to what you grew up in. Give me a few examples that you talk about in the book.

T: The examples are not necessarily taken from the family. They are taken from everyone around you. When you have Jews who came from Yemen, or Arabs with whom I could converse in Arabic because I studied it, and people from literally all over the world. But they had some things that bound them together. Number one, was the idea that Jews should have a place where they could go. Bad, good, indifferent, they should be able to go there. And that was the reaction to a lot of Jews who were exterminated not only in Germany, but, because they were Jews. We had thousands of them, and we wanted them to have a place of their own. That was the driving force.

D: And you wound up with a very, very mixed community.

T: That is correct.

D: Give me some examples from the book, stories that you recall, that point out that divergence of culture in Israel. Give me an example from the book about how you recollected observing that difference.

T: When Israel was already a State, we heard that a group of Yemenites, who had been for centuries in Yemen, was in danger for their lives. The Israeli government sent an aeroplane, and they all were brought to Israel. When they came down, they were brought to a bus. And when the bus began to move, the passengers began to shout, “Stop! Stop! Something is wrong!” And the bus driver stopped, stood up, turned to them and said, “What’s wrong?” And they answered, “It doesn’t go up!” What they had experienced were two ways of travel, neither of them was known to them. So they assumed that the bus would go up. Now you could laugh, because it is funny for anyone who knows both these ways of transportation. But we didn’t. These were people taken from an environment which was very dangerous, and yet they were not what we consider very “advanced.” We felt for them, because for them everything they saw was different, and was frightening. We empathized with them.

D: Exactly. Move ahead a little bit. From this background, when you moved to America having already served in the military, after having already run a law firm, tell us about how you discovered how professional women were treated in the United States that was different from your experience.

T: Number one, at that time, there were very few American women lawyers. Whereas I was a daughter of a lawyer, was a lawyer at relatively early age, and started practicing at that time. This was number one. Number two, women lawyers in America at that time … (usually) dealt with family law, because that was the kind of law which was more like them. My expertise and my work were in finance, mutual funds, and variable annuities. And so, I did not fit.

D: Talk more about that.

T: Well, the point is also that in Israel, a woman was in the… more than one I think … was in the Supreme Court. There were quite a few judges who were women. Besides, at a very early age we learned how to use a rifle and how to protect ourselves when necessary. The idea that I should be, kind of, act feminine throughout my life — in any culture and in my profession — was something that was alien. There were two ways in which to go about it. One was to be angry. The other one is to appreciate what America can offer.

I came here by the invitation of Professor Louis Loss at the Harvard Law School. The riches of what I heard and what I studied were overwhelming. I couldn’t have enough of it, and I am thankful to this very day for what he has done for me. I couldn’t possibly go to a good law firm except when he suggested that. I couldn’t possibly publish anything if he did not suggest and guide me. I could publish a book. I can’t believe that in 1979 I published two volumes. But I couldn’t possibly have done it if I came on my own. As far as I was concerned, even though some people thought that I was an odd… odd beast, if you will, I received a generosity that involved risk. He knew only some about me, and yet he took the risk. I feel grateful to Professor Loss, who has passed away, to this very day.

D: So, for the next twenty years, you made sure that you stayed true to yourself as who you were, as a woman, as who you are. You do tell a funny story about being a little bit confused about American culture, so you sort of gave in at one point. It had to do with going shopping for a bathing suit.

T: What I found is that not only is culture different, but culture can be very, I wouldn’t say oppressive, but shape your own behavior. The first time I came to America with a group of Army officers, we met with Jewish people here and told them about the State. And there was a woman who asked me whether I needed any shopping, and I said yes, I did want a bathing suit. I needed one because mine was gone. And so she said, “Oh, she also needs to go shopping.” We went to Chicago, to Marshall Field’s. And this lady looked around and then pointed and said she wanted six of this and then pointed at something else and said six of that. And I was listening.

When the saleslady then said, “What would you like?” I said, “I want a bathing suit.” And she said to me, “How many?” And I found my mouth talking by itself and saying, “Two.” I couldn’t believe my ears what my mouth said! And I remember getting the two bathing suits and coming to the group and they asked eagerly: “What did you buy? What did you buy?” I showed them and everybody opened their eyes wide and said, “Who buys two bathing suits?” I couldn’t explain. But what I learned is the pressure of everybody doing certain things in a certain way, you don’t want to stand up and be something different. And therefore, the pressure of culture is to behave the same way. That is only if the culture goes totally against your grain, which this didn’t. Besides my hostess was nice and friendly. So I followed her behavior.

D: The new culture that you came into when you joined the Boston University Law faculty as the first woman on the faculty in 1968 was also a challenge because it was a different culture. Tell us about that.

T: The faculty at that time was split. Some wanted a woman and some didn’t want a woman. And the emphasis seemed to be on that. On the other hand, I had a doctorate (S.J.D.) from Harvard Law School, which I don’t think anyone else had at the time. And I was a writer, because I already wrote a treatise on a subject that was also of interest to many lawyers. So, the faculty was split into one or the other, and the Dean was for hiring me. So, to some extent, maybe that was a compromise. I was hired, but I was given an office in the basement of the library. I was delighted at the time because I didn’t have to bring then the books back to their shelves. And that was a big thing because I was working on my first treatise (at BU). The students found me, and there was no problem. I was brought out of the library when the Dean’s secretary, said to him: “Get her out of there.” And she ruled the roost, if you will. And so I was then brought to the second floor.

D: Lessons in culture. You have often said that your values insist on contributing being more important than winning. Can you talk about how you saw the different cultures approach winning and losing differently?

T: I want to start by saying that I haven’t made any research and that I’m generalizing. There are obviously a many variations and exceptions. But, our feeling, or at least my feeling, in Israel, and the way I was taught, is to not merely support, but to protect. When you are in danger, you expect protection and you give protection. Although we weren’t all supported in Israel, there was enough glue to make sure that we asked, “What do you need?” and offered support. And that reaction came automatically. I found in the United States the worship almost of competition and the assumption that competition will bring out the best result in people and the country as a whole. I do not believe today, and I did not believe then, that that was the solution to raising the value and the efforts of people. Unfortunately, it may result in the reverse. If you have someone, who is not well equipped, or does not try the best, you can draw from almost everybody more than they gave in the past. And so that is where I found it difficult to compete.

D: I can see that. Last question is sort of a very big picture. Over your nine decades, you’ve been able to see how the role of women had changed in your time, in many cultures. Just any points of guidance or advice to young women today, particularly going into the law, about how your reflections might benefit their futures.

T: First I have to add; my last two Deans are women. More than half the faculty are women. But more than half of the students are women. Including not only Americans, but also from China, Japan, Scotland. So, there is strength in numbers. As a result, they don’t feel so isolated and so different, especially when the competition is about their brain, abilities, and their personality. So, I think to some extent the change in the atmosphere has not been as difficult for women as they were in the past for those who were sensitive to it. My luck was that I was not sensitive to it. I came from a place where I was given a gun and taught to use it defensively, no matter what my sex was.

Advice today is simply to reduce, if there is a necessity, the value of gender and to increase the value of brain and personality. In the past, women were considered physically weak, and that made a difference. Now it is no difference. Not only because they may become stronger and their strength is not in their weakness as it used to be, but also because there are also tools that are very protective. And one of them I remember from Israel was mace. That when you had somebody following you, and we had some dangers, you turn around and if that fellow just follows you, you come closer to him and give him the blindness that he needs and deserves.

D: (Chuckles) Do you have any further thoughts on the idea of appreciating different cultures? Why is that good?

T: First, I believe that every culture has something to offer and give, and by pushing back, you lose it. You become poorer rather than richer. Number two, conflicts among cultures may reduce what you already have, not only what you don’t get. You lose both ways. You lose by not gaining and you lose by maybe losing your own value. At the same time, cultural conflict undermines the ability to benefit in other ways. You have to then protect yourself. You have to give more attention and time and sometimes effort, to protection, to competition, instead of learning, instead of developing what you have. No one can develop what they have by themselves. And so you can learn even from, I quote, “an enemy.”

You can learn what the enemy does right, what it does wrong. And in a changing world, that learning becomes crucial. It’s a necessity you can’t avoid, because whatever you did in the past and worked, may not work now for a variety of reasons. These may be not only change in contact with people but also machines and the environment. So learning, maybe because I’m a teacher, but learning, I believe, is a key, and learning requires flexibility and openness. And if you stick to what you know, you may be way behind the reality of today.

D: That’s very good. Thank you.

By Tina Spee
Posted on Thursday, February 22, 2007

Tamar Frankel was well on her way to a fulfilling law career in Israel. The Tel Aviv-born professor worked as an attorney in the Israeli Air Force and the Ministry of Justice in the 1940s and 1950s before joining a private practice started by her father. Lucky for us, she became a visiting law scholar at Harvard Law School in 1963 and remained stateside. Since joining the faculty of the Boston University School of Law in 1968, Frankel has become one of the nation’s sharpest legal minds in the areas of fiduciary law, financial system regulation and corporate governance.

Frankel is grateful to BU for letting her move around from her Boston base. She’s enjoyed stints as a visiting scholar at the Brookings Institution and the Securities and Exchange Commission and has taught at Harvard, the University of Oxford and the University of Tokyo. She’s also consulted for the People’s Bank of China, helping the country control inflation.

Within her areas of expertise in finance and the law, Frankel has written some of the most important treatises and books, including “The Regulation of Money Managers,” “Investment Management Regulation” and “Securitization: Structured Financing, Financial Asset Pools, and Asset-Backed Securities.”

With her recent book “Trust and Honesty: America’s Business Culture at a Crossroad,” published by Oxford University Press in 2005, Frankel jumped into the world of mainstream writing. In the book, Frankel writes that ethical standards in Corporate America have eroded and that society has tolerated this dishonesty and abuse of trust. In the era of WorldCom and Enron, “Trust and Honesty” is a wakeup call.

From her small, book-lined office across the hall from BU’s center for banking and financial law, Frankel describes how the public can demand better leadership from people who are in positions of power.

“It was the first time where I was driven to write to the public at large, which meant another type of presentation, another style, to some extent another format,” says Frankel, 81, whose accent still echoes of her Israeli roots. “But I had to get it out of my system. And so I spent quite a bit of time writing it and loving every moment of it.”

LAWDRAGON: What were you trying to answer with this book?

TAMAR FRANKEL: The question that I faced was, “OK, you see so much fraud happening. Should we be excited about it?” Maybe the reason for what we see is more transparency today than in the past. After all, we always had fraud. This is a society of entrepreneurs. We push the envelope. That’s our nature. That’s the nature of these United States. And when you push, you might cross the boundaries as well, sometimes to the right and bright side, sometimes to the dark side.

I didn’t think I could prove that there is more fraud today than in the past, although it seems to be so. What did strike me was the fact that fraudulent behavior has become more acceptable. The attitude towards fraud became: “Wake up. Be a realist. See that this is human nature and that’s the way things are.” And business people would say, “What can we do? Everybody does it. We must do it too.”

LD: You seem to be driven to the idea that trust is lacking from our society now.

TF: It’s interesting because Americans are trusting people. Americans trust their social systems more than they trust particular people. This is in contrast to China and other countries where people trust people more than they trust their social systems. Americans trust their political system more than they do the politicians or the law more than they do the lawyers or the banks more than they do the bankers. I dread the possibility that Americans will cease to trust the law and the systems by which they live. Then, I am afraid, Americans will have lost their way of life.

LD: Is this problem increasing?

TF: I am concerned that dishonesty will increase with the attacks on law. For business, this is dangerous and wrong. As I wrote in my book, “Law is not the enemy of business. It is the enemy of crooked business.” Law protects business from competing by crookedness.

I suspect that the rise of economics in law has not done us a lot of good. Law can use the concepts of economics but not its objectives and values. Economics has resulted in the basic assumptions that undermine trust and encourage verification of what other people say and promise — the antithesis of trust. The implication of economics is that people are entirely selfish. Therefore, each party should take care of itself against possible dishonesty of the other. This is a market environment, which is effective only if the parties are more or less on the same playing field. Even then I believe that human nature generally, and the nature of Americans in particular, is not so self-interested. But if we assume that most people are selfish that becomes our culture — a culture of mistrust.

People may say to me “Don’t give us the sermon from the mount.” But that’s not what I’m saying. I would like to have reached a balance rather than extremes. People need not completely rely on each other or trust each other blindly. I think it is good to have some self-reliance and skepticism. But right now we are moving toward the extreme of mistrust.

LD: What do you see happening to the economy if this continues?

TF: Dishonesty and mistrust cost. If we continue this way, we will pay for dishonesty more and more. And we’ll produce shoddy services and shoddy products at a greater rate because with fraud comes shoddiness just as with drugs come bad athletes that win … . The cost of dishonesty brings the prices up or the quality down.

LD: Can we regain our trust in people who have power in our companies and financial systems?

TF: There’s one rule that can lead to honest behavior: “Don’t do to others what you don’t want done to you.” How do you implement this rule to make it a reality? That’s where culture comes in. Culture is a social habit, the opposite of a calculated behavior. If we have to think every time whether something is good or bad or whether we want others to do it or not to do it, we have lost the battle. What we need is a knee-jerk reaction the way we drive a car — automatically. We ought to have a knee-jerk reaction to dishonest behavior. We have to reverse the trend of accepting dishonesty as an inevitable way of life. To be sure, it takes time to change the slides into dishonesty, just as it takes time to change a bad habit. Further, dishonesty should be nipped in the bud when it starts. Otherwise, starting what seems just a little bit wrong will grow to become a full-fledged fraud. Also, it takes more than just one group of people to reverse the trend. It requires many. We need both good leadership and good following. …

Competition doesn’t mean that we have to eat each other alive. Instead, even though it is not a very exciting vision, we should compromise. Let us leave the extreme to an aspiration for honesty. But everyday solutions should not be extreme. Let us live with some give and take, even if it is not all an immediate give or all immediate take.

LD: How did you become interested in these areas of law?

TF: I was interested in corporations because, especially in the United States, this type of organization allowed the entrepreneur to pool together capital, labor and management and to create tremendously powerful and productive large organizations with no dictates from outside. That is fantastic. So that is what drew me. But then the financial market through which capital flowed fascinated me. And then it wasn’t only the market but the intermediaries, such as insurance companies, pensions, mutual funds and investment advisers that make the financial markets, and the asset-backed securities mechanism. And with all of that came the recognition that I’m dealing with power. I am dealing with private power, and I’m dealing with limitations on that power.

LD: Before that, you were a lawyer in Israel. It wasn’t unusual at the time for a young woman to hold the positions you held in the country?

TF: Even when the state of Israel was established in 1948, there were a fair number of women lawyers; there were a fair number of women prosecutors in the government and of women judges. And there were also very strong women in politics. By the way, the chief justice of the Supreme Court today in Israel is a woman.

LD: You worked for the Israeli government?

TF: Yes, I worked for the government but only for about a year and a half. My father was a lawyer. He was the first president of the Israeli Bar Association. I went to work for him and less than a year after that — and even though he was relatively young — he had one heart attack and he was gone. So I continued to operate his office. The clients, both Arabs and Jews, were good to me and gave me a chance. Then I worked as a lawyer for a number of years, took a partner, and then I departed and he continued the service to the clients. I wanted to teach and to write. So that is what I did. …

My mother’s family came to Israel around 1870. My mother came when she was 2 years old. My father was a latecomer; he came in 1920. At that time the Jewish community was very small. Tel Aviv, for example, was entirely different from the Tel Aviv of today. I walked to school barefoot in the sand with sandals on my back. It was an idealistic society that dreamt about a Jewish state where Jews could find refuge from prosecution and extermination that they experienced throughout the ages, and lastly in Nazi extermination camps. Some of my notions and beliefs come from that idealistic period. I admit that some of this attitude to life and society has remained with me to this very day.

LD: What are some of the things you are working on now?

Frankel says she is working with an engineer who specializes in risk-control systems to develop mathematical equations that can help regulators and corporations detect and analyze mistakes. She also is working with an economist to make teaching materials for lawyers and businesspeople based on “Trust and Honesty.”

TF: There is another project, which I think I would like to work on with other experts. I believe that, barring a Third World War, more and more corporations and institutions will cover the globe and more and more directors will come from different cultures. They will have to understand each other in order to work together. We will need more guidance on dealing with other cultures and interpreting cultures.

LD: You seem excited to continue teaching and writing in different areas.

TF: I enjoy it very much. More than that. I think one of the exciting things about teaching and writing is not to get stuck in your own generation. The way to do it is to listen to the new generation and try if not to identify, then at least to understand a very different world. I do it in my teaching by discarding my notes every year and from time to time changing the teaching materials so as to start from scratch, so to speak. I always discover something new that I haven’t thought about before. There’s a lot of excitement in listening to different views, viewing different realities and trying to understand them and mesh them with your own experience and knowledge.

The Right Conditions for Trust between Businesses

By Julian Franks and Colin Mayer June 19 2006 16:46 | Financial Times The most successful capital markets in the world are those that strike the right balance between trust and regulation, creating the maximum possible freedom for companies while ensuring investors remain adequately protected. Typically, these markets are to be found in countries with common law, which can adapt subtly and rapidly to investor grievances, and with unique trust-building mechanisms built up over centuries of trade. In her recent book, Trust and Honesty: America’s Business Culture at a Crossroads, lawyer Tamar Frankel, a professor at Boston University, points to the decline of ethical standards in US culture and, in particular, in financial markets. She believes this threatens the future performance of the US economy and cites trust as a key component of the operation of financial markets. Those who abuse trust, she argues, diminish markets, economies and societies, as well as themselves. With corporate scandal and courtroom drama still rocking the US economy, the hunt is on to find the perpetrators of this moral decline. Another prominent US lawyer, Professor John Coffee of Columbia University, has argued persuasively that, until recently, many thought it was the “gatekeepers”, such as auditors, credit rating agencies and investment analysts that acted as the guardians of investor interests. After all, these institutions had such strong reputations at stake (consider Arthur Andersen, the auditors disgraced by the Enron case) that they could not conceivably put themselves at risk by concealing their clients’ wrongdoings or incompetence. Now, he argues, the gatekeepers have become entangled in a web of conflicts that seriously undermine their independence.

Why legal systems are the key determinant of financial performance:

So, who are the guardians of financial markets? While lawyers see culture and economic incentives as critical, economists have turned to the law. One influential body of economic literature views the legal system as the main determinant of the performance of financial systems. In the absence of trust or reliable intermediaries, we rely on the law to enforce our rights and contracts. According to this body of literature, countries can be categorised as belonging to particular “legal families”. These legal families have their origins in common law in some countries and civil law in others. Common law, as practised in the UK and US in particular, and former British colonies in general, has a higher degree of investor protection than the civil law systems of continental European countries and their former colonies. The relative success of financial markets in the UK and the US can, therefore, be attributed to their systems of investor protection. In particular, law is viewed as the explanation for the most striking difference between Anglo-American capital markets and those in most other countries, namely the much higher level of dispersion of ownership. In a typical large UK or US company, ownership is dispersed among a large number of investors, many of whom are institutional investors such as pension funds and life assurance companies. By contrast, in most other countries, ownership is concentrated in the hands of a small number of shareholders that hold large blocks of shares. According to the proponents of legal theories of finance, strong legal protection is required to encourage dispersed ownership. In the absence of such protection, smaller investors know that they are exposed to wrongdoing by directors. Their only protection comes from being able to exercise direct control by holding significant blocks of shares. In this environment, dispersed ownership is inconsistent with weak investor protection. The result is a very different ownership landscape for countries without a common law system: a smaller stock market, less reliance on equity finance, and a capital market that is less responsive to the restructuring needs of industry. Investor protection in common law countries has also created markets for corporate control, where ownership is transferred to the highest bidder, often in hostile transactions. By contrast, the lack of investor protection in civil law countries, such as Germany and France, allows entrenched management to protect themselves from these markets for corporate control by using pyramids, non-voting shares and poison pills. The result is that the objectives of profitability and shareholder wealth maximisation have been given a low priority. This view is perhaps best illustrated by a recent comment made to the Financial Times by Ferdinand Piech, chairman of the supervisory board of VW and a member of the family that controls Porsche: “Yes, of course we have heard of shareholder value. But that does not change the fact that we put customers first, then workers, business partners, suppliers and dealers, and then shareholders.” The Piech family controls Porsche through shares comprising 50 per cent of the capital but 100 per cent of the votes. Supporters of the law and finance thesis provide strong evidence for the view that investor confidence derives primarily from the protection afforded by law and regulation, as well as the quality of its enforcement. They show that differences in the legal protection of investors can indeed explain important cross-country differences in the size of capital markets, and the financial policy of listed companies. They document that common law countries grant better legal protection to investors than countries whose legal systems are rooted in other legal traditions – notably the French, German or Scandinavian systems – and, at the same time, those common law countries tend to have larger stock markets, with greater dispersion of ownership, and a lower cost of capital.

Why common law works better:

What are the magical properties of the common law system, according to these authors? And what is lacking in other legal environments, such as the French, Germanic and Scandinavian systems? Common law allows the courts the discretion, through case law, to develop new devices to protect investors, filling the gap left by a congress or parliament. For example, US and UK courts have struck down many poison pills that were put in place to protect incumbent management from unwelcome or hostile takeovers. The courts have also been instrumental in encouraging disclosure and in adjudicating investor grievances. By contrast, the civil law systems of France and Germany have relied almost exclusively on statute to protect investors, which has proven slow and cumbersome to respond to change, as well as being plagued by special interest groups and political conflicts. Civil law lacks the flexibility of common law and discourages independence and initiative among the judiciary. Thus, the argument goes, successful capital markets require investor protection and in turn this relies upon a common law system.

The origins of trust in capital markets:

Although few would deny the important role of law and investor protection, other theories are emerging to explain the success of particular capital markets. Consistent with the views expressed by Prof Frankel at the beginning of this article, one theory suggests that successful capital markets have developed trust-generating mechanisms such as reputation, cultural affinities and geographic proximity of investors to boards of directors. To explore the notion that trust is central to the emergence of financial markets, we and several other authors have been analysing the determinants of the evolution of financial markets in different countries over the past 100 years. In simple terms, we have been asking the following question: was investor protection critical to the early development of financial markets? Our methodology involves a common approach across the different countries. We document the development of corporate laws, securities laws, disclosure rules and so on, and examine the relation of the evolution of these laws to the development of the different countries’ financial systems. We use several indicators of the development of law and of financial markets, including the dispersion of ownership. Our findings are striking: the most substantial development of financial markets and the greatest dispersion of ownership in general occurred in the absence of strong investor protection. Indeed, in some countries, the most active periods of stock market development and ownership dispersion coincided with the periods of weakest investor protection during the century. How can this be? In large part, our results are consistent with the significance that Prof Frankel attributes to trust. Financial markets in all the developed economies that we have examined emerged on the basis of informal arrangements rather than formal systems of regulation. In some respects, the question of whether law is a necessary condition is now passé. The much more pertinent issue is: what are the alternative mechanisms? This is where detailed country analysis is highly informative. We documented quite different methods of upholding trust. In some cases, most notably early German capital markets, Prof Coffee’s gatekeepers, in the form of banks, played a critical role. In others, however, prominent individuals and, in the case of the UK, the proximity of investors to companies appear to have been most critical. For example, in the UK we found that in 1910, in a sample of 26 companies, 56 per cent of shareholders lived within six miles of the board of directors (where the average number of shareholders in each company was 320). We argue that geographic proximity was an important mechanism for upholding trust between investors and boards of directors. This relationship was reinforced by local stock exchanges, which tended to specialise in the industry that was specific to the locality – for example, Bradford for textiles, Sheffield for steel and Birmingham for rubber. Thus, local stock exchanges, brokers with specialised knowledge and local investors created networks of trust. We examined a sample of mergers during the same period and found that an equal price rule prevailed in all cases, where the target board recommended the offer to shareholders with the assurance that the board was receiving the same price for their shares as was being offered to outside shareholders. There was no evidence of the two-tier offers that have characterised continental European capital markets, where large shareholders are offered a higher price than smaller shareholders. In 1920, at a meeting to discuss the merger of two UK steel manufacturers, Alfred Hickman and Stewarts and Lloyds, Mr. JG Stewart, the chairman of the latter company, said: “I have been reminded, only a few hours ago, that I might be asked today at this meeting whether the directors have been given any consideration in any shape or form whatever to enable them to see their way to advise this amalgamation. “I can only say this, gentlemen, that not one farthing, directly or indirectly, has been or will be paid to anybody whatever, either on the staff or on the board of either of these companies, other than one share in Stewarts and Lloyds and 7s 6d in cash per share for whatever shares they hold.” Why would the target board of directors not negotiate a higher price for their own shares? One explanation is that they wished to maintain their reputation and the trust of other businesspeople.

Beyond the gentleman’s agreement:

The critical question is: to what extent can such informal relations be relied on as capital markets expand and economies develop? In one respect, the answer is that they cannot be. The fact that we have seen a steady increase in financial regulation in the UK since the middle of the 20th century is evidence of the failure of less formal relations to survive. And, of course, we cannot expect companies to continue to depend on local stock exchanges as their operations and fund raising activities become global. Harking back to the days of local markets and trustworthy intermediaries is, to many people, nostalgic irrelevance. In the UK, it is not a coincidence that the equal price rule practised in the first half of the century gave way to a formal requirement of the Takeover Panel, that bidders will not offer differential prices to different shareholders. Even if it is possible to maintain relations of trust, they come at a price. The principle that “my word is my bond” was commonplace in the City of London until the 1980s. Then the UK underwent an intense period of financial deregulation, eliminating many cartels, restrictive practices and monopoly abuses, but also many of the close relationships that previously characterised City dealing. Relationships are much easier to uphold among a small group than a large one. Thus, greater competition and lower costs for trading securities have gone hand in hand with a decline in integrity in financial markets. New systems of financial regulation have sought to fill the gap by sustaining investor confidence while promoting competition and entry into markets. One of the issues that financial regulators periodically have to address is whether their rules are in conflict with competition laws. Different countries take different approaches to solving this problem. The US has allowed almost unfettered competition combined with the imposition of high retrospective penalties when wrongdoing is uncovered. Other countries such as Germany have restricted entry by requiring financial institutions to hold large amounts of capital. The UK has taken a different course and specifies the basis on which companies should conduct their business.

Striking the right balance between regulation and principles of conduct:

The US reliance on the courts has made it highly dependent on detailed rules – misconduct is associated with the violation of specific rules and, as more misconduct is revealed, so more extensive rules are required. Many people feel this vicious circle is epitomised by the Sarbanes-Oxley Act. Meanwhile, UK authorities are trying to withdraw from detailed rules and instead identify broad principles of conduct. For example, rather than trying to find a precise definition for a conflict of interest, they focus on what might create a conflict and prescribe how to avoid placing an intermediary in a position where a conflict might arise. Such principles are rooted in the “true and fair” view of company accounting. These differences of approach are just as significant as the fundamental differences between national legal systems described above. Even in countries that are considered to be from the same “legal family”, there will be continual if subtle variations over time. The resulting variety will, of course, be of great value to our understanding of the determinants of successful markets as reliance on local, face-to-face arrangements is replaced by global, internet-based transactions. Perhaps the best indicator of the future role of trust in financial markets is a non-financial institution: eBay. Those of you who have bought or sold something on eBay will know that buyers and sellers are asked to rate one another on various criteria such as quality of goods, promptness of shipping, promptness of payment and so on. Prospective users of the site, therefore, have a gauge of how trustworthy each buyer and seller is, based on previous transactions. This is an example of how new technology can calibrate reputation and trust between parties in the absence of legal protection, and in global markets where buyers and sellers never meet. This is a long way from local stock exchanges and local investors but the result may not be very different. Julian Franks is professor of finance at London Business School, and head of the Centre for Corporate Governance. His research focuses on regulation, bankruptcy and financial distress, European corporate restructuring and mergers. Colin Mayer is Peter Moores, Professor of Management Studies and Dean-elect at the Said Business School, University of Oxford. His research focuses on corporate finance, corporate governance, financial systems and regulation.

Women Trail Blazers in the Law (American Bar Association) 2010

The Project has sought out women who have made important contributions to the law and to women in the profession. Chosen primarily for their accomplishments and contributions, the senior women interviewed are from all areas of the legal profession: the judiciary, academia, law firms, government, corporations, and public interest organizations. They are in cities and towns across the country. Interviewing them are lawyer volunteers, selected and trained by the Project, who live in their communities. The Women Trailblazers Project is unique. While there are oral histories of women, including women attorneys, in libraries and archives scattered across the country, the Women Trailblazers Project is the only comprehensive nationwide project devoted exclusively to capturing, recording, and preserving the complete life histories of pioneering women lawyers as told by the women themselves. The WTP collection is housed at two repositories: the Library of Congress and the Schlesinger Library at Harvard. Now sponsored by the ABA’s Senior Lawyers Division (SLD), the Project was initiated by the Commission on Women in the Profession. Brooksley Born is Chair of the ABA’s SLD Committee overseeing the Women Trailblazers Project. Linda Ferren serves as Project Director.