Social Contract Theory and Business Legitimacy
This chapter reviews the most prominent approaches to business legitimacy from a contractarian perspective. First, the contractarian business ethics approach is presented. Second, the contractarian approach to business legitimacy is compared with the analogous concept of “social license to operate.” Third, the chapter discusses the use of the social contract argument at different levels: economic system and organizational levels. Fourth, the approach to the legitimacy of ethical norms in business based on the influential theory of Integrative Social Contracts, advanced by Donaldson and Dunfee, is presented in detail. Fifth, the legitimacy of corporate governance based on a hypothetical social contract of the firm is presented. Finally, a reference is made to the purportedly contractarian approach to legitimacy associated to “order ethics.” The chapter ends with the proposal of a liberal legitimacy principle for corporate power, taking Rawls’s liberal legitimacy principle as a model.
KeywordsSocial contract Contractarian business ethics (CBE) ISCT John Rawls
Man is born free, and everywhere he is in chains. (…) How this change occurs? I do not know. What can make it legitimate? I believe I can resolve this question.
Ultimately, the social contract offers the only bridge between the consent of those who are governed and the possible or potential legitimacy of the entity that purports to exercise powers of governance.
James M. Buchanan, Freedom in Constitutional Contract. Perspectives of a Political Economist
This chapter covers the use of social contract theory (SCT) as a philosophical argument to test the legitimacy of business. As a critical argument, SCT is rather used to question the legitimacy of accepted practices and institutions than to confirm it.
Social contract theory, as it was used in modern political philosophical thought by Hobbes, Rousseau, Kant, and Locke, is fundamentally concerned with political legitimacy, that is, with the question about the conditions under which government power should be accepted, and therefore obeyed, by rational individuals that see themselves as free and equal (cfr. Wempe 2009). After being criticized and then somehow forgotten during most of the nineteen century, the theory was brought back to life in the second half of the twentieth century by the works of John Rawls (1999; original edition 1971), John Harsanyi (1976, 1982), James M. Buchanan (1975), Robert Nozick (1974), and David P. Gauthier (1986). These more recent versions of the SCT concern themselves with the justification of social norms and institutions (including morality) so that their practical authority over us can be accepted from the point of view of each individual. Legitimacy depends therefore on the theoretical possibility of reconstructing institutional authority as the result of an agreement each could consent to. SCT is a heuristic, that is, a thought experiment for the purpose of moral self-clarification (Freeman 1990: 135). Actual consent is not usually needed in philosophical elaborations of the social contract. Now, the use of the social contract argument “as a framework for corporate morality” (Wempe 2005: 113) can be labeled contractarian business ethics (CBE).
CBE is a well-established approach to business ethics and organizational theory (Keeley 1988, 1995; Donaldson 1982 may be cited as forerunners; cfr. Ma et al. 2012 about the position of CBE among intellectual traditions in business ethics literature). This is due to a combination of reasons: First, the development of the neo-institutional economic theory of the firm (cfr. Williamson 2000) and the emergence of business ethics as an independent discipline – concerned with ethical issues in business and with the broader question of the legitimacy of business in general – partially overlapped with the revival of SCT during the twentieth century. The social contract method – in particular as developed by Rawls (1980) in “Kantian Constructivism in Moral Theory” – was very influential across disciplines (cfr. Norman 2015). Second, SCT is well suited for individualistic, pluralistic, and democratic societies, just the kind of society that hosts capitalistic institutions. The reason is that SCT, as opposed to other moral theories, does not assume that individuals share a common view of the good or a common theory of human nature. Most versions of the SCT are actually agnostic about these issues. SCT is therefore a powerful tool when the aim of the applied ethicist is to reach an ideologically, culturally, and religiously diverse audience, as it is the case in business (Willke and Willke 2008). Third, SCT seems applicable to human associations that, at a first blush, may look like “small societies” pervaded with hierarchical relationships and the mix of common purpose and competitive individual interests that characterizes society at large. Fourth, Edward Freeman, father of the influential stakeholder view of the corporation (Freeman 1984), has explicitly claimed that SCT may provide a normative core for stakeholder management; other scholars have followed suit. Finally, SCT is related to the empirical fact that business requires a minimum of public support. Individual industries, firms, or projects, and the socioeconomic system of business in general could not survive without the actual acquiescence of social agents at many levels. Business is kept, after all, by an underlying social agreement (cfr. Donaldson and Walsh 2015: 189). This fact on its own has no normative implication, but it is certainly related to the rise of CBE.
It is not uncommon to identify legitimacy with justice. However, it is possible to distinguish a SCT of legitimate institutions and a SCT of just institutions, the first concept being broader than the latter: while deeply unjust institutions would be illegitimate by the standards of any SCT, it is not the case that only perfectly just institutions are legitimate by the same standards. Certain practices or norms may be considered legitimate from a contractarian point of view (they would be rationally agreed upon by all affected under specified circumstances) while falling short of realizing the contractarian ideal of justice – or, for that matter, any ideal of justice. SCT can be seen as a two tier theory. At one level it is a procedural theory about the justification of social norms and principles: at this level legitimacy is established. At a second level, it is a constructivist theory of justice – about which basic general rights and obligations are justified as the result of a hypothetical agreement reached under the right circumstances and following a fair procedure: at this level a legitimate principle of justice is proposed. There are many empirical reasons why institutions may not attain justice; and this does not make them necessarily illegitimate in the first, procedural, sense.
The promise and appeal of this traditional understanding of contract, taken both philosophically and practically is that, if it is possible to show what rational individuals seeking their own various ideas of the good would (or could) agree to as reasonable rules for their common association, then we would have a coherent and persuasive way of thinking about the proper ends and limits of political society, justice and morality. We would possess standards of justice and an understanding of political morality that could be applied to all kinds of contemporary practices as a test of their legitimacy. (Button 2008: 24)
This chapter focuses on three main questions around CBE and business legitimacy: the distinction between a SCT of business legitimacy and the related business concept of a Social Licence to Operate (SLO) (section “License to Operate and Contractarian Legitimacy”); the legitimacy of business ethics norms (section “Integrative Social Contracts Theory (ISCT) and the Legitimacy of Ethical Business Norms”) and the legitimacy of corporate governance (section “Legitimacy and Governance”). Section “Levels of Analysis: Legitimacy of the Economic System and Legitimacy of Corporations” is introduced to discuss further the application of the social contract to business and how it deals with different levels of analysis: societal, economic, and corporate; finally, section “Conclusion” summarizes the basic tenets of the social contact approach to business legitimacy.
License to Operate and Contractarian Legitimacy
This section will spell out the distinction between the theory of the social license to operate (SLO) and the SCT of business legitimacy. The distinction between ideal and non-ideal theory will be introduced as a way to further clarify how CBE differs from the SLO approach, despite superficial similarities.
The SLO theory is a theory of the social legitimacy of business. It refers to the social acceptance – mainly in the form of tacit consent – of business activities, in particular those activities that have a clear and potentially harmful impact on communities or on valued social goods. Although SLO has been dubbed a “fashionable expression” (Demuijnck and Fasterling 2016: 676) that originated in business practice, it has been argued that it is linked with the theory of the social contract. According to Demuijnck and Fasterling (2016: 679), “from the normative perspective, the SLO is in place when organizational actions are genuinely justified in the eyes of society rather than perceived as legitimate on the basis of manipulation or influenced by the demands of certain powerful groups. Moral legitimacy can be achieved by engaging with affected persons and groups and by finding solutions and compromises (…). This clearly follows a contractarian logic.”
The problem here is twofold. First, the use of “normative.” The term is used within the framework of analysis popularized by Suchman (1995). This framework is a sociological theory of organizational legitimacy, in the tradition of Weber’s analysis: Suchman distinguishes pragmatic, cognitive, and moral legitimacy. Institutions may enjoy the social perception that we call “legitimacy” – the belief that their authority is justified, and their actions are desirable, acceptable, or appropriate – from their usefulness (pragmatic), from the familiarity with them (cognitive), or from their alignment with moral standards and values. This third source of legitimacy may be said to involve a “normative” perspective (Cfr. Elms and Phillips 2009). However, this is confusing. After all, utility and familiarity are also normative concepts. The fact that an institution is justified because it is perceived to be useful is no less normative than its being justified because it is perceived to be coherent with dominant social values. In both cases, justification in the eyes of society may be genuine or based on falsity or error.
The second problem is the use of the term “contractarian logic.” SCT in its most common use involves the ambition to generate, through a hypothetical argument, a benchmark of justifiability independent of social perceptions (Cfr. Freeman 1990); however, in the quotation above, the contractarian logic seems to refer to an attitude to get social support in an honest way. The so-called normative perspective is proposed as a test about the moral quality of the gained SLO, but the test is not exactly contractarian, since it does not use the heuristic of a unanimous agreement but what seems to be an empirical description of a fair procedure to reach “compromises.” For sure, a SLO based on good deliberative practices is the best way to legitimize a project or company under social pressure; and it may be reasonably conjectured that the purpose of a deliberative agreement is to approach the hypothetical unanimity of the social contract; but it is still social legitimacy (much in Weber’s sense) what is sought. Social legitimacy is in fact defined as the alignment of business activities with social norms, values, or expectations (Suchman 1995). Policies such as stakeholder engagement and a sincere disposition to reach compromises may be the morally justified way to get it; but these policies and attitudes do not change the nature of what is obtained, namely, effective public acceptance.
The SLO has been construed in management from an instrumental point of view – a “business case” for SLO has been developed (cfr. Deephouse and Suchman 2008; Russell et al. 2016). From this pragmatic viewpoint, SLO is the object of the ordinary tools of strategic management. Now, this strategic approach makes it difficult to pair SLO with moral legitimacy philosophically understood (Melé and Armengou 2016; Kinderman 2013). Demuijnck and Fasterling (2016) themselves point to how easy may be for corporations to obtain SLO while ignoring weaker constituencies – precisely those whose rational and informed consent would be more unlikely (cfr. also Long and Driscoll 2007). Furthermore, the business case for SLO is weak: it may be convincing about individual projects, but it is much less so when applied to corporations as enduring institutions. The management of social legitimacy crises concerning particular projects – one of the skills at which any well-trained manager should excel – is useless to deal with the legitimacy crisis that arguably affects the whole system of global business (Warren 2003; Shrivastava and Ivanova 2015, Donaldson and Walsh 2015: 182). SLO is managed by corporations within the parameters of “business as usual.” Including SLO as an element of a contractarian approach to legitimacy obscures the nature of the contractarian test. The whole point of SCT is to provide a benchmark for business practices and for the economic system as a whole that can go beyond socially legitimate existing practices.
This is not to deny that a relationship between rational and social legitimacy does exist. This relationship may be clarified by bringing in the distinction between ideal and non-ideal theory that Rawls introduced in Theory of Justice (Rawls 1999, 2001).
Let’s remember that the goal of Kantian constructivism (the version of the social contract argument adopted by Rawls) is to dig out the principles embodied in our understanding of ourselves as free and equal people living in society, by using the heuristic of a unanimous agreement behind a veil of ignorance. The metaphor of the social contract is set up under a number of constrains that, while being realistic, try to capture our ideals of agency and practical normativity. The assumption is that, if the description of people is acceptable to all, and the right choice of principles is made, then it is possible to envision what Rawls calls a well-ordered society, a society in which there is a public conception of justice that almost everyone abide by. This kind of society is one in which disagreements among individuals are tractable because, even if interests and views about the good life differ, there is consensus about how to deal with social conflict. Such consensus represents the common understanding underlying social cooperation and, indeed, social life. In a well-ordered society, the public conception of justice guides institutions, and, through the four-stage sequence (Rawls 2001: 48), it shapes constitutional provisions, legislation, and administrative and judicial decisions.
Rawls focused on ideal theory, that is, on the justification of principles for a well-ordered society. He was well aware that “existing societies are of course seldom well-ordered in this sense, for what is just and unjust is usually in dispute” (Rawls 1999: 5). In addition, principles of justice rarely meet general compliance. And finally, past injustices might have influenced institutions so deeply that they impact even the conception that people have of themselves, making ideal theory wholly irrelevant for them. Rawls’s focus on ideal theory was justified on his view that, in order to effectively deal with the empirical obstacles to justice, one needs to have a clear road map. But the fact that he did not pay much attention to non-ideal theory does not mean it is less important.
Drawing upon Simmons (2010), it can be said that non-ideal theory deals with two unavoidable existing phenomena: non-compliance and “burdened societies” – this second phenomenon refers to social conditions that do not allow the effective establishment of contractually derived rights (Simmons 2010). The way SCT deals with these phenomena is by considering how to restore or set up the conditions for justice as a long-term goal. Non-ideal theory assumes that social reform must be achieved gradually, by means of courses of action that are politically feasible and likely to be effective (Simmons 2010: 7). Non-ideal theory focuses on existing conditions and empirical data about mechanisms for social reform. Given its objective, non-ideal theory may accept that certain social arrangements that are incongruous with our conception of free and equal citizens are still provisionally legitimate from the perspective of the social contract. Those social arrangements are not coherent with a principle that all could accept as the common basis for a well-ordered society, but they might still enjoy unanimous consent by agents aware of the burdens and contingencies of their own situation, provided that they are an effective step toward a just society.
This is relevant for business legitimacy in the following way: The well-ordered society based on the two principles of justice would be, according to Rawls, a property-owning democracy. While it is not fully clear what this means, it would be probably a society with institutions significantly different from existing ones. It would feature a market economy; but it would also include property rights and contractual laws designed to make sure that concentrations of wealth would not be likely; the extreme forms of corporate power that currently exist would be prevented; basic services and a share of social wealth would be guaranteed for all; etc. Business would be legitimate, in sum, only if they passed the test of the liberal principle of legitimacy (Rawls 2001: 41).
Now, since we do not live in property-owning democracies, this ideal of legitimacy cannot be achieved in the short term. But the consequence is not that all existing business practices are straightforwardly illegitimate. The test of non-ideal SCT may be applied to elucidate how different institutional arrangements or individual organizations deal with existing injustices. This is an empirical question. We do not know in advance whether, for example, an active organizational policy of nondiscrimination – that might be unnecessary in a well-ordered society – will drive society in the desired direction or not. Social consensus based on public and honest deliberation may be the best argument for the policy, until empirical data are available. Extant social contracts may be an indication that the policy in question would be okay from the perspective of non-ideal SCT, due to the fact that actual people is experiencing the burdens and contingencies that non-ideal theory is supposed to take into account. In this indirect way, social legitimacy enters the logic of the contractarian approach.
An example framed in the Rawlsian approach adopted in the previous paragraphs may help understand this suggestion. Blanc and Al-Amoudi (2013) argue that, due to “remarkable historical changes [referring to the weakening of the welfare state] that distinguish our current societies from the society within which Rawls wrote TJ,” the range of institutions belonging to the Basic Structure of Society should now include corporate institutions (CI). They refer to empirical data in two ways: first they deploy data to prove that the welfare state has been weakened across the globe; second they accept that “the status of CIs cannot be decided entirely a priori but must also be informed by empirical considerations relative to each society’s political, social, and economic context” (Blanc and Al-Amoudi 2013: 498). In sum theirs is an example of the use of Rawlsian SCT to test the legitimacy of CI. Their position is that, because the historical trend has taken welfare states farther and farther away from the ideal of a Rawlsian well-ordered society, certain forms of private associations (namely, corporate actors) that might have been considered legitimate by Rawls have ceased to be so. Our context demands that CIs be – perhaps legally – constrained in their very operation and governance structure, so that they distribute basic goods, in particular the primary good of self-respect, according to the principles of justice applicable to the basic structure of society. Now, this theoretical conclusion may be confirmed by a social consensus in the same direction – public perception that CIs are failing society because of the inequality they promote or the alleged legitimacy crisis of global business. But this social consensus is strictly irrelevant to the conclusions of normative non-ideal theory, except in that it may ease the path for reform.
Let’s finally remark that the Rawlsian approach adopted to explain the difference between ideal/non-ideal SCT does not preclude its application to other conceptions of the social contract. While “property-owning democracy” may be the legitimate economic form of a well-ordered society for Rawls, Buchanan and Gauthier are generally taken to advocate laissez-faire economics as essential for justice. However, actual markets are quite far from the ideal of free competition and equal opportunity. Therefore Buchanan’s and Gauthier’s theories face exactly the same problem as Rawls’s when they set out to propose social reform.
Levels of Analysis: Legitimacy of the Economic System and Legitimacy of Corporations
Economic institutions (from free markets to corporate institutions) take part of the political constitution of a community; therefore they should be contractually justified as an integral element of the justification of political authority.
Economic and business relationships and organizations are the result of free decisions of individuals within the framework of more basic institutions and constitutional rules, such as property rights, freedom of contract, redistributive schemes, etc.; however, some business organizations involve authority relationships that require public justification just like political organizations do.
In Rawlsian terms, (a) may be identified with the thesis that “corporations are part of the basic structure” and (b) with the thesis that “corporations are private associations” (cfr. Heath et al. 2010: 431-433). And here lies the problem, because, private associations should not require public justification. The attempt to use Rawlsian SCT to justify schemes of corporate governance would be misguided in purely Rawlsian terms (Singer 2015). For private associations, legality would be very much coextensive with legitimacy: the only contractarian test on the legitimacy of business would be a test on legal compliance. It is through the legal system that society makes sure that companies and other economic agents behave within the boundaries of the principles of justice (cfr. Lütge 2012, 2012a; Pies et al. 2009, 2013). If a group of people freely decide to form an economic association and render obedience to a despotic leader without claiming any benefit for them; and they do so without violating any laws, harming the rights of anybody, or forsaking their own rights; why should the rest of us interfere? It is perfectly legitimate that they do so.
The application of SCT to individual business organizations under assumption (b) requires making a case that these organizations are really political communities in some sense. Witness Nèron’s words: “as ‘organizational regimes,’ they resemble political regimes by having shared but contested goals and purposes, conflicts, chains of authority and commands, complex collective decision-making mechanisms, and relations of power” (Neron 2015: 104). The comparison with the family is often brought to bear: as feminist scholars pointed to the family as a blind spot in the theories of justice, highlighting the political meaning of family relationships, so contractarian business ethicists need to show the political nature of business corporations. Nèron (2015) is an example of this kind of argument; and he reminds us that Rawls himself came to acknowledge that treating capitalist firms as mere private associations is a mistake (cfr. Rawls 2001: 178 about workplace democracy; Blanc 2016; Palazzo and Scherer 2006).
This seems to bring us back to the view that corporations, and certainly the framework of corporate law in which they operate, belong to the basic structure of society. However, business ethicists tend to treat the corporation as a key institution with its own legitimacy problems. It is true, as Shrivastava and Ivanova put it, that “it is difficult to isolate legitimacy challenges of corporations; they go hand in hand with legitimacy challenges to the entire socio-political system that brought those corporations to power” (Shrivastava and Ivanova 2015: 1212-1213). But individual analyses of “isolated legitimacy challenges” are often more nuanced and more illuminating than general theories of the just society. The distinction made above between ideal and non-ideal theory is useful here: in ideal theory it may be true that the legitimacy of corporate institutions depends on their conformity with the basic principles of a just society; but in non-ideal theory, existing social institutions must be taken for granted, and corporations must be assumed to function according to rules – provisionally legitimate – that may in fact impede that they serve purposes that a theory of social justice would ideally demand from them. In this case, the legitimacy of corporate structures and actions needs to be examined within these parameters. The reflection goes from the conditions for the legitimate operation of business in “the world as it is” to the reforms that will eventually allow that business make their full potential contribution to society.
The fact is that the scholarship on CBE (cfr. Wempe 2009) proceeded to apply SCT both to what could be termed the “basic economic structure of society” and to individual industries and corporations, without a detailed discussion of the proper conception of business and the business corporation from a social-contract perspective. To make things worse, the forerunner of the tradition, Donaldson (1982), speaks of a contract between society and business, as if a previously established society – by an ancestral pactum unionis, there must be supposed – negotiates with an equally pre-existing “world of business” that includes basically large corporations with their characteristic power relationships.
At this moment, however, it is safe to say that the two levels of analysis are at least clearly distinguishable. For most Rawlsian scholars, the bearing of the SCT on business is through an original social contract or the principles derived thereof (Blanc 2016; Bishop 2008; Hsieh 2008; Moriarty 2005). CBE thus conceived operates mostly at the level of social justice. Norms internal to corporations, market institutions, and ethical norms of economic dealings would be legitimate if they are derived from or according to the principles and basic social norms established by the political social contract argument.
The level of analysis may be that of the corporation itself if its political nature is paired with its being a global actor, rather than a member of a political society (Heath et al. 2010; Palazzo and Scherer 2006; Scherer et al. 2006). In this case the organization is supposed to be a sort of self-contained society – often identified as the “stakeholder organization” or the union of all relevant constituencies of a given corporation – that needs to establish legitimacy principles for itself within a broader framework, say, that of global business, that may or may not provide justified principles (for a critique, cfr. Willke and Willke 2008). Here the contractarian argument may rely on the implicit contracts theory, as is the case of Dunfee (1991), or on a hypothetical version of a contract among all stakeholders (Sacconi 2000).
Finally, it must be remarked that the SCT approach does not usually focus on the legitimacy of individual business actions or decisions. At this microlevel, contractual justification is entirely possible – Scanlon (2000) famously offers a contractual formula for individual morality, and some authors have done research on social contract justifications of business ethical decisions (Robertson and Ross 1995) – but it generally relies on general acceptability of principles (or systems of rules) for social cooperation; therefore the stress is on common norms, rather than on individual attitudes, sentiments, or even reasons. This makes the contractarian judgment about individual acts somehow derivative. The fact is that CBE focus is on the social and organizational aspects of ethics.
Integrative Social Contracts Theory (ISCT) and the Legitimacy of Ethical Business Norms
Donaldson and Dunfee’s book Ties that Bind. A Social Contracts Approach to Business Ethics (1999) is the most influential work in contractarian business ethics. In line with the tradition of the social contract, the aim of this work is to establish the moral legitimacy of norms: in this case, business ethics norms.
Applying the contractarian method to ethical, as opposed to political-legal norms, is not new. Gauthier (1986) exemplifies a kind of argument that lays the foundation of all distinctions between good and evil, starting from a pre-moral “state of nature.” Donaldson and Dunfee’s argument does not purport to erect the whole of morality from entirely nonmoral premises; they do not even try to build a rational business morality from a fictitious pre-moral market. They assume that the business world is a constitutive part of a global society equipped with moral and religious beliefs, as well as with ethical norms, habits, and interpretations developed over time by human communities; and this traditional morality carries over to the economic and business realm.
Their book sets out to solve the problem of how to make sure that the norms –sometimes written in legal documents and contracts, sometimes implicit – that pass for “ethical” in business are binding for a moral person immersed in the context in which the norm is generated and it is supposed to apply. They equate the binding force of ethical norms – their being morally obligatory and therefore a valid standard for moral judgment – with their legitimacy: the concept of legitimacy carries all the moral force in this theory.
Donaldson and Dunfee used SCT in two ways. First, they used it in an empirical way, to define authentic ethical norms – norms defining the range of what is proper/improper and right/wrong business conduct – as those that are generated and supported by the actual consent of a given economic community. Second, they use SCT in a hypothetical way, as a rational test on the legitimacy of those very community-generated norms. From an empirical point of view, they accept that the “unwritten agreements and unspoken promises among groups that must interact successfully in order to achieve both individual and mutual goals are the core framework for economic ethics” (Donaldson and Dunfee 1999: 37). But they refuse to accept that moral authority derives from the tacit consent of members of different groups or communities. Even if communal tacit agreements – or micro-social contracts – provide the content of business ethics norms, their normative force is argued to derive from the hypothetical agreement among fictitious macro-social contractors that represent a universal and rational point of view.
The hypothetical macro-social contract that serves as a legitimacy test draws upon Rawls’s depiction of an agreement in an original position. We are asked to imagine that all of humanity “convenes to establish a moral agreement.” The parties to the agreement are rational and autonomous, but the veil covering their personal circumstances is much thinner that in Rawls’s theory. The parties know that economic efficiency requires the above mentioned community-generated unwritten agreements and common understandings; and they are aware of their particular economic and political preferences. The parties see themselves as moral persons, but not necessarily altruistic, so they would set up a system in which they have the best chance of achieving their own goals. Key in Donalsdon and Dunfee’s reasoning is their suggestion that the parties “would realize that they must rely – at least partially – upon community-specific micro-social contracts for establishing contextually appropriate rules of economic ethics” (p. 27). The macro-social contract they envision is presided by this realization. The basic precepts of a macro-social contract for business ethics consist of four clauses: The first clause authorizes communities to freely generate their own norms; the second clause places conditions on how this freedom is to be used so that it respects individual autonomy (norms must be based on consent and buttressed by the individual rights to voice and exit); the third clause reads: “In order to become obligatory (legitimate), a microsocial contract norm must be compatible with hypernorms.” Clause four is about how to prioritize in case of conflicting legitimate norms.
What we find here is that the so-called global contractors acknowledge, on the one hand, that there is no basis to establish a thick universally valid economic morality – hence they must rely on the norm-generating power of business communities and groups – and, on the other hand, that there exists a thin universal morality made of principles so fundamental that they serve to evaluate lower-order norms (cfr. p. 44). The concept of hypernorms is used to establish the boundaries of the moral free space of business communities. Hypernorms allude to moral principles that are discernible in a convergence of religious, political, and philosophical thought. One way to approach the notion of hypernorms is to think of the most basic of human rights: they are recognized by almost every political constitution, and they are at least formally adhered to by the members of the United Nations and by many large corporations.
In sum, the hypothetical macro-social contract makes norms legitimate by imposing limits on what micro-social contractors are allowed to consent to. The result of this theory is that within the boundaries of legitimacy, communities may impose diverging norms as the “ethical or right thing to do” for their members – what Hussein (2009) calls “communal authority thesis.” However, norms that are marked as non-legitimate by the hypothetical reasoning of the macro-social contract would not be obligatory even if they are socially supported.
It is not clear that ISCT is really a contractarian theory of the legitimacy of business (cfr. Wempe 2009; Hsieh 2015). Despite the language and labels used, it is a theory that relies, after all, on either local ethical conventions (the extant micro-social contracts) or global moral conventions (hypernorms). The alleged contractarian thought experiment refers only to the hierarchy between these two sets of conventions and the safeguard of individual basic rights. The obvious question is what role is the idea of agreement really playing here. Note that this argument has been raised even against Rawls’s theory (Cfr. S. Freeman 1990). S. Freeman’s argument for the necessity of the notion of agreement in Rawls’s theory may be adapted to argue for the contractarian nature of Donaldson and Dunfee’s. The notion of agreement would play a role quite distant from the immediate interest of applied ethics: It would represent the underlying principles that allow people to establish practices of mutual public justification suited for autonomous individuals (cfr. S. Freeman 1990: 140). Accepting that defense of the contractual nature of Donaldon and Dunfee’s work may imply supposing that the realm of business requires its own foundation for public justification, which is questionable. It is easier to accept that the exercise of Ties that Bind is an exercise in public justification, rather than a work on the foundations thereof. Under this assumption, ISCT may not count as a proper contractual theory.
Legitimacy and Governance
A different way to look at the contractarian test of business legitimacy is to consider any business institution and ask whether its basic rules could be the result of a rational impartial agreement among its members. Here the test applies not only to “ethical” rules but to all kinds of governance rules of the institution. If the rules can be reconstructed as a fair agreement among rational people seeking their own goals, then the institution is legitimate no matter how the rules themselves are conceived of: some may be general legal provisions (applicable to a class of institutions or to all economic agents); some may be corporate rules, policies, guides, and decision procedures; some may be ethical business rules in the narrow sense, that is, social conventions specifying accepted standards of proper conduct.
Lorenzo Sacconi (2000, 2006, 2011, 2013) proposed a test for the legitimacy of the firm that basically consists of imagining what kind of governance structure would be set up by all relevant stakeholders of a corporation if they had to draft a constitution for the firm without knowledge of the position each was going to occupy. This form of veil of ignorance assures that the constitutional draft would be fair. But the prospect of mutual gain and the knowledge that productive activity is much more efficient if it is hierarchically organized would still justify unequal distribution of power within the firm. The rational bargaining among prospective stakeholders would therefore focus on which inequalities and prerogatives are justified and how to keep them in check. And since unanimous consent about differences requires that they are perceived as justified – related with contribution and allowed for the common benefit, for example – an important component of the agreement would be the precise rules of distribution of the join benefit attained through institutional cooperation. In this way, Sacconi deduces the set of general traits that would characterize a legitimate firm: First, the objective function of the firm must be defined by the hypothetical point of agreement among all relevant stakeholders. It must be noted that this is not a chimerical objective, as defenders of the shareholder view of corporations (Jensen 2002; Mansell 2013) denounce. This is not the place to argue for that, but it is obvious that any “objective function” of the firm involves more than one measure. At the very least, it must include one measure subject to one restriction: say, shareholder value constrained by compliance with the law. So there is always more than one single element in the function, and that implies no contradiction. Sacconi, drawing upon neo-institutional cooperative views of the firm (Aoki 1984; Fia and Sacconi 2018), opposes the received wisdom that managerial decision based on multiple objectives is impossible. He simply observes that a joint function (including the goals of each stakeholder weighted in the proportion unanimously agreed upon ex ante) can work as the objective function of the firm perfectly well. This is not to deny the basic constrains of economic sustainability and legal compliance. Rational stakeholders are aware of those constrains; they would go ahead with the constitutional agreement of the firm if, given those constraints, their joint cooperative activity would still yield a surplus that is rewarding for them all.
The second trait of the legitimate firm is that it must include control mechanisms. The fact that the function of the firm assures each stakeholder a fair share in the firm’s surplus may be enough in a world of angels: if each and every person could be trusted to comply with their legal and institutional obligations. However, the inequalities justified on reasons of efficiency are likely to result in abuse in partial-compliance contexts (recall again the role of non-ideal theory). Therefore, explicit and well-funded CSR policies and ethical compliance programs would surely feature in the design of a legitimate organization. The touchstone of an original contract should make us think of the guarantees that rational people would demand before joining an organization in which they could end up being subject to the discretionary decision power of others.
Still another contractarian approach is represented by Lütge’s account of business ethics, drawing upon order ethics and the contractarian model of Ackerman (1980) and Buchanan (1975, 2000). Drawing upon the methodology of Buchanan and Tullock’s (1962) Constitutional Political Economy, Ingo Pies and co-authors (Pies 2017; Pies et al. 2009, 2013) have proposed an “ordonomic” approach to business ethics. Lütge has simultaneously developed the connection of this approach to the contractarian tradition (Luetge et al. 2016). Legitimacy is built upon the rational-choice idea of mutual advantage, in mixed-motive, positive sum games. Social interaction is described as involving many social prisoner’s dilemma-like situations that drive everyone to an undesired sub-optimum outcome. Overcoming sub-optimality requires agents to cooperate: they need to adopt a joint strategy that is mutually advantageous. Mutual advantage captures the underlying idea of equal respect, as opposed to the utilitarian idea of aggregate welfare, for example – although short of the Rawlsian ideal of public reason based on an understanding of people as deserving and demanding justificatory reasons. So far, these ideas are not essentially different from other contractarian justifications of social institutions. The distinctiveness of the ordonomic approach is that it does not rely on the “sense of justice” of individual actors. On the contrary, it refuses to ask individuals to make sacrifices in the name of justice. The institutional framework must make individual morality superfluous. The approach is based on the paradox that corporate Institutions are capable of forms of moral commitment that are not easy for individuals. Individuals committing themselves to act according to a joint cooperative strategy need to be ready to forsake opportunities for benefit, and this makes cooperation unstable. Corporations however have no previously defined “benefit”; they are constituted by our design; so there is no contradiction in designing them so that uncooperative actions are simply made impossible (coercively prohibited, extremely costly, easily punished, etc.). Therefore, it is easier to rely on careful institutional design and assume individuals may be free to pursue their interests within that framework. It is a matter of setting the governance structure upon the right reasons – making clear that the workings of the institution are mutually beneficial and therefore acceptable to all – and adopting rules imposing the right incentives, so that a social game is defined that conspires, so to say, for mutual benefit and Pareto optimality. That situation is legitimate because it reflects the social framework that would be rationally consented to by individuals focused on their own self-interest.
In sum, order ethics legitimizes legal and institutional schemes that turn social dilemmas into coordination games, so that individuals act in a maximizing way, while they contribute to the benefit of all. These situations are stable by their own nature. The task of ethics is moved to another level: the level of justifying before each individual the shift from the status quo to the proposed new game. This justification is based on the assumption that each individual will find mutualistic arguments convincing as long as optimality and maximum possible individual benefit are secured.
SCT is a philosophical argument directed to the question of the legitimacy of social institutions. Its basic normative idea is that submission to social norms and commands – be it the law, morality, or the directives of those in certain social roles – is justified in so far as their authority can be plausibly explained as the result of a voluntary agreement of those subject to obedience. Contractarian approaches to the legitimacy of business explore, therefore, whether explicit, tacit, or hypothetical consent is present in relation to contested authorities in business. The aim of the theory is normative: legitimate institutions and their norms have a right to demand compliance and their members or addressees a corresponding duty to obey. According to the SCT, legitimacy establishes the morality of social rules.
In business, SCT may be used as a moral check in three main contexts: in the context of the economic constitution (whether for profit organizations and the market mechanism are legitimate, etc.) (Luetge et al. 2016; Bishop 2008; Neron 2015; Donaldson 1982); in the context of the corporation (e.g., whether the stakeholders of a firm would rationally agree to the form of governance that gives priority to managers and shareholders) (Sacconi 2011; Hsieh 2008); and in the context of ethical norms of business: examining the legitimacy of different ethical norms as they prevail in business communities (Donaldson and Dunfee 1994, 1999).
At any of these levels, the SCT of business legitimacy should make us think on rational (self-interested) and reasonable (willing to publicly justify actions) individuals as sources of moral authority. SCT is a heuristic that may help solve the question whether a given institution or norm would actually obtain the consent of rational and reasonable individuals. The heuristic relies on hypothetical contract. This is to assure that consent is mutually beneficial, rather than fraudulent and exploitative, as it happens to be in many actual instances of consent-based economic relationships. In the end, the contractarian seeks to assure that legitimate business institutions and rules do work for our mutual benefit. The fictitious unanimous agreement is a heuristic device to keep us in guard against biases and specious arguments that may seem to justify unwarranted individual sacrifices.
Such principle would surely require long clarifications and developments that do not belong here. It is stated to show the potential fruitfulness of SCT as applied to the question of the moral legitimacy of business.
The exercise of the prerogatives of corporate governance is proper and hence justifiable only when it is exercised in accordance with a constitution of the firm the essentials of which all internal stakeholders and economic agents directly affected by the firm’s operation may reasonably be expected to endorse in the lights of principles and ideals acceptable to them as reasonable and rational economic agents.
Research for this chapter was (partially) funded by the Spanish Ministry of Economy (AEI) and FEDER Funds UE through Research Project BENEB3 (FFI2017-87953-R). Part of the work was done during a Fulbright Visiting Fellowship at the Edmond J. Safra Center for Ethics, Harvard University.
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