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Abstract

This article reviews experimental evidence on the effects of policies intended to promote behavior by firms that is more socially responsible and less socially irresponsible. Corporate social responsibility (CSR) can provide firms with opportunities for profit, but changes are likely to increase total welfare only if firms adopt them freely and without taxpayer subsidies. Mandated CSR circumvents people’s own plans and preferences, distorts the allocation of resources, and increases the likelihood of irresponsible decisions. Evidence that government policies will increase welfare and a compelling argument that proven benefits justify reductions in freedom are necessary in order to justify CSR mandates. To date, this has apparently not been achieved. Corporate social irresponsibility (CSI) is concerned with whether firms undertake harmful actions that managers would be unwilling to undertake acting for themselves, or that a reasonable person would expect to cause substantive net harm when all parties are considered. Markets in which stakeholders are free to make decisions in their own interests provide some protection against CSI. Tort and contract law provide additional protection. Nevertheless, managers sometimes act irresponsibly. Codes of ethics that require fair treatment of stakeholders while pursuing long-term profit reduce the risk of irresponsible decisions. Management support and stakeholder accounting are important for successful implementation. Firms may wish to consider these measures; many already have.
Effects of Corporate Social Responsibility and Irresponsibility Policies
J. Scott Armstrong, The Wharton School, University of Pennsylvania
Kesten C. Green, University of South Australia Business School
Working paper, 1 December 2012
Forthcoming in the Journal of Business Research in 2013
Abstract
This article reviews experimental evidence on the effects of policies intended to promote
behavior by firms that is more socially responsible and less socially irresponsible. Corporate
social responsibility (CSR) can provide firms with opportunities for profit, but changes are
likely to increase total welfare only if firms adopt them freely and without taxpayer subsidies.
Mandated CSR circumvents people’s own plans and preferences, distorts the allocation of
resources, and increases the likelihood of irresponsible decisions. Evidence that government
policies will increase welfare and a compelling argument that proven benefits justify reductions
in freedom are necessary in order to justify CSR mandates. To date, this has apparently not
been achieved. Corporate social irresponsibility (CSI) is concerned with whether firms
undertake harmful actions that managers would be unwilling to undertake acting for
themselves, or that a reasonable person would expect to cause substantive net harm when all
parties are considered. Markets in which stakeholders are free to make decisions in their own
interests provide some protection against CSI. Tort and contract law provide additional
protection. Nevertheless, managers sometimes act irresponsibly. Codes of ethics that require
fair treatment of stakeholders while pursuing long-term profit reduce the risk of irresponsible
decisions. Management support and stakeholder accounting are important for successful
implementation. Firms may wish to consider these measures; many already have.
Keywords: accountability, affirmative action, decision making, ethics, externalities, free
markets, minimum wage, paternalism, principal-agent problem, regulation, seer-sucker theory,
stakeholder accounting, stakeholder theory, sustainability.
Send correspondence to J. Scott Armstrong, The Wharton School, University of
Pennsylvania, Philadelphia, PA 19104, (Armstrong@wharton.upenn.edu); Kesten C. Green
University of South Australia Business School, GPO Box 2471, Adelaide SA 5001, Australia
(kesten.green@unisa.edu.au).
Acknowledgments: The authors are grateful for early suggestions on this paper from
Kay Armstrong, Philip Booth, Tom Donaldson, Philippe Jacquart, Ed Locke, Tim McGuire,
Patrick Murphy, Bodo Schlegelmilch, Paul Sherman, Fred Smith, Clifford Winston, and Arch
Woodside. Rui Du, Jennifer Kwok, and Katherine Wang helped with editing. Responsibility
for errors or omissions belongs to the authors.
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Effects of Corporate Social Responsibility and Irresponsibility Policies
1. Introduction
In economic theory, maximizing the present value of long-term profits is the objective of a
firm. Some commentators suggest that this objective is insufficient because firms should also
undertake what they regard as socially responsible activities. The concept of corporate social
responsibility (CSR) became prominent in the 1960s. Promoters wish to use firms as
instruments for achieving various social objectives. In addition they are concerned with
reducing corporate social irresponsibility (CSI).
Some advocates of CSR and of efforts to reduce CSI suggest that owners and managers lack
incentives to make socially responsible decisions. As a consequence, the argument goes,
corporate managers need guidance that will lead them to make responsible decisions. Guidance
is likely to be insufficient, however, if following the guidance would harm profits. Therefore,
government incentives and penalties may be required to ensure firms follow the guidance.
A contrasting view is that firms should be free to pursue the profit-making objectives of the
owners. In doing so, firms need to develop mutually agreeable arrangements with
stakeholdersthose who have substantive economic interests in the activities of the firm.
Stakeholders typically include owners, creditors, employees, suppliers, distributors, local
communities, and customers. Prices and other arrangements adjust to reflect the preferences of
individuals in each group. With each party free to end its relationships and each protective of its
reputation, the system is self-monitoring and self-correcting.
The pursuit of long-term profits encourages firms to treat other parties well and to avoid
misleading them. For example, firms tell customers about the limitations of their products in
order to retain the benefits of good long-term relationships and to avoid the costs of dealing
with disgruntled customers and with lawsuits. If managers treat owners poorly, the owners can
find new managers. If firms treat other stakeholders poorly, the stakeholders can seek out firms
that treat them better. Buyers seek products that best suit their needs. To do this, they can obtain
independent information from others, search the Internet, use trusted suppliers, or buy well-
known brands. If buyers discover that they have been misled, they can punish the seller by not
buying the product in the future, demanding a refund, discouraging others from making a
purchase, posting comments on the Internet, or suing. Finally, there are long-standing legal
remedies in both tort and contract law if stakeholders or others are harmed or might be harmed.
These remedies include compensatory damages and injunctions.
One might reasonably ask whether regulators are as strongly and clearly motivated to do
good, whether they possess the requisite knowledge to do so, and whether they can do so in
practice? Moreover, when a government policy is harmful, the harm is greater in extent than
when a firm’s policy is harmful, there is not the same opportunity for those who are harmed to
exit the relationship, and ambiguous feedback, interest group lobbying, and inertia are more
likely to delay its reversal than would be the case for a firm.
Despite explanations by Adam Smith, Friedrich von Hayek, Milton Friedman and others,
the idea that people should be free to make contracts as they see fit (the so-called “invisible
hand” of the market) is counter-intuitive for many people. They cannot believe such a system
can work because it lacks a coordinator and, they argue, the parties are motivated by greed.
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Adam Smith addressed this concern: It is not from the benevolence of the butcher, the brewer,
or the baker, that we can expect our dinner, but from their regard to their own interest” (Smith
1776/2008, p. 25). In contrast, mandates and subsidies aimed at promoting CSR and reducing
CSI are based on the belief that people need the guiding hand of government.
2. CSR and CSI as Government Regulation
Regulators face a complex problem if they are to improve on the welfare outcomes that arise
from free-market interactions. In order to do so, they must meet basic conditions to help ensure
that regulation will make the situation better than market solutions. In particular, welfare is
likely to be reduced by a CSR or CSI regulation if the regulator fails to meet any of the
following common-sense conditions:
1. Know stakeholders endowments, relationships, and preferences
2. Describe in detail how the situation could be changed to the benefit of those affected
3. Design rules that will produce the intended changes
4. Design rules that will not produce unintended changes
5. Resist pressures to modify the rules in ways that would reduce the total benefit
6. Ensure those affected by the rules know and understand them
7. Establish rewards and punishments to ensure the rules are followed
8. Establish fair procedures for resolving disputes arising from enforcement of the rules
9. Change rules (see 18) when the situation changes, as with inventions or scarcities
10. Keep the administrative costs of the rules below the value of the benefits.
Learning how many existing regulations meet these ten conditions would be interesting: The
answer should already be known. In the case of the first condition, for example, stakeholders
themselves do not know their preferences until faced with specific choices. Consider the case
of a consumer buying a product. Nisbett and Wilson’s review of the literature on making
decisions concludes, “the accuracy of subjective reports is so poor as to suggest that any
introspective access that may exist is not sufficient to produce generally correct or reliable
reports(1977, p. 233). Customers know what they like, even if they are not sure why. But how
could a regulator know their preferences? The question was raised by Jeremy Bentham in the
late-1700s, “It is a standing topic of complaint, that a man knows too little of himself. Be it so:
but is it so certain that the legislator must know more? It is plain, that of individuals the
legislator can know nothing: concerning those points of conduct which depend upon the
particular circumstances of each individual, it is plain, therefore, that he can determine nothing
to advantage” (Bentham 1789, 1823, p. 379, 1789/1907).
And might the ability to choose for oneself add to one’s enjoyment of life? A study of data
from 46 nations leads to the conclusion that choice is important to happiness (Veenhoven,
2000). Moreover, regulation dulls the connection between the preferences of buyers and
sellers production decisions and innovations.
Rizzo and Whitman (2009) ask a similar question to the one asked in this article, in their
case about new paternalist or so-called libertarian paternalist policies. Do policymakers know
enough to improve the situation? They propose that government policy makers must pass six
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knowledge tests in order to be confident of improving welfare. They conclude that success is
unlikely.
Regulation is a forecasting problem. Legislators, regulators, and courts appear to depend on
expert judgment to forecast whether a proposed regulation will lead to desired outcomes. The
question that then arises is, are such forecasts valid? An early review of the experimental
evidence on forecasting for complex and uncertain situations concluded that experts with
accurate information are unable to make predictions that are better than those made by non-
experts (Armstrong 1980). That conclusion was reinforced by a study of more than 82,000
judgmental forecasts made over 20 years by 284 experts in politics and economics
(Tetlock, 2005). The experts’ unaided forecasts were little more accurate than those made
by non-experts, and they were less accurate than forecasts from simple models. Despite
the evidence, most people believe that they and their favorite experts are exceptions. The
disconnection between evidence and belief about expert forecasting is described by the Seer-
sucker Theory: “No matter how much evidence exists that seers do not exist, suckers will pay
for the existence of seers” (Armstrong, 1980).
Despite the widespread belief that regulation is useful, the authors were unable to find
scientific studies that established that regulation was superior to non-regulation in any specific
case. To the contrary, the effects are typically harmful (e.g., Winston, 2006). For example,
mandated disclosure and disclaimer regulations, which are intended to provide potential buyers
and other stakeholders with important information, are examples of regulations that seem
obviously beneficial. U.S. courts have upheld such restrictions on free speech for nearly seven
decades on the basis of their intuitive appeal: how can more information be harmful? Would
not people be protected by guidance and warnings? In light of these commonsense beliefs, it is
remarkable that all experimental evidence has shown that buyers and sellers have been harmed
by mandated disclosures (Ben-Shahar and Schneider, 2011; Winston, 2008). The same applies
to mandated disclaimers (Green and Armstrong, 2012).
Opinions of experts tend to lag decades behind the evidence, and the opinions of the general
public tend to lag those of the experts. In the early 1900s, economists and the general public
saw a need for regulation of businesses. This viewpoint persisted in university economics
textbooks. For example, Paul Samuelson’s Economics advocated central planning. By his 13th
edition (1989) Samuelson claimed, “The Soviet economy is proof to the contrary to what many
skeptics had earlier believed, a socialist command economy can function and even thrive”
(quoted in Skousen 1997, p. 148). However, as Winston (1993) documents, empirical evidence
on the failures of regulation began to affect economists’ views on regulations. By the late
1970s, for example, 97% of economists agreed that “tariffs and import quotas reduce general
economic welfare” and 90% agreed that, “a minimum wage increases unemployment among
young and unskilled workers” (Kearl, Pope, Whiting and Wimmer, 1979, p. 30). For a
summary of the state of economic knowledge of minimum wage policies, see Gorman (2008).
Judging by government policies around the world, public opinion and political leadership have
yet to catch up with evidence on these issues.
An appeal to the economic concept of externalities is another way the argument is made for
government intervention. Externalities occur when there are benefits or costs to third parties
that are not reflected in the price of a product. As a consequence, the theory goes, such products
are under or over produced relative to the socially optimal quantity. In practice, third parties
typically propose that a particular externality exists, and that government action is needed in
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order for the market to provide the correct quantity of the product. This argument is another
way of saying that sellers and buyers are not being sufficiently socially responsible, or are
being socially irresponsible. Alternatively, sellers or buyers sometimes lobby for a subsidy,
arguing that this would lead to greater social responsibility as a result of more of a socially
desirable product being produced and consumed. Given that there is no agreement of what
social responsibility is or how much it is worth relative other desideratanor is it plausible that
free people would agreeit is not clear how any government or political process could
determine the optimal quantity of the product. Because firms are guided by prices in their
search for profits, they have stronger incentives and better means than do regulators to provide
the optimal social quantity of a product: the quantity and kind for which buyers and other
stakeholders are willing and able to pay for with their own money.
The belief that regulation is desirable persists despite the lack of experimental evidence to
support regulation. Indeed, natural experiments whereby heavily regulated countries such as
North Korea are comparable with less regulated countries that were previously similar, such as
South Korea, provide scant evidence of superior social outcomes. South Korea’s 2012 Index of
Economic Freedom is 69.9 and its 2010 per capita GDP adjusted for purchasing power is
$28,600. The equivalent figures for North Korea are 1.0 and $1,100 (Miller, Holmes, Feulner,
et al., 2012). For further evidence from natural experiments, see the statistics provided on
Wikipedia in the entry titled “Eastern Bloc economies.”
Government regulations are expected to harm stakeholders because they ignore prices and
restrict the rights of consenting adults to make contracts with one another. Might it be fair to
suggest, then, that accepting government subsidies and exploiting protective regulations are
examples of corporate social irresponsibility? The findings of a study of the deregulation of
nine U.S. industries (including airlines, railroads, brokerage, telecommunications, and natural
gas) were consistent with economists’ predictions that consumers would benefit. The general
public expected the opposite outcome for some industries, such as airlines. Even after de-
regulation, the general public perceives that airline customers were harmed (Winston, 1993).
De Soto (1989) shows how government regulations lead to socially irresponsible results in
poorer countries.
The authors’ review of the evidence on government regulation supports the Iron Law of
Regulation: “There is no form of market failure, however egregious, which is not
eventually made worse by the political interventions intended to fix it” (original source
unknown).
3. CSR and CSI Regulations in Practice
Because agreeing on a definition of CSR is hard, if not impossible, firms may be told or
forced to take actions that seem socially responsible to some people, but which are regarded as
socially irresponsible by others. For example, should managers of corporations divert money
from stockholders to charities of their own choosing without the agreement of all of the
owners? Should managers support social causes that are objectionable to many of the firm’s
stakeholders? Should firms be forced to discriminate on the basis of race and gender in their
hiring and promotion decisions? Should managers support programs that the firm’s owners
expect will harm welfare? For example, according to a National Center for Public Policy
Research 2012 press release, at their annual shareholder meeting in Chicago executives from
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Target Corporation refused to answer stockholder requests for cost-benefit information on the
various environmental sustainability programs listed in the corporation’s 2011 Corporate
Responsibility Report (Target Corporation 2012).
Major disagreements over what constitutes socially responsible behavior are common.
Discrimination based on race, sex, or ethnicity is believed by many to be responsible behavior
and is endorsed and sometimes enforced by governments. Since the early 1960s, the U.S.
government has supported present-day discrimination to redress historical disadvantages. For
example, elite universities discriminate against Asians and southern white males under the
name of affirmative action. To have the same opportunity for acceptance at America’s elite
colleges, Asians must score 450 points higher out of 1600 on the SAT tests than people with
dark skin (Espenshade and Radford, 2009, p. 92). It is not immediately obvious how this
helps to redress previous disadvantages. Moreover, the majority of people in the U.S. do not
support such discrimination. A May 26-June 2009 Quinnipiac University nationwide survey of
3,097 registered voters asked “Do you think affirmative action programs that give preferences
to blacks and other minorities in hiring, promotions and college admissions should be
continued, or do you think these affirmative action programs should be abolished?” Their
responses were: Continued 36%; Abolished 55%; Unsure 9%.
When the government imposes policies in the name of social responsibility, they tend to
persist for long periods. This is partly because the costs tend to be dispersed and the benefits
concentrated. In contrast, participants in free markets are punished if their idea of what is
socially responsible fails to provide a net benefit. For example, a manager might consider the
skin tone of a potential employee an important consideration for modeling a range of clothes to
the advantage of the firm and its customers. If a manager were to adopt an “affirmative action”
policy that led the firm to hire a web designer based on skin color, on the other hand, this would
put them at a disadvantage to firms that did not discriminate in this way. Firms in South Africa
were leaders in rejecting racial policies: they openly disobeyed apartheid laws. Managers
regarded those actions as good for their firms.
Some proponents of CSR argue that firms will ultimately earn higher profits if they do good
deeds. Without an agreed-upon and unambiguous definition of CSR, however, such claims
cannot be tested. Even if a testable general claim were forthcoming, other variablesincluding
subsidies, tax breaks, and special treatmentand causal ambiguity would require experiments
for proper testing (Armstrong, 2012). Furthermore, investment returns are contingent on
circumstances and must be evaluated each on its own merits.
Despite the questionable value of analyzing non-experimental data, many researchers have
published such analyses to assess the value of CSR. Margolis and Walsh (2003) list 127 such
papers published between 1972 and 2002. About half (50.5 percent) of the 109 studies that
treated corporate social performance as an independent variable failed to find a positive
relationship with financial performance. In their review, they found that the 13 previous
reviewers since 1978 had identified “problems of all kinds in this research… sampling
problems, concerns about reliability and validity… omission of controls… and [of] moderating
conditions” (p. 278). No doubt the number of similar studies has grown substantially since the
Margolis and Walsh review.
Where corporate social responsibility decisions conflict with the market by asking or forcing
managers to obey rules that are harmful for their firms, CSR is likely to lead to socially
irresponsible decisions in the form of penalties imposed on people who have done no harm and
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in the form of distortions in the allocation of resources. Moreover, governments forcing firms
to allocate resources in particular ways, for example in response to the lobbying of the
sustainability movement, amounts to a confiscation of property rights.
4. CSR and CSI as Voluntary Policies
Firms might adopt policies in order to encourage their employees to act responsibly and to
avoid acting irresponsibly. These practices are informed by the stakeholder theory of the firm.
For an excellent review of the history and literature on the stakeholder theory, see Donaldson
and Preston’s (1995), one of the most frequently cited academic papers on social responsibility.
They approach the problem by looking at whether firms use the stakeholder theory (many do),
the normative issue (is the stakeholder theory justified on moral grounds?), and the
instrumental issue (are firms more profitable if they follow stakeholder theory?). They
conclude that there is a lack of evidence on the instrumental value of stakeholder theory. Partly,
they write, this lack of evidence is due to the lack of explicit descriptions in the use of the
stakeholder theory.
One view of stakeholder theory is that it requires a change in the objectives of the firm.
Instead of simply maximizing the net present value (NPV) of profits, the stakeholder-theory
objective of the firm is to maximize NPV subject to treating other stakeholders fairly. This
view is consistent with Donaldson and Preston’s (1995) argument that the property rights of
stakeholders provide the moral justification for using stakeholder theory as the basis of the
management of firms. It is also consistent with beliefs held by managers; for example, in
Baumhart’s (1968) survey of subscribers to the Harvard Business Review, 83% of the
respondents agreed that, “for corporation executives to act in the interests of shareholders
aloneis unethical”. However, to be effective, a firm’s objectives must be explicit and
measurable. Support for this conclusion is drawn from hundreds of lab and field experiments
on objective setting (Locke and Latham, 2002).
5. Evidence on Voluntary CSR
The authors conducted searches for experimental and quasi-experimental research findings
that could provide evidence on the effects of voluntary corporate social responsibility and
corporate social irresponsibility initiatives. Searches included the Internet and examining
references in key papers. The authors attempted to contact all those whose findings they had
referred to in order to ask whether they had accurately summarized the findings, and to ask
whether evidence had been overlooked. They received replies from most of those they had
attempted to contact and made extensive changes in response to the replies.
Many firms have responded to CSR in a rational way by looking for profit opportunities.
For example, if people are willing to pay three times as much for eggs laid by free-range
chickens, it may be possible for the seller to increase profits. Customers who buy them are
happier even if they have little idea of what it means for chickens to be raised free-range, if
there is no objective difference in the taste of the eggs, or health effects, and if there is no
knowledge about the happiness of the chickens. The key is that decisions do not lead to net
harm. Hence, a firm may find opportunities to increase profits by satisfying customers who
hold strong beliefs on the lifestyles of chickens.
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Causes might help advertisers establish a link with customers who might otherwise resist
their appeals. Causes can be of a general nature, such as donations to charities, or firms can
show how purchasing the product contributes to a social good. An advertisement can inform
people that the firm is aligned with a popular cause, such as “This ad was printed on recycled
bio-degradable paper.” To show their support for causes, sellers use phrases such as “Fair trade
certified,” “Fairly traded,” “Certifiably sustainable,” and “Local.” The terms sometimes
indicate support by a third party, such as “Rainforest Alliance Certified.”
Causes can be tied to purchases. In 1983, in what is reputed to be one of the earliest
examples of tying sales to charitable donations, American Express advertised that they would
donate a penny to the renovation of the Statue of Liberty for each use of its credit card.
Compared with the same period in the prior year, it claimed a 28 percent increase in credit card
usage, a huge increase for such a small offer. For a description on how to use causes to improve
profits, see Armstrong (2010, pp. 140141).
Sainsbury’s, the British supermarket chain, sold “fair trade” bananas at four times the price
of conventional bananas (Stecklow and White, 2004). In an experimental study of coffee-
buying behavior, the price of cups of coffee advertised as “fair trade” and the price of cups of
the top selling variety were varied with discounts, which were advertised. Nearly 500 buyers
were observed and interviewed. Demand for the fair trade variety was much less sensitive to
price changes (Arnot, Boxall, and Cash, 2006). The Fair Trade approach should not be
regarded as a CSR panacea, however. While it does some good and little harm as a niche brand,
the anti-free trade approach of its promoters would be harmful if it became more prevalent
(Mohan, 2010).
Surveys found that 83 percent of U.S. respondents would have a more positive image of a
firm if it supported a cause that they respect. And 86 percent of U.K. respondents said they
would be more likely to purchase from a company associated with a cause (Ellen, Mohr, and
Webb, 2000).
In summary, it is possible for stakeholders to gain from applications of the CSR concept
without harming others if the initiatives are voluntary and are not subsidized by taxpayers.
Failing this, there are strong a priori reasons to expect that actions taken in the name of CSR
will be socially irresponsible, as defined in the next section. This conclusion is not new.
6. Evidence on Methods to Reduce CSI
This paper uses a definition that Armstrong (1977) proposes: A decision can be considered
as irresponsible if it is (1) inferior to other options when all effects upon all parties are
considered, or (2) a decision that the decision maker would consider unethical in a personal
capacity.
Corporate social irresponsibility is a long-standing problem. In a survey of 1,800 subscribers
to the Harvard Business Review, 82 percent of the respondents indicated that their industries
were likely to have engaged in “unethical practices.” The primary influence in making these
unethical decisions was reported to be the behavior of the respondent’s boss (Baumhart 1968).
One source of social irresponsibility is that people working for firms might employ unethical
procedures to increase their personal wealth at the expense of the firm (e.g., embezzlement).
Owners of firms endeavor to exclude such behavior because it harms profitability. The
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penalties for irresponsible actions by corporate managers can be huge (Karpoff and Lott, 1993;
Lott, 1992). A related problem occurs when managers or boards of directors deceive the
owners. Here again the penalties are high. A study of 585 firms that were targeted by the SEC
for financial misrepresentations from 19782002 found that while legal actions led to legal
penalties of around $24 million, the reputational losses were more than seven times larger
(Karpoff, Lee, and Martin, 2008).
Perhaps the major source of irresponsible behavior in firms is people following the dictates
of their roles even when doing so causes harm. This issue of people following instructions in
contravention of their own ethical beliefs was examined in Milgram’s (1974) “blind obedience”
studies on learning. It was unsurprising that he found that people submit to authority. What was
surprising was the size of the effect. Many “teacher” subjects in Milgram’s experiments on
learning continued to administer electric shocks to their “learner” subjects even though they
thought their actions as a teacher were leading the learner to suffer considerable pain and, in
some cases, death. In another experiment, subjects were given the role of either lawyer for the
plaintiff or lawyer for the defendant in a dispute over damages arising from an automobile
accident (Babcock et. al 1995). The subjects then read the evidence on the case and were asked
to estimate what dollar amount a fair judge would award in damages. The two groups of
“lawyers” found different parts aspects the evidence important and the difference between the
estimates of fair damages were large. Such biased estimates would not be in the interest of
clients, as they would reduce the chances of an out-of-court settlement.
The studies suggest that one way to help reduce the chances that managers will make
irresponsible decisions is to give them roles that are consistent with responsible behavior.
Developing explicit and measurable objectives should help firms to achieve this. For example,
“The role of our managers is to maximize long-term profits subject to the fair treatment of our
stakeholders. To that end, managers are expected to report on the effects of the firm’s actions
on stakeholders in addition to the usual financial reporting requirements.”
While codes of ethics have long been suggested as a way to reduce irresponsible corporate
behavior, many codes are neither clear nor operational. A laboratory experiment by Brief, et al.
(1996) found that a code of ethics for financial reporting failed to reduce a high rate of
fraudulent accounting because it was vague. Also, it did not involve an attempt to change the
roles of the participants. Codes might be effective if they reinforce the role of long-term profit
making subject to satisfactory treatment of the other stakeholders and if they are supported with
stakeholder accounting. Nothing further should be added, as this would cause confusion.
Some experimentation has been done to assess the effectiveness of changing the roles of
managers. Armstrong (1977) conducted an extension of the Milgram experiment by using an
actual case faced by Upjohn, a pharmaceutical company. The company was facing the potential
ban of one of its drugs, Panalba, by the U.S. Food and Drug Administration (FDA). After much
study, a scientific panel concluded unanimously that the drug had serious side effects that led to
unnecessary deaths. The benefits of Panalba were available from other drugs that did not cause
fatalities. The Upjohn board of directors decided to use available legal means to delay a ban
and to continue selling Panalba. This description was drawn from Mintz (1969).
In the original experiments, participants played the role of one of seven Upjohn board
members. After receiving background information on the case, the role players were asked to
choose from one of five responses to the potential banning of the drug by the FDA. The five
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possible responses ranged from immediately removing the drug from the market to taking steps
to keep the drug on the market.
Thirty-three faculty members conducted this experiment with 319 groups of subjects
from ten countries between 1972 and 1977. The 57 control groups received no information
on responsibilities. None of the control groups decided to remove Panalba from the market and
79 percent took the same action as Upjohn: “Continue efforts to most effectively market
Panalba and take legal, political, and other necessary actions to prevent the authorities from
banning Panalba.” This decision was classified as irresponsible by 97 percent of a convenience
sample of 71 respondents similar to the subjects who had participated in the experiments.
Interestingly, subjects in the control group were bothered by their decisions, as had occurred in
the Milgram experiments, yet in the follow-up questionnaire 90% of the subjects were unaware
that the experiment dealt with irresponsible behavior.
Because roles exert powerful influences on decision-making, a treatment was devised as an
attempt to modify subjects’ perceptions of their roles so that they would feel responsible to all
of the firm’s stakeholders. To that end, some subjects were told that Upjohn’s board had passed
a stakeholder-role resolution in 1950 stating,
The Board’s duty was to recognize the interests of each and every one of its
interest groups or stakeholders. The stakeholders are those groups that make
specific contributions to the firm. Thus, the board is to consider the effects of
decisions upon employees, creditors, stockholders, customers, suppliers,
distributors and the local community. Furthermore, the board should consider
only its own stakeholders in making decisions. It shall not attempt to serve the
common good or society in general. (All of the current board members are well
aware of this policy statement.)
In another treatment designed to further emphasize the stakeholder role, the above
description was provided to a Board that was comprised of three representatives of
stockholders and one representative each of the local community, suppliers, consumers, and
employees (stakeholders). The stakeholder roles were provided to the subjects before they read
the materials, so that they would read the materials in-role.
The effects of the two stakeholder treatments were modest. This was expected due to the
fact that profit was the only criterion measured. Decision-makers pay little attention to
unmeasured criteria (see, e.g., Slovic and MacPhillamy, 1974). To reinforce the stakeholder
roles, another experimental treatment was introduced, this time with “stakeholder accounting.
The subjects received information on the impact of the decisions upon stockholders,
employees, and customers. Under the stakeholder accounting treatment, the percentage of
highly irresponsible decisions was reduced to 23 percent when the participants were told that
the Board agreed with the stakeholder role for directors, and to 22 percent when the Board was
composed of stakeholder representatives. The socially responsible decisions went from none
under the control condition to 12 percent when the board adopted the stakeholder view to 29
percent when the board was composed of stakeholder representatives (Armstrong, 1977).
In an extension of the Panalba experiment by King et al. (2010), subjects first considered the
situation and reported the decision they would make as private individuals. They were then
assigned to stockholder roles. The proportion of socially irresponsible decisions by
stockholders was lower when they had made the individual out-of-role decision first.
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Computer, rather than face-to-face, interactions also reduced the proportion of socially
irresponsible decisions, presumably by reducing group pressure to conform to traditional roles.
A widely studied quasi-experiment on stakeholder management of companies has been
going on since 1956. It involves more than 250 companies employing almost 100,000 people in
the Mondragon cooperative in Spain. Employees own the firm, although not all employees are
owners. The board of directors represents all stakeholders. Statistical analyses by industrial
economists conclude that these cooperatives perform well in comparison to other Spanish
companies that produce similar goods (Arando et al. 2010).
International welding business Lincoln Electric promotes the stakeholder role in the firm’s
Code of Conduct. The 52-page code includes a non-retaliation policy in order to encourage
reporting of ethical issues, and the firm provides Compliance Hotlines in 24 countries and an
Internet page for reporting. The code includes the following questions for employees:
Question Three: How would it be perceived?
This question brings into focus the consequences of your decision for both you and
for Lincoln. It is worth asking: How will this decision affect my reputation and that of
the Company? How would I feel about my decision if it were reported on the front
page of the newspaper? Would I be comfortable if my family and friends knew I made
this decision?
Question Four: Is it fair to all stakeholders?
Ethical decision-making demands that you take into account the effects of your
decision on customers, suppliers, employees, shareholders and the wider community. It
is important to widen your ethical lens and think about whether the situation or action is
consistent with our ethical commitments and if it is fair for everyone concerned. Who
has an interest at stake in the situation, and how significant is it compared to others?
Who will be helped or hurt by your decision? (Lincoln Electric 2009, p.78.)
Other successful companies, such as BB&T, Southwest Airlines, WalMart, and Whole
Foods Corporation, base their conduct on stakeholder theory as well.
7. Conclusions
No agreed definition of corporate social responsibility exists, and such agreement may be
impossible to achieve. Social responsibility to some people is irresponsible to others. Views on
what is socially responsible change over time. It is not enough that some people think today
that some firms should behave in ways that they regard as more socially responsible. It is
necessary to provide evidence that proposed changes would increase welfare in practice, and to
provide a compelling argument that proven benefits justify any reduction in freedom. To date,
this appears not to have been done. Actions promoted as socially responsible that are forced or
subsidized suppress the free expression of the needs and concerns of buyers and the efforts of
sellers to satisfy them. Suppression of free market activity tends to reduce the total welfare of
society. With economic theory, experimental evidence, and individuals’ preference for freedom
of choice all against government regulation, there is no obvious need for further research on
regulation in the name of social responsibility.
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Voluntary CSR initiatives, on the other hand, can increase welfare. When buyers and sellers
are free to make their own decisions, the CSR movement can help firms identify opportunities
for increasing profits by providing benefits to customer and other stakeholders. Many firms
recognize the marketing opportunities associated with CSR. Experimental research might help
to choose CSR initiatives that would be effective for firms and their stakeholders.
Corporate social irresponsibility occurs when a manager makes a decision that is either (1)
unethical in terms of a manager’s personal values, or (2) inferior to other options when
considering the effects upon all parties. Avoiding such decisions will likely be consistent with
the values of most owners and with their objective of long-term profit maximization. As a
consequence, owners and their mangers are likely to welcome methods that can help them to
prevent social irresponsibility.
Based on experimental research to date, one method that could help to prevent
irresponsibility is to change the roles of firms’ managers in such a way that they strive to
maximize long-term profitability subject to fair treatment of their stakeholders. Stakeholder
accounting and management support seem important for the success of such initiatives.
Descriptions of socially responsible roles could be used as the basis of a firm’s code of ethics.
While there is a need for more experimental studies to learn about the costs and benefits of
these proposals for reducing corporate social irresponsibility, many firms have already
implemented some of these proposals with apparent success.
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