Why German Corporate Boards Include Workers
(Bloomberg Opinion) -- U.S. Senator Elizabeth Warren unveiled legislation last week that would, among other things, require large American corporations to let employees elect 40 percent of their boards of directors. This evoked some fun reactions. At Vox, Matthew Yglesias wrote that Warren’s proposals could “save capitalism.” At the National Review, Kevin Williamson described them as “the largest seizure of private property in human history.”
Wherever on that spectrum your views lie, it does seem important to acknowledge that one of the world’s most successful capitalist nations, Germany, currently requires 50 percent employee representation on the supervisory boards of large corporations, and that most countries in the European Union now also encourage or require some such form of employee “co-determination.”
Which got me wondering. How did German corporations end up giving all those board seats to employees? (I also wondered why we haven’t ever done that in the U.S., but after writing 1,200 words on Germany I decided to leave that for my next column.)
The short answer is that in the aftermath of World War II the managers and owners of Germany’s large industrial concerns were discredited, with some headed for trial in Nuremberg as war criminals, while the country’s trade unions, which had been banned by Adolf Hitler in 1933, were considered by the Allied occupying forces to be free of Nazi taint. The most heavily industrialized part of the country was in the hands of the British, who were in the process of nationalizing several major industries back home and were inclined to do the same in Germany. Having experienced de-facto nationalization under the Nazis, though, the leader of the union movement in the British zone — seventysomething former metalworker and Social Democratic politician Hans Böckler — pushed instead for negotiated deals with company owners to give workers equal board representation. Greatly preferring this to nationalization, several big iron and steel concerns in the British zone assented.
It helped that German businesses and workers already had some experience with co-determination. It had been a major if inconclusive topic of debate at the country’s first democratic assembly, the short-lived Frankfurt Parliament of 1848 and 1849, and in subsequent decades German business owners experimented with various systems to give workers a voice in company affairs, mainly in the form of employee-chosen “works councils” that deliberated over workplace conditions. In 1916, wartime labor shortages led to a law that required every adult male in the country to work but also required employers of 50 or more to institute works councils. At the Great War’s end, unions and employer groups agreed to make the councils permanent. This was ratified into law in 1920; a year later the Weimar government followed up with a requirement that workers get one or two seats on company supervisory boards, depending on board size.
Then as now, German corporations had managing boards made up entirely of top management and supervisory boards that exclude top management, and many companies reacted to the board-representation law by downgrading the role of the latter, reducing meeting frequency and sometimes shortening meetings to 15 minutes. Employers’ acceptance of works-council input also waned over the course of the 1920s, and in the 1930s many businesses supported the Nazi government’s moves to shut down first the labor unions and then the works councils.
After the war, attitudes were different. West Germans elected their first government in 1949, and Christian-Democratic Chancellor Konrad Adenauer soon moved to make co-determination the law of the land for companies in the coal, iron and steel industries (for which the Germans of course have a single word, “Montanindustrie”) with more than 1,000 employees. That legislation was enacted in 1951. A year later another law decreed that large companies in other industries had to let employees choose one-third of board members. As British legal scholar Ewan McGaughey argues in his 2015 paper “The Co-Determination Bargains: The History of German Corporate and Labour Law,” the best single (and paywall-free!) source I have found on the subject, this second law was not so much a forward step as an attempt by the center-right government to stave off universal 50/50 co-determination.
In the 1960s, the union movement renewed its push for full co-determination. Business leaders were vocally, often histrionically opposed — the left-leaning Der Spiegel ran a cover story in 1968 ironically titled “Co-Determination: End of the Market Economy?” — but the mostly positive experience of the iron and steel industry and the election in 1969 of Germany’s first Social-Democratic chancellor since 1930 (Willy Brandt) eventually led to the Co-Determination Law of 1976, which requires almost all German firms of more than 2,000 employees to have half their supervisory boards chosen by employee vote.
In a 1979 paper that hasn’t aged well, American economists Michael Jensen and William Meckling — the scholars probably most responsible for the widely held belief in the U.S. that the sole role of the corporation is to maximize shareholder returns — predicted that the new German law would turn out to be either irrelevant, as weak and divided worker representation allowed shareholders to continue to exercise “complete control over the affairs of the firm,” or transform the German economy into a “Yugoslav-type system” characterized by underinvestment, stalling growth and heavy government interference.
Neither happened. German corporate governance is markedly different from the Anglo-American variety, with German companies seemingly placing more weight on worker concerns like job security and less on short-term shareholder value maximization. But the German economy hasn’t stalled; in fact, the country’s annualized growth in real per-capita gross domestic product since 1976 (1.8 percent) has been a smidge faster than that of the U.S. (1.7 percent).
That’s just a smidge, mind you, and given that per-capita GDP was and is more than 10 percent lower in Germany than in the U.S., one could argue that the country’s failure to close the gap more is a mark against it. Germany has also failed in recent decades to spawn brand-new world-beating corporations in the way that the U.S. has. Then again, Germany has a higher employment-population ratio and life expectancy, and lower income inequality, than the U.S. — not to mention a national government debt of 64 percent of GDP and falling, compared with the U.S. debt that is 105 percent of GDP and rising. All in all, it seems that while there may not be enough evidence to declare Germany’s experiment in co-determination a capitalism-saving success, there’s even less cause for terming it a property-seizing disaster.
One interesting note in the 1979 Jensen-Meckling paper is that the authors portray the German system of corporate governance as artificial and the American one as natural:
We infer from what is going on in Europe that industrial democracy can only be brought into being by fiat. … The fact that this system seldom arises out of voluntary arrangements among individuals strongly suggests that codetermination or industrial democracy is less efficient than the alternatives which grow up and survive in a competitive environment (i.e., one where organizational alternatives are on all fours legally).
Ewan McGaughey, in the paper I’ve already cited, argues that this is an inaccurate description of what transpired in Germany, given that voluntary co-determination agreements often preceded legislative dictates. My reading of the history of worker input in the U.S. indicates that “a competitive environment ... where organizational alternatives are on all fours legally” is also an inaccurate description of how corporate governance evolved here in the U.S. But that’s the next column!
This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.
Justin Fox is a Bloomberg Opinion columnist covering business. He was the editorial director of Harvard Business Review and wrote for Time, Fortune and American Banker. He is the author of “The Myth of the Rational Market.”
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