A social-contract approach to sustainability

A social-contract approach to sustainability Giuseppe Danese∗ August 20, 2015

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Giuseppe Danese, CEGE and School of Economics and Management, Universidade Cat´olica Portuguesa, Centro Regional do Porto, Rua Diogo Botelho 1327, 4169-005, Porto, Portugal. E-mail address: [email protected].

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Abstract The equitable treatment of future generations is one of the key ethical challenge of our times. The management disciplines have long discussed how firms can contribute to the agenda of sustainability, whereby contemporaries consider the impact of today’s decisions on future generations. In this paper I propose an account of sustainability based on the idea of a social contract (SC) between the firm and its (present and future) stakeholders. I argue that if the SC is to provide guidance regarding the duties managers owe future generations of stakeholders then the SC needs to be amended to take into account that: 1) specific investments to the firm are provided over time; 2) the relationship between contemporaries and future generations is marked by asymmetries of power and knowledge. I propose six possible reformulations of the SC, including a grand assembly of all generations; and viewing the contractors in the original position as family lines. The reformulation I defend views the social contract as a nonhistorical (i.e. free from references to a specific stock of natural resources), hypothetic agreement reached behind a thick veil of ignorance among the current stakeholders . This agreement is based on the norm of reciprocity, whereby decision makers adopt the decision they wish all previous (and future) decision makers had made regarding the rate of consumption of natural resources and the rate of emission of pollutants.

Keywords: Social Contract, Sustainability, Reciprocity, Future Generations, Original Position, Veil of Ignorance.

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Introduction

The equitable treatment of future generations is at the centre of the agenda of policymakers and NGOs. This is hardly surprising considering the mounting evidence that our actions today have the potential to interfere with the welfare of future generations through climate change associated with increasing anthropogenic emissions. Among the many functions that companies perform in a market economy, their role as emitters of pollutants and as consumers of natural resources is of particular interest to this paper. Firms, a term by which I refer to large business companies managed by a dedicated team of people, typically make decisions regarding input choices, including natural resources, and are involved in decisions regarding the amount of emissions the company produces as a byproduct of the processes of production of goods and services (cf. e.g. Shrivastava 1995). Heede (2014) finds that 90 companies (50 of which investor-owned and the rest under state control) caused 63% of man-made emissions between 1751 and 2010. About half of these emissions were produced since 1986 – a clear sign that corporations are increasingly responsible for emissions. This probably explains why sustainability, the term that is employed since the publication of the Brundtland Report (WCED 1987) to refer to the problem of the equitable treatment of future generations, is a topic of central importance to business ethicists and to this journal (cf. e.g. Fox et al. 2010). The decisions of companies regarding the rate of emissions are typically constrained by environmental policy, with its mix of standards, emission permits and carbon taxes. Even recognizing the crucial role of environmental policies in any sustainability agenda, as witnessed e.g. by the struggle for a global deal on carbon emissions (cf. e.g. Stern 2007), the individual agency of managers in deciding the rate of emissions and the kind of technologies the firm will adopt grants room for a discussion of the managers’ contribution to the agenda of sustainability. Throughout this essay I analyze sustainability, from the point of view of firms, as a

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corporate governance question which forms integral part of a society’s ability to realize the demands of justice – in particular justice among generations. Sustainability in this paper is discussed as part of a wider discourse on the crucial question of “To whom are corporate managers trustees? ”, a question first asked by Dodd (1932). The governance structure of the firm, which crucially includes what kinds of safeguards the firm grants to different categories it interacts with, is largely determined by this foundational question regarding the “maximand” (Licht 2004), or objective, of the firm. According to the proponents of the shareholder primacy norm, those who take the relevant decisions in the corporation act as agents of the shareholders (cf. e.g. Fama and Jensen 1983; Jensen and Meckling 1976). Of a different opinion are stakeholder theorists, who argue that corporate managers should behave as trustees, or fiduciaries, of all legitimate stakeholders and should create reliable safeguards for their investments (c.f. e.g. Sacconi 2006). This dispute can be taken to an intergenerational level where we ask whether corporate managers should behave as trustees of stakeholders operating only at the present time (perhaps the current shareholders only), or whether they should behave as trustees of future generations of stakeholders as well. Much in the same way in which stakeholder theories face the problem of justifying obligations to the present-time stakeholders, any theory, like the one presented in this paper, that argues in favor of obligations to future stakeholders must show at the very least that contemporaries have a substantial ability to affect the welfare of future generations. The challenges of our age and in particular the problem of anthropogenic climate change provide a grand-scale exemplification of the ability of contemporaries to impose costs on posterity. The ability of the present generations to impose costs on posterity and the fundamental role played by firms in contributing to these costs powerfully motivate an analysis of the contribution of firms to any sustainability strategy, intended as a corporate governance question that must be dealt with at the level of design of a society’s fundamental, exchange-enabling institutions, what philosopher John Rawls called the basic structure of 4

society. Jeurissen and Keijzers (2004), in this journal, were among the first to argue that we have a moral responsibility to future generations. The need to come up with a detailed list of stakeholders that are identifiable by “names and faces” (McVea and Freeman 2005; cf. also Parmar et al. 2010, Chapter 8)1 , is, however, a persuasive reason not to examine the duties of corporate managers to all members of future generations. This seems too broad and undetermined an objective to prove useful in the design of a firm’s governance structure. Rather, the narrower question I address here is whether the design of the firm’s governance structure should incorporate not only a concern for today’s stakeholders of the firm, but also a concern towards those who will inherit the title of stakeholders in the future, like future consumers, future workers and future communities that will live in the physical environment in which the firm carries out its operations. I propose to address the concern for the interest of future generations of stakeholders within a framework that explicitly considers the firm’s constitutional, and constitutive, process, i.e. social contract ethics. This approach was pioneered in business ethics by Donaldson and Dunfee (1999) and Sacconi (2000). Lorenzo Sacconi’s (Sacconi 2006, Sacconi 2007) modelling of the hypothetical bargaining process leading to the decisions of present stakeholders to create the firm represents the starting point of my analysis of sustainability. This paper achieves two results. First, it points out that decisions taken in accordance with the social contract between the firm and its (current) stakeholders typically have an impact on future generations, as they imply a rate of emission of pollutants ands a rate of consumption of natural resources. Second, I present six conceivable, but not all equally defensible, reformulations of the social contract that are able to generate duties to future generations (or a subset of future generations, i.e. our immediate descendants). The approach 1 I use the word stakeholder to refer to any “identifiable group or individual who can affect the achievement of an organization’s objectives or who is affected by the achievement of an organization’s objective” (Freeman and Reed 1983, p. 91), where the organizations in question are large private business organizations.

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based on a nonhistorical (i.e. free from references to a specific stock of natural resources) social contract, along the lines of the social contract described by John Rawls in Political Liberalism, seems to be the one that is most coherent with the methodology of social contract ethics and the one that appears less cognitively burdensome for those engaging in this exercise in simulation that is the social contract, i.e. those entrusted with designing the governance structure of the firm (typically, directors and officers, whom I collectively refer to as “managers”2 ). The nonhistorical agreement reached behind veil of ignorance acts as a source of justification for the claim that the governance structure of the firm should create all the necessary pre-conditions to avoid an unsustainable use of resources and an unsustainable rate of emission of pollutants. The norm that is singled out in the nonhistorical social contract is reciprocity, whereby one decides about the rate of consumption of natural resources in the same way one wishes all previous/subsequent generations had chosen. No work up to now has explicitly discussed an approach to sustainability based on the idea of a social contract between the firm and its stakeholders. This paper tries to fill this void, by asking, in a nutshell, whether the social contract has anything to say about sustainability. The answer is a definite yes if one looks at the work of great social contract theorists such as David Gauthier and John Rawls. In this paper I try to analyze the connection between the social contract and sustainability with particular reference to a large managerial organization. This paper makes use of the rational (hypothetic) agreement methodology, a defining feature of social contract ethics. Social contract ethics is a theory based on the “idea that human interaction and association should be guided and constrained only by those norms and institutions that freely consenting agents could and possibly would agree to if they had the choice” (Van Oosterhout et al. 2006, p. 522).3 Although sustainability has been 2

Cf. e.g. section 141 (a) of the Delaware General Corporation Law, stating that: “The business and affairs of every corporation organized under this chapter shall be managed by or under the direction of a board of directors”. 3 In this paper I employ the expression “social contract” instead of the terms “contractarianism” and “contractualism” (Barry 1989). Contractarianism is the brand of social contract ethics associated to the

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analyzed within different philosophical traditions, i.e. the utilitarian and the Aristotelian4 , the rational hypothetic agreement framework dispenses us with specifying community- and observer- specific features as part of the process of justification of our duties to posterity. I start in the next section with an overview of the concept of “sustainability” of decisions, a notion that motivates the analysis in this paper.

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Sustainability

Sustainability is a catchword that is often employed in connection to the duties we owe posterity. In an often-quoted passage, the World Commission on Environment and Development (WCED), chaired by Norwegian ex-prime minister Gro Brundtland (the Brundtland Report) defines sustainable development as follows: “development that meets the needs of the present [generation] without compromising the ability of future generations to meet their own needs” (WCED 1987, p. 43). Sustainable development implies a weighing of present needs against those of future generations (Postma 2002, p. 44), with the aim of “minimizing our interference with the lives of future generations” (id. at 47), what Postma names a negative-morality approach5 . A typical requirement of sustainability is that future generations of stakeholders should be entitled to a level of welfare that is not lower than the one of the present generation. This can be viewed as a basic tenet of intergenerational justice: any theory postulating that future generations of stakeholders deserve a level of welfare lower than the one we enjoy idea of a mutually advantageous agreement. Contractualism is the brand stressing instead the impartiality of the agreement. As shall be illustrated in the paper, in the Rawlsian approach the two approaches are reconciled under the notion of “reciprocity”. 4 Pontara (1995) and de Shalit (1995) discuss how these different Western philosophical traditions accommodate the theme of sustainability. 5 This focus on the needs of future generations of stakeholders has been criticized by Sen (2011) (p. 250251), according to whom we should focus instead on the freedoms of future generations of stakeholders. Solow (1986) talks instead about standard of consumption/living over time.

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today would be deemed as morally unacceptable on purely intuitive ground6 . The contemporaries are in a privileged position to influence the welfare of future generations. Barry (1977, p. 273) describes the relationship between the contemporaries and future generations as characterized by an asymmetry of power and knowledge. The first asymmetry arises from the fact that the future generations of stakeholders advance their claims in absentia. The second asymmetry refers to the fact that we do not wish to impose preferences on future generations of stakeholders, as we are unable to fully empathize with them. In this regard, Barry observes, rather convincingly, that “we don’t know what the precise tastes of our remote descendants will be, but they are unlikely to include a desire for skin cancer, soil erosion [...] And, other things being equal, the interests of future generations cannot be harmed by our leaving them more choices rather than fewer” (id, p. 247). Singer (2011, p. 243) notices also that societies seem to increasingly value wilderness and nature as they become richer. Therefore, an argument against equity towards future generations on the grounds that we lack knowledge about future generations’ preferences seems weak at best. In a recent contribution, critical of Richard DeGeorge’s claim that “what does not exist now cannot now have rights...”, Nickel (2015) presents a compelling case for the rights of future persons, claiming that we can come up with a set of duties, albeit “imperfect” ones, asking us not to bequeath a to the next generations a planet in severely depleted conditions (cf. also Tremmel 2009, pp. 47-63). Although no specific reference has been so far to the business firm as an actor of sustainable development, it is probably uncontroversial in light of the data quoted in the Introduction that any discourse on sustainability needs to involve firms. Authors such as Steurer et al. (2005) append the adjective Corporate to Sustainability, to underline the contribution 6

One can typically find ground in favour of greater weight placed on the contemporaries’ welfare and ground for a positive discount rate of future welfare levels based on the expectation of technological improvements we expect to arise in the future. Cf. Stern (2007), in particular Chapter 2, for an introduction to the complex topic of discounting.

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of firms to this agenda. Building on the Brundtland report definition, this literature describes how the firms can adopt strategies “that meet the need of the enterprise and its stakeholders today while protecting, sustaining and enhancing the human and natural resources that will be needed in the future” (cited in Steurer et al. 2005, p. 274). In the next section I narrow the scope of the present enquiry to business organizations characterized by the presence of many different stakeholders. I do so with particular reference to the view of the firm as a hypothetical “contract” among the stakeholders, and among the stakeholders and the firm – the social contract.

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The social contract

The social contract (abbreviated as SC) tradition in political philosophy starts with key works by Hobbes (1651) and Rousseau (1762) and it has found a revival in the last 50 years thanks to the work of John Rawls (cf. Section 4). The distinguishing features of the SC approach are essentially two: 1. Norms are the result of a process of rational, hypothetic contracting among the interested parties. This force-free, voluntary process of contracting acts as a source of justification for the principles developed using this methodology. Scholars such as Rawls (1971)7 and Nagel (1989) have stressed the importance of adopting impartial viewpoints while contracting, an idea that his its roots in Adam Smith’s Theory of Moral Sentiments, where Smith (1759) discusses the notion of an “impartial spectator”. 2. The compliance with the principles of justice depends on the mutual advantage of the parties, an aspect stressed by the contractarian tradition that finds its most celebrated 7

On different types of justifications in Rawls, cf. Doorn (2010) and references cited therein. The type of justification we are interested in here applies to the principles of justice chosen in the original position. Cf. Section 4.

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modern interpreter in David Gauthier (Gauthier 1986); or on the desire to find terms that other similarly-motivated individuals would find reasonable to consent to (Scanlon 1998), what is usually known as a contractualist approach.

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The social contract of the firm

The works of Lorenzo Sacconi illustrate the methodology of the social contract for the problem of choice regarding the governance structure and the objective of the business firm (Sacconi 2006; Sacconi 2007). In his works Sacconi describes two social contracts. The first social contract (or pactum unionis) is an hypothetic bargaining situation among the stakeholders where force and fraud are not allowed and every stakeholder has the ability to drop out in case the agreement leaves him/her worse off than the status quo. The first social contract is a constitutional, hypothetic, agreement which the stakeholders reach among themselves to set up a generic “union”, once they recognize that the cooperation with other stakeholders is beneficial8 . The second social contract (or pactum subjectionis) is an agreement about the governance structure of the organization. Its main content is that the governance structure of the organization, which includes also specifications regarding the corporate objective function, has to be coherent with the first social contract. The stakeholders agree to accept the authority of the manager, or of the owner/manager in a closely-held corporation, only if the managers respect the following provisos: 1. A narrow fiduciary proviso: The owners who directly manage the firm or appoint the corporate managers are remunerated with the maximum residual revenue possible. 8

Phillips (1997), in this journal, was among the first to notice that typically the production of the cooperative surplus of the firm requires some form of effort exertion on the side of the stakeholders. The view of the stakeholders as cooperators in the production of a surplus implies according to Phillips a revision of the antagonistic view of the firm, in which parties compete for a share of the surplus and a move to a view of stakeholders as “partners”.

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However, all other stakeholders will accept the owners’ direct (or delegated) authority only in the presence of a further, extended, fiduciary proviso. 2. An extended fiduciary proviso, articulated in two steps: • Towards the non-owners: the firm must abstain from activities that impose negative externalities on constituencies that do not take part in the corporate activities, or compensate them so that they remain neutral. Furthermore, the firm must remunerate the stakeholders participating in the activities of the firm with payoffs which, taken for granted a fair status quo, are tied to the firm’s economic performance. The aim is to approximate the benchmark of fairness in distribution chosen under the pactum unionis; • Towards the owners: the firm must remunerate the owners with the maximum residual, compatible with the fair remuneration of the specific investments made by all other stakeholders. The corporate objective that descends from these hypothetic agreements according to Sacconi (2006) is not the exclusive pursuit of any one stakeholder’s interest; rather, the corporate manager faces a hierarchy of goals that can be ordered from broadest to narrowest: • Goal 1: Minimize the negative externalities that affect individuals or groups of individuals who do not participate in the transactions of the organization; • Goal 2: Devise the appropriate corporate policy that distributes the surplus in an equitable manner according to Nash’s cooperative solution9 . 9

Cf. Sacconi (2006, pp. 266-271) for details about this axiomatic solution concept for cooperative games. Roughly, Nash’s solution ensures that the bargaining parties obtain at least the utility they attain in the “disagreement point”, i.e. the payoff that they would obtain had they abstained from entering the firm. Furthermore, the solution distributes the advantages of cooperation in proportion to the relative needs of the players.

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• Goal 3: Within this subset of admissible policies, the corporate manager should maximize the value of the shareholders’ investment. Very broadly, these objectives can be viewed as part of an attempt, which can be traced back to John Rawls’s “difference principle” (Rawls 1971, p. 65 and ff.) asking us to maximize the welfare of the worse-off individuals, to create governance structures that ensure safeguards for those who are likely to be worse off. Those who do not participate in the transactions of the organization, but still face negative consequences as a result of the firm’s activities, are probably the weakest category. In the absence of the elimination of these externalities, or of a compensation for them, these categories will bear costs without receiving any benefit. Goal 1 tries to create safeguards for these categories. Sacconi (2006, p. 275) claims that Goal 1 implies the “rejection of shared plans of action which generate negative externalities for those not participating in the cooperative venture or, if these negative externalities are essential for the production of the cooperative surplus, a compensation of third parties so that they are rendered neutral”. Sacconi’s statement of Goal 1 leaves two questions open. The first is whether future generations participate in the formation of the cooperative venture. This seems not be the case in the current formulation of the social contract. To be consistent with Sacconi’s analysis, the pactum unionis needs to be an assembly of contemporaneous stakeholders. If instead it was the case that future generations of stakeholders participated in the formation of the hypothetic agreement, this would open the door to a set of questions that also deserve attention. Goal 2, asking managers to maximize the surplus, would have to become a sum of present as well as future surpluses, a summation that would have to be truncated either by assuming a finite number of generations, or a discount rate. Both issues, how many generations we are willing to consider and discounting, are moral questions in themselves, which have been discussed extensively in the sustainability literature (cf. e.g. Asheim 2010, Stern 2007). 12

The second question is, if an externality is essential, can we find a compensation to render future generations neutral? We have already pointed out that the present generation is likely to face asymmetry of knowledge in this regard, i.e. we do not know what the preferences of the future generations are. The ability of the present generation of stakeholders to influence the future generations of stakeholders can be made even more exact by analyzing the interdependence between the hypothetic bargaining problem among the stakeholders today and the hypothetic bargaining problem among future stakeholders. This interdependence, in the framework of bargaining among stakeholders `a la Sacconi, takes two specific forms: 1. Nash’s solution to the bargaining problem among the stakeholders depends on the “disagreement point”, the utility that the ideal contractors obtain if they fail to reach an agreement. This “reservation utility” is not guaranteed to be always the same over time, due to historical and technological considerations. The state of the physical environment also probably influences this point, a point that directly brings into question decisions we take today regarding the use of the environment. 2. The utility space within which a solution to the game among the stakeholders is to be found might shrink as a result of environmental damage, and anthropogenic climate change in particular. This consideration does not imply in itself that some duty exists upon the contemporaries to keep the bargaining space constant over time, an operation that might well turn out to be possible due, e.g., to technological change and population increases. Rather, the effect of present decisions on the shape of the future generations’ bargaining space is an exemplification of the ability of the present generation to interfere with posterity. The above discussion has hopefully provided enough evidence in favour of my thesis that the social contract, in its currently most advanced formulation in Sacconi’s works, does not 13

provide sufficient guidance to managers regarding the fair treatment of future generations of stakeholders. Decisions taken in accordance with the social contract will determine a decision regarding the level of emission of pollutants and the rate of consumption of natural resources. The social contract has an ecological footprint 10 . The inadequacy of the social contract, in its current formulation, to address the problem of our duties to posterity is most likely due to two specific aspects having been understudied. The first aspect, already discussed, relates to the specific features of the relationship between contemporaries and posterity, a relationship marked by asymmetries of power and knowledge. The second aspect relates to the view of the firm that underlies the social contract, an aspect I turn to in the next section.

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The firm as a stream of investments

The firm that the stakeholders establish in Sacconi’s model is a static nexus of firm-specific investments. The term nexus originates in another, competing account of the firm as a “nexus of contracts” (cf. Jensen and Meckling 1976 in management, Alchian and Demsetz 1972 in economics, and Easterbrook and Fischel 1989 in corporate law). This view of the firm, that has had a pervasive role in studies of the firm in management, finance, economics and corporate law, argues in essence that all nonshareholder constituencies are indifferent as to the choices taken by the shareholders, or by their fiduciaries, given that they are protected in every possible state of the world by a contract. The only category whose contract is incomplete, concerning the payout at least, is the shareholders, who are remunerated with the residual. An alternative tradition in economics, management and corporate law views instead the 10

Hart (1995) discusses the notion of “management of the organizational ecological footprint”, listing under this heading activities such as as pollution prevention (“minimize emissions, effluents and waste”, p. 992), product stewardship (guidance as to the “selection of raw materials and [...] product design with the objective of minimizing the environmental impact of product systems”, p. 996) and “sustainable development”, defined here as “minimizing the environmental burden of firm growth and development” (p. 992).

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firm as a nexus of relationship-specific investments (cf. Grossman and Hart 1986, Rajan and Zingales 1998, Blair and Stout 1999, Sacconi 2000), pointing out that: 1) it is typically too-costly, or cognitively too burdensome, to write complete contracts; 2) any allocation of rights to decide in un-contracted upon circumstances creates incentives (and disincentives); 3) the investments in the firm are typically relationship-specific, i.e. they cannot be easily employed or sold elsewhere (human capital investments such as on-the-job training are classic examples). In this paper I view the firm as a stream of investments. Much like in the nexus of investments view, I view the firm as a combination of mutually specialized assets and people (Rajan and Zingales 1998). It is crucial to notice, however, that these investments are not provided once and for all. The Delaware General Corporation Law at section 122 states that corporations: “Have perpetual succession by its corporate name, unless a limited period of duration is stated in its certificate of incorporation”. The fact that the law defaults corporations to have a perpetual duration might be a signal that the law expects corporate managers to consider the impact of their decisions on the survival of the firm, which is to say the existence of the firm for future generations of investors. For the purposes of this paper, rather than defining a generation as all those active today and born at a particular point in time, I define a generation as the stakeholders who are involved in an investment decision at a certain point in time and the corporate managers that distribute the surplus generated through the stakeholders’ investments. One can then view the next investment/distribution period as done by a new “generation” of stakeholders, that might partially overlap with the previous generation (as it happens with the conventional notion of generation, whereby members of different generations share a certain lapse of time). The view of the firm as a stream of investments provided by different generations of stakeholders challenges some of the remedies to opportunistic behavior that have been suggested in the literature, such as the threat of Courts’ intervention (Roe 1994) and authority 15

(Grossman and Hart 1986). Although in principle Courts could be asked to decide on cases in which stakeholders today challenge decisions that were taken in the far past as prejudicial to their interests, it appears far from clear whether those suing today enjoy legal standing to sue the corporation and its managers for decisions taken in the past. Regarding the attribution of the right to decide in un-contracted upon circumstances, the problem of abuse of such authority position (Dow 1987; Sacconi 2006) seems to apply both with respect to the original underwriters of the corporate contract, as well as to those who subsequently become part of that contract through equity market or employment transactions. The weakness of traditional remedies in creating safeguards for future generations of stakeholders calls for self-regulation measures capable of dealing with the challenge of the effect of our present decisions on posterity. Time is a dimension that is often absent form social contract accounts (cf. Attas 2008; also Arenas and Rodrigo 2014 who talk about “presentism”), which motivates an explicit addressing of the intertemporal dimension of any hypothetic agreement.

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The amended social contract

Bringing sustainability into the social contract between the firm and its stakeholders is a mighty task. It was John Rawls who noticed that intergenerational justice “subjects any ethical theory to severe if not impossible tests” (Rawls 1971, p. 251), a point also made recently by Arenas and Rodrigo (2014). In this section I discuss six possible reformulations of the pactum unionis. All these reformulations are, in theory, capable of generating obligations to Nature or to future generations. I propose to evaluate each reformulation along two dimensions: Criterion 1 Any reformulation of the social contract ought to be coherent with the rational hypothetic agreement methodology of social contract ethics. 16

Criterion 2 The norm that is singled out in each reformulation ought to be reasonably “discoverable” by those entrusted with designing the governance structure of the firm, keeping in mind cognitive limitations and asymmetries of power and knowledge between the present generation and posterity. The contract needs to act as a source of guidance regarding which governance structures fulfill the terms agreed upon in the hypothetical contract. As argued in the Introduction, decisions regarding the rate of emissions and use of natural resources are corporate governance questions. In what follows I propose different norms arising from each single reformulation. These decisions specify how we should use natural resources, and how much we are allowed to emit. A related problem is which governance structures are likely to result in those decisions– an aspect I hope to address elsewhere. All of the different contracts presented are designed in an “original position”, using the methodology of John Rawls’s works. The original position was conceived by John Rawls as a way to adjudicate which theory of justice “specifies the most appropriate principles for realizing liberty and equality once society is viewed as a fair system of cooperation between free and equal citizens”(Rawls 2005, p.22). These principles shape what Rawls calls the basic structure of society, i.e. “a society’s main political, social and economic institutions and how they fit together into one unified system of social cooperation from one generation to the next” (Rawls 2005, p.11). The pactum unionis proposed by Sacconi is an application of Rawls’s original position methodology, even though while in pactum unionis the stakeholders explicitly bargain over the constitution of the firm, it has been suggested that the “bargaining” aspect is unnecessary to Rawls’s analysis, and a single decision maker adopting a neutral (or “Archimedean”) viewpoint would suffice to derive principles of justice (cf. Gaus and Thrasher 2015; Heyd 2009, p. 186 and references therein to Rawls). The bargaining (or “contractarian”) aspect is instead more visible in the works of social contract theorists such as Gauthier (1986) and Binmore (2005), as well as in the pioneering game17

theoretic approach to the firm of Aoki (1984). The fact that I propose the original position as a methodology to design the governance structure of the firm, including provisions regarding the treatment of future generations of stakeholders, requires an explanation. A rich literature in business ethics discusses whether corporate governance regulations and practices can be inserted within the institutions of the basic structure covered by the methodology that was developed by Rawls in his works (cf. Heath et al. 2010 and references cited therein; also Cohen 2010; Hsieh 2008; Mansell 2013). Another series of influential papers considers the firm as a political actor in a free-market and globalizing economy (N´eron 2010; Scherer and Palazzo 2007). Although the question of the boundaries of the basic structure remains open, and continues to attract attention in this journal (c.f. the recent important paper by Singer 2015 claiming that there is “no Rawlsian theory of corporate governance”), I shall point out some possible reasons in favor of an inclusion of corporate governance in the basic structure. The question concerning which institutions form part of the basic structure of society, which Rawls describes as institutions that distribute multipurpose “primary goods”11 , can only be addressed with reference to the specific features of our, highly corporate, age. Blanc and Al-Amoudi (2013) observe, in this journal, that traditional redistributive schemes such as the Welfare State have progressively weakened in the last forty years. If this is the case, corporate governance practices and regulations have de facto earned a legitimate role among the economic institutions that contribute to realize the demands of justice in society, a key motivator of John Rawls’s work. Firm in fact can be thought of as providers of key primary goods such as income, and work as providing a basis for self-respect– two instances of primary goods. 11

This is a composite basket of liberties, opportunities and economic commodities that are useful in any plan of life (cf. Rawls 1971, p. 54).

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This analysis carries to the problem of our interference with future generations. The argument is in two parts. First, the contemporaries have an ability to influence the availability of primary goods to posterity, with particular referencer to their liberties. Second, firms play a crucial role in contributing to emissions and using natural resources. The governance of a firm’s ecological footprint can be viewed then as a key institution of society, one that must be included in the basic structure. This contention does not imply that other corporate governance aspects, such as those concerning the involvement of workers in the Board, or outsourcing to foreign and less developed countries, cannot, or should not, also be considered part of the basic structure. This is a question that largely revolves around one’s definition of corporate governance and the limits one poses to what falls within its boundaries – a question that is not central to this essay. The inclusion of corporate governance rules and practices within the basic structure of society implies that the problem of the fair terms of exchange between contemporaries, and between contemporaries and posterity, that applies to all institutions of the basic structure, applies also to business organizations. Unlike in the approach followed by Lorenzo Sacconi, no explicit bargain happens between contemporaries and posterity in what follows. Although the bargaining process allows for the pinpointing of a clear objective function for the firm (the Nash bargaining solution, in the case of Sacconi), granting specificity about the “bottom line”, any such bargaining process would be hard to imagine in our case. This does not exclude that axiomatic and bargaining approaches to intergenerational justice cannot be developed (cf. for instance the essays in Roemer and Suzumura 2007). The road I take in this paper is rathe the pinpointing of norms that arise from different possible reformulations of the social contract. I turn now to the discussion of the six reformulations of the social contract.

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Proposal 1: an assembly of contemporaries In this reformulation, it is common knowledge among the contractors/stakeholders that all of them belong to the same generation. It has been pointed out that it would be optimal then to decide to exploit all resources available today, leaving no form of capital, natural or otherwise, for tomorrow (de Shalit 1995, p. 96). To the partial rescue of this approach, one might point out that the different stakeholders might belong to different age groups, or might envision becoming old, if they are currently young. The point was made by English (1977), who points out that even assuming that those in the original position know they are contemporaries, the saving rate will be positive, due the fact that at each time in history several generations coexist. Each contractor behind the veil of ignorance tries to maximize welfare over the entire expected lifespan, not knowing whether one will be “young”, “middle-aged” or “elderly”. Gauthier (1986, p. 299) presents a similar argument: the agreement is made between several (for convenience, three) generations living at the same time. Gauthier introduces the idea of “a chain of generations in which every three generations that exist at one and the same time form an agreement which is then passed on” (de Shalit 1995, p. 91). English also remarks that since the original position is a “device of representation” (cf. Rawls 2005, p. 27) rather than a physical place, “our simulating it today is compatible with our predecessors’ having done likewise” (English 1977, p. 96). The fact that those entering the original position at a particular point in time view each other as contemporaneous is therefore not logically at odds with a positive saving rate if one can assume a certain degree of likemindedness among the different generations of people “simulating” the original position. The norm12 that is singled out in this reformulation of the social contract is: Norm 1 Choose regarding the rate of consumption of natural resources and the rate of 12

I use the term “norm” in what follows in the sense of a maxim of behavior, with moral content.

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emissions in such a way that there is enough left for your reasonable lifespan. This reformulation of the social contract appears to pass Criterion 1, as it is coherent with the rational contracting methodology. It does not pass Criterion 2, as the norm it points to, entailing that we should only save for the duration of our reasonable lifespan, might appear unintuitive and even repugnant. This approach might in fact be consistent with decisions that produce negative consequences beyond the reasonable life-span of the contractors. The norm whereby one ought to save in such a way that there will be enough of a resource for the duration of one’s own expected lifetime appears motivated by saving-for-a-rainy-day considerations and by the desire to consume similar amounts of a resource over time, what economists refer to as “consumption smoothing” (Friedman 1956). Both these reasons have little to do with intergenerational justice, which is a subject matter left untouched by this approach. This is why this reformulation appears overall unsatisfactory.

Proposal 2: contractors as heads of families One alternative reformulation of the social contract views the contractors as good family men (or women), who take an interest in their offspring. John Rawls, in A Theory of Justice (abbreviated as the Theory) first proposed this argument, which became knows as the “family lines argument”. The Theory was path-breaking in first pointing out the need for a theory of intergenerational justice, and in particular of a “just savings principle” (Rawls 1971, p. 254). in Theory Rawls notice that: There is also, theoretically anyway, the question of a reasonable genetic policy. In these cases too, in order to carry through the idea of the original position, the parties must not know the contingencies that set them in opposition. They must choose principles the consequences of which they are prepared to live with 21

whatever generation they turn out to belong to (Rawls 1971, p. 119). The“reasonable genetic policy”13 derives from the procedural constraint we impose on the decision making process of the contractors in original position. Rawls notices that if the future generations are likely to be better off than the present one, thanks e.g. to technological progress, then behind veil of ignorance the decision-makers would not feel compelled to have a positive savings rate14 (Rawls 2005, p. 272n). To cope with the “genetic” difficulty, Rawls argues in Theory that the decision makers in the original position care about their immediate successors, behaving as family lines: We can adopt a motivation assumption and think of the parties as representing a continuing line of claims. For example, we can assume that they are heads of families and therefore have a desire to further the well-being of at least their more immediate descendants (Rawls 1971, p. 111). The norm that emerges from of this reformulation is: Norm 2 Choose regarding the rate of consumption of natural resources and the rate of emissions as a good family man (or woman) would. The family-line assumption has been criticized as ad hoc to justify our caring for posterity15 . The assumption implies in fact lifting the veil of ignorance in order to find out that one has children, a feature that must be common knowledge among the contractors, a violation of Criterion 1. 13

The word genetic derives from the Greek word gignesthai, literally meaning to be born. The genetic problem is concerned, among other things, with the particular time in history in which we live and its features, especially when it comes to natural resources available. 14 By savings, Rawls means a stock of physical and intellectual capital (Rawls 1971, p. 252). Rawls does not explicitly include natural resources into the pool of resources that can be spared and bequeathed, and hardly ever referred in Theory to the “environment” (cf. Pontara 1995, p. 79). One can probably include natural resources as part of the physical capital one bequests to future generations. Cf. also Jeurissen and Keijzers 2004, p. 60, and references cited therein, for a case in favour of including environmental capital among the types of capitals that can be saved. 15 Rawls himself recognized this in Political Liberalism (Rawls 2005, p. 20-21).

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The family-lines argument appears flawed even if one is willing to accept the ad hoc nature of the assumption. The biological literature has long discussed how the degree of kin relatedness determines the degree of altruism in intergenerational transfers, a principle that is often referred to as Hamilton’s rule (Hamilton 1964). Even assuming a generic caring for one’s own offspring (the next generation, a terminology suggested by Arenas and Rodrigo 2014), the horizon of this caring appears limited by biological considerations. In particular, we are likely to place more emphasis on our offspring and grandchildren, but the extent of this caring is bound to decline as we look further into the future. The family lines argument therefore imposes a discount rate on future payoffs that is of direct biological origin and which appears devoid of any moral foundation.

Proposal 3: contractors as stewards of Nature This reformulation is a variant of the family lines argument. All the contractors behave as stewards of Nature, recognizing our fundamental dependence on Nature for our survival and perhaps even viewing Nature as a manifestation of the Divine, as in a typical pantheistic account16 . The norm that emerges out of this reformulation is: Norm 3 Choose regarding the rate of consumption of natural resources and the rate of emissions in such a way that your pledge to honor Nature is realized. This alternative reformulation suffers from the same problems we encountered with the family lines argument: it makes an ad hoc assumption, in this case that the contractors care for Nature, in order to justify our concern for future generations. This approach does not pass Criterion 1 either. 16

On pantheism as a foundation for environmental ethics cf. e.g. Levine (1994) and Wood (1985).

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Proposal 4: Nature as a contractor A further possible reformulation views Nature as a party that contributes to the formation of the social contract. This approach recognizes Nature, i.e. the atmosphere, biosphere, hydrosphere and lithosphere, as a legitimate stakeholder of any agreement, allowing Nature therefore to partake in the formation of the agreement itself. Driscoll and Starik (2004) and Singer (2011, ch. 10) discuss the “deep ecologist” position according to which Nature, and in particular the biosphere, is valuable in its own right irrespective of any benefit humans derive from it. Any agreement that is chosen in this hypothetic situation would then incorporate a concern for Nature, if the hypothetic agreement is to be unanimous. The norm that is implied by this reformulation of the social contract is: Norm 4 Choose regarding the rate of consumption of natural resources and the rate of emissions in such a way that Nature itself would consent to it. The presence of the environment as one of the contractors requires, however, a radical departure from the way scholars throughout the centuries have conceived of the social contract, i.e. as an hypothetic agreement among citizens, or groups of citizens. Although appealing, then, this proposal appears inconsistent with any meaningful contracting process (against Criterion 1), which must occur among rational men and women.

Proposal 5: grand assembly of all contractors In this alternative reformulation of the social contract all the stakeholders belonging to all generations of human history, past, present and future, meet in the original position. To be coherent with the original position methodology, each contractor should not know to which particular generation he/she belongs too, provided that it is common knowledge that all generations are in fact being represented. The origins of this argument can be found 24

in Brian Barry’s work on intergenerational justice (Barry 1977), intended as a response to Rawls’s family lines argument. The grand assembly argument has several appealing features. The agreement, once reached, appears to have a strong moral legitimation: namely, the consent of all generations. The norm that is implied by this agreement is: Norm 5 Choose regarding the rate of consumption of natural resources and the rate of emissions in such a way that the representatives of all generations would consent to. Barry’s proposal is highly compatible with the original position methodology, satisfying Criterion 1. One can easily imagine that in an agreement to set up a governance structure for the organization, i.e. Sacconi’s pactum subjectionis, the extended fiduciary proviso that is necessary for all parties to consent to the authority of the owner, or of his/her delegate, would state that the manager is to behave as a fiduciary of all contemporary and future stakeholders. Using the terminology of Hohfeld (1920), a fiduciary duty is an an example of a legal claim. These are demands placed on subjects other than the right-holder. In this case, the right-holders are the stakeholders of all generations and the subjects upon whom fiduciary obligations are placed are the corporate managers. Fiduciary (or trustee) law typically states that “ At law a trustee, as the legal owner, may deal with trust property as his own”17 , implying that the manager ought to deal with the assets he administers in a disinterested fashion, in the interest of the rightholders. Even though the possibility of an agreement among the representatives of all generations is appealing, there seem to be doubts whether anybody woulds be able to simulate any such agreement, in violation of Criterion 2. The simulation exercise could be simplified by restricting attention to a finite and short number of generations. The choice of where to draw the line, i.e. how many generations we are willing to consider, seems however 17

McMahon v. New Castle Associates, 532 A. 2d 601, 604, Del. Ch. 1987.

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arbitrary. Furthermore, it remains unclear whether the assembly should include all the actual generations, or both the actual and the hypothetic generations (cf. Pontara 1995, pp. 81-89).

Proposal 6: a nonhistorical social contract According to this reformulation, the contractors in the original position have no information on the stock of natural assets and productive resources available to them when deciding. This formulation was originally proposed in Rawls’s Political Liberalism (Rawls 2005) and Rawls considered this formulation of the social contract the most coherent with his general rational contracting approach. The exercise in oblivion in the original position extends in fact easily both to the amount of financial resources one is endowed with, one’s own ethnicity and gender, one’s own age, as well as to the amount of natural resources that one has available in a particular point in time. Rawls viewed all these contingencies as the result of an historical accident. True impartiality requires the neglect of all these contingencies: the veil of ignorance is supposed to be thick, rather than thin, i.e. the parties are to conceive of each other only as moral beings, in a sort of “deliberative vacuum” (Rawls 2005, p. 273). Rawls points out that the norm of behavior that is singled out in this nonhistorical social contract is the norm of reciprocity (cf. also Section 5), which can be summarized as follows: Norm 6 Choose regarding the rate of consumption of natural resources and the rate of emissions in the same way you wish all previous and future generations of stakeholders had. Rawls introduces in fact reciprocity as the principle: which the members of any generation (and so all generations) would adopt as the one their generation is to follow and as the principle they would want pre-

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ceding generations to have followed (and later generations to follow), no matter how far back (or forward) in time (Rawls 2005, p. 274). In this reformulation of the social contract, considerations related to the time in which the contractors enter the original position, as well as to the presence of representatives of past and future generations, all lose relevance thanks to the “thick” veil of ignorance the contractors assume. This reformulation appears highly compatible with the general rational bargaining methodology (Criterion 1), blinding the contractors to a bigger set of features about themselves. It also appears clear in the exercise it asks the managers to carry out (Criterion 2), essentially an exercise in empathy with future generations (cf. further below). Notice that in this approach the natural environment does not play any explicit role, differently from Proposal 4. Environmental protection from the point of view of the firm emerges as a natural follow-up to the equitable treatment of contemporary and future stakeholders. The perspective of the stakeholders is thus privileged (as in Phillips and Reichart 2000), assuming a sustainability approach in that we consider future generations of users. Another important virtue of this approach is that it dispenses us from having to explicitly model an intergenerational agreement: notice in fact that the agreement still happens among a group of contemporaries, who find reasons to adopt a thick veil of ignorance. The “nonhistorical” nature of the contract does not imply that it must endure across generations unchanged, in a way that precludes the contractors from using any new information or scientific discovery. Rather, given that the original position is a device of representation, the nonhistorical contract reached by each generation of contractors will necessarily all imply a rate of use of natural resources and of emissions that is free from historical biases. In the next section I discuss in greater details the use that Rawls does of the notion of “reciprocity”.

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5

Reciprocity

The term reciprocity is used in different disciplines in occasionally inconsistent forms. As we shall soon illustrate, Rawls uses this notion in a rather distinctive way, motivating a separate treatment in this section. In the popular understanding of this word, reciprocity captures an intuition that is often found in ancient texts and in the Scriptures according to which we should “Do unto others as you would have them do unto you”. The term has found application in the field of behavioral economics to describe the behavior observed in experiments where simple transfers of monetary amounts are involved, such as in the “trust” game or in the “ultimatum” game (cf. Fehr and Schmidt 2006 for a survey of the literature). Behavioral economists Falk and Fischbacher (2006) define reciprocity as the behavioral response to anticipated acts of kindness or unkindness of other people. Studies have typically found that intentions seem to matter only when they come from a human, as opposed to a computerized random chooser (cf. e.g. Blount 1995). An early study using fMRI (functional Magnetic Resonance Imaging) to study behavior in the repeated prisoners’ dilemma found that subjects playing against another human activate a richer set of areas of the brain compared to the areas activated in subject playing against a computer (Rilling et al. 2002). If we adopt the definition of reciprocity of behavioral economists there seems to be hardly any space for such a notion to be applicable to the relation between contemporaries and posterity. Postma (2002) and de Shalit (1995, pp. 87-111) notice that the inability of posterity to reciprocate the contemporaries’ actions trumps the case for the use of reciprocity, and of Rawls’s theory altogether, in discussing intergenerational justice18 . Rawls can probably be credited with first discussing reciprocity in the context of intergen18

Cf. also Doorn (2010) discussing the challenge of “inclusiveness”, i.e. including all relevant actors, for the application of Rawls’s theory. And Arenas and Rodrigo (2014), discussing how indirect reciprocity can ease the problems posed by the impossibility of posterity to reciprocate. Also Jeurissen and Keijzers (2004).

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erational justice. This line of research has been more recently championed by Wade-Benzoni and coauthors, who have documented reciprocity in the context of thought experiments in which benefits and burdens are transferred from one generation to the next (Wade-Benzoni 2002; cf. also Wade-Benzoni and Tost 2009 and Wade-Benzoni et al. 2008). In Theory (cf. p. 475), reciprocity is mainly linked to the idea of “sense of justice”: in particular, if there is reciprocity, much in the sense of an expectation of fairness as described in the behavioural literature, the sense of justice of the decision makers will be primed, triggering compliance with the principles of justice that were developed in the original position (cf. also the discussion in Sacconi et al. 2011). In Political Liberalism reciprocity assumes a more distinctively ethical meaning. According to Rawls reciprocity is the fruit of a moral exercise, whereby the decision-maker in the original position steps into a representative generation’s shoes and verifies whether the proposed allocation of primary goods is acceptable, adopting that generation’s likely circumstances and preferences19 . In Rawls’s works, reciprocity is a standard of fairness in inter-temporal exchanges. These exchanges, as already noticed earlier in the paper, appear highly asymmetric, with the contemporaries being able to affect the welfare of future generations. This is why in Rawls the terms of change among generations descend from a particular view of society, as a fair system of cooperation over time. In essence, the norm of reciprocity captures these moralized terms of exchange among the different generations (Rawls 2005, pp. 14-16). It can be viewed as a composite principle that blends elements of impartiality and mutual advantage. While impartiality, Rawls claims, is an essentially altruistic concept and mutual advantage stresses one’s own advantage with respect to each person’s present and future needs: Reciprocity is a relation between citizens expressed by principles of justice 19

Incidentally, this exercise is similar to what is required of the impartial but empathetic decision-maker in the theory of Harsanyi (1977).

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that regulate a social world in which everyone benefits judged with respect to an appropriate benchmark of equality defined with respect to that world (Rawls 2005, p. 17). In Rawls mutual advantage is not to be defined according to a subject-specific disagreement point. Rather, “Rawls develops a conception of the non-agreement point that is symmetrical: all parties are equally ignorant of how they would do in the state of nature” (Quong 2007, p. 80). Quong points out that a purely mutual-advantage account of the hypothetic agreement reached in the original position would be hard to reconcile with the original position methodology. It would imply lifting the veil of ignorance and knowing the specific features of the disagreement point, the one that would prevail in the absence of an agreement.

6

Summary of results

In this essay I have argued that the social contract between the firm and its stakeholders, in its current formulation, does not guarantee a fair treatment of future generations of stakeholders. Two specific aspects are in fact under-explored in the social contract’s most recent formulation, in the works of Lorenzo Sacconi. First, investments to the firms are provided over time by different (generations of) stakeholders. Second, the relationship between contemporaries and posterity is marked by asymmetries of power and knowledge. This paper describes several different possible reformulations of the social contract. All proposals fall short of one (or both) of two criteria. The first criterion requires that the norm singled out in each reformulation of the social contract ought to be consistent with the rational hypothetic contracting methodology. The second criterion that the hypothetic agreement ought to be simulated, with relative ease, by those entrusted with designing the governance structure of the firm. 30

The only reformulation that satisfies both criteria is the one that views the social contract as a hypothetic nonhistorical agreement reached behind a thick veil of ignorance. The norm that is singled out in this reformulation, reciprocity, asks us to choose in the same way we wished all past and future generations had chosen regarding the rate of consumption of natural resources and the rate of emissions. The actual agreement to setup the firm, what Sacconi calls the pactum subjectionis, needs to reflect the features of the hypothetic nonhistorical agreement discussed in this paper. As we have seen, some reformulations, such as the one that views the pactum unionis as a grand assembly of all past, present and future stakeholders (Proposal 5), are consistent with the manager’s fiduciary position with respect to all stakeholders, present and future. In the case of the nonhistorical social contract, the fiduciary obligation of the manager with respect to all stakeholders would be deprived of any reference to time-specific features of the claim of the stakeholders. Much further work remains to be done on further characterizing the pactum subjectionis in the presence of sustainability concerns.

7

Concluding remarks

We have already noticed that bringing social contract ethics up to the challenge of sustainability complicates considerably the reconstruction exercise required of corporate decision makers. The introduction of an intergenerational dimension within the corporate-policy design process can add an extra layer of indeterminacy about the firm’s bottom line, lending further support to an objection to stakeholder models first suggested by Jensen (2001). Although a real risk exists that managers might find themselves deadlocked in a perpetual moral dilemma about the effect of any decision they make on future generations, it is apparent that managers already engage in intertemporal decisions, for example in relation to investment choices.

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An alternative way to discuss sustainability without adding any further qualification to Sacconi’s model would be to conceive of a chain of static social contracts, one for each generation of stakeholders. This approach is problematic, however, in light of the de facto interdependencies between these different social contracts and the ability of earlier contracts to affect future ones. Alternatively, it is also possible to characterize different layers of social contracts, from macro to micro, an approach pioneered by Donaldson and Dunfee (1999). Within the Integrative Social Contract (ISC) Approach, one could describe intergenerational justice as a (procedural) “hypernorm” that comes from the macrosocial contract. A typical hypernorm at the macro level of the social contract concerns the right of voice and exit, considered as essential to support firm-level microsocial contracts. The right of exit of posterity, in the sense of right to non-interference from earlier generations, could be viewed as an example of hypernorm. Much work remains to be done, however, to try to incorporate sustainability concerns in the ISC approach. Much future work is also needed on the dispositions and incentives of the corporate decision makers to comply with the terms of the nonhistorical social contract once the thick veil of ignorance is lifted. Even though I discussed as ad hoc the assumption according to which the contractors care for future generations, or care for Nature, a description of the morality of the decision makers (real and hypothetical) is inescapable once we have found that a sense of empathy is needed in order for the nonhistorical social contract to be formulated. Rawls wrote at length about the question of a “reasonable moral psychology”20 . A possible way to address this issue is to think of codes of conduct, and perhaps “sustainability statements”, as ways to induce conformity to the principle of reciprocity, an approached pioneered by Sacconi (1999). This would be in the spirit of the Rawlsian claim in Theory that humans possess a preference to comply with equitable agreements if others are expected to comply 20

Cf. the discussion in Nussbaum (2013, p.8-10) and the references to Rawls’s work therein.

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in a similar fashion. Integral part of this “conditional preference for conformity” (Grimalda and Sacconi 2005) of the decision-makers is the expectation that the contract is renewed in every generation, within the framework of a nonhistorical agreement. Overcoming “positional limitations”, a term owed to Sen (2011, p.155-173), appears a challenging exercise in the case of choices that involve future generations. Rawls thought that his own last characterization of the original position, based on the norm of reciprocity, provided the decision makers with enough guidance so that, knowing the nature of the parties and the nature of the situation one confronts, one would be able to deliberate “by reasoning analytically” (Rawls 2005, p. 273-274). Rawls’s solution is probably less demanding than a gathering of all generations behind the veil of ignorance, as suggested by Barry. The amended pactum unionis I have described does not require a cumbersome listing of all future stakeholders: rather, it implies that the agreement reached today behind the veil of ignorance satisfies the terms of moralized exchange, i.e. the principle of reciprocity.

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