In response to the financial crisis, regulators have considered harnessing risk-averse bondholders to help restrain the risk taking inherent in the shareholder-primacy model of corporate governance. But the current regulatory approaches are costly, and their effectiveness is questionable. The law could more effectively harness bondholder risk-aversion, as a means of balancing the shareholder-primacy model’s risk-taking incentives, by including bondholders in the governance of systemically important firms. This would be justified not only for reducing systemic risk, but also because it would give bondholders, like shareholders, a direct stake in their firm’s future performance. There are at least two ways to include bondholders in governance without unduly impairing corporate profitability. Under a “sharing-governance” approach, bondholders could be given minority voting rights with a veto as needed to protect themselves against significant harm. Under a “dual-duty” approach, managers could be required to balance responsibilities to both bondholders and shareholders.
Steven L. Schwarcz is a CIGI senior fellow and the Stanley A. Star Professor of Law & Business at Duke University. At CIGI, Steven leads research on systemic risk and financial regulation, corporate governance of systemically important firms, cross-border resolution measures and sovereign debt restructuring.