Dear Mr. Rich, I am a law professor and teach courses in securities regulation and corporate finance. I am former corporate lawyer having practiced on Wall Street and in Silicon Valley for five years before becoming a fulltime academic. While in private practice I represented a wide range of public and private corporations and investment banks conducting complex financial offerings and mergers and acquisisitions. I also worked on creating off balance sheet vehicles similar to those created at Enron, though for other unrelated corporations.
I thought your column in today's Times was excellent at exposing the deep political ties that lie behind the Enron "scandal." I do want to take issue, however, with one aspect of your story. You suggest, understandably, that Enron may turn out to be the largest "flimflam" in U.S. business history. This approach to the problem is one that several writers seem to share: how could our system of corporate governance and finance have broken down to such an extent? Surely this must be the result of some kind of fraud, not too distinct from that which was so widespread in the days of wild west medicine salesmen. I would urge you and other journalists who are following this very important story to resist this temptation. That is why I put the word "scandal" itself in scare quotes. The problem, I believe, is very different. The collapse of Enron is, in my view, symptomatic of the nature of modern post-Cold War capitalism. Today's capitalists face a world of intense global competition, rapidly advancing technologies and massive initial capital requirements to get any kind of truly sophisticated business off the ground. Under such daunting circumstances, the ability of large corporations to find ways of making a profit has become so difficult that increasingly corporations are turning to financial manipulation, on the one hand, or to sweatshop labor, on the other, to squeeze an additional dollar out of their existing assets. Thus, in the Asian Financial Crisis or in the current Argentine crisis, the source of the problem lies every bit with the lenders and creditors who kept pumping money into those economies even though their social and political structures were groaning under the demands of this capital investment. There is a tendency to think that "throwing money" at a problem is a possible solution. But in fact without the appropriate legal and political frameworks - which, in my view, must be far more transparent and democratic here and in places like Argentina - that money is an obligation that weighs heavily on the recipients. At Enron, as its executives realized that their model - making markets in a wide range of products and services - appeared to work their stock price soared. And like that money that kept flowing into Argentina as they chained the peso to the dollar, this soaring stock price raised the pressure on the executives to produce further gains. But in the end Enron had really made a series of one-way bets, perhaps very similar to the huge risks that Long Term Capital Management took in the mid-90's, and when the winds shifted (for example, when California energy prices were capped or when the U.S. dollar continued to strengthen) it became clear that their profit margins were far less robust and stable. Using the corporate form to "bet" with what Louis Brandeis famously called "Other People's Money" turned out to be a disaster. It is certainly true that, as the Wall Street Journal and Paul O'Neill want to argue, that this was just a failed business model. Unfortunately, the Enron business model is the model for almost all of modern capitalism! The last decade has seen the American economy create a massive amount of new debt and other financial obligations that cannot possibly be supported by the productive base of the economy. Despite the fallout of the last two years, many companies continue to trade at truly unprecedented valuations. Meanwhile, our semi-public housing loan entities, Fannie Mae and Ginnie Mac, continue to pump massive amounts of securities into the capital markets to keep money flowing into the hands of consumers with little attention paid to what is happening in the "real" economy - steel, autos, infrastructure - the products that a society truly needs to advance and eventually pay off all of these paper claims to wealth. I believe that it is important to absorb the truly staggering impact of the words of Arthur Levitt on the op-ed pages of the Times earlier this week. He argued that "all the gatekeepers" of modern capitalism had to be examined - lawyers, auditors, managers, directors. Based on my experience in this environment he is certainly right. The apparent involvement in this process of every single layer of Enron, of all of its outside advisors and professionals and now apparently of many inside the federal government, indicates that we are encountering a fundamental problem with modern capitalism no different than that found in Asia in 97-98 or in Argentina or Turkey today. And unless we want to risk recreating the traumas of the 1930's, we must cosnider the Enron situation in this broader context. There may be an effort by Congress to paper this one over - after all, how far can the Democrats afford to push a "wartime" president? And, as you suggest, the Democrats can not easily distance themselves from this problem. Isn't the Enron speculative capital corporate model really a result as much of Robert Rubin's repeal of Glass Steagal - the final nail in the coffin of the New Deal - as much as a result of Republican perfidy? But at some point the chickens may come home to roost and we will have to consider far more serious, if not radical, institutional and structural changes in the way that we conduct economic activity. As a first step, I think that we should no more leave auditing in the hands of the private sector than we now leave airport security - it is every bit as important as airport x-ray machines to our survival. Auditing should be conducted by the federal government. Further, "public" corporations should indeed be public corporations, committing themselves to greater transparency and accountability. This should mean independent representatives of the public on the boards of corporations. These representatives could be elected by the citizens of those states where the corporations are chartered and/or they could be selected by the large institutional investors (such as major pension funds) that own a significant share of our capital structure. These are modest first steps, frankly, but they point in the direction that we must go if we are not to find ourselves in a downward spiral of internecine warfare between businesses, if not countries, to squeeze profit out of a world far less hospitable to Anglo-American capitalism than we once thought. Please feel free to share this letter with your colleagues and if I can be of any assistance to you or other writers at the Times, feel free to call or write. Best wishes, Stephen F. Diamond School of Law Santa Clara University [EMAIL PROTECTED]
