The Golden Passport

by Duff McDonald

  In 1981, as a reward for serving as his campaign finance head in New York, Ronald Reagan appointed Shad as chairman of the Securities and Exchange Commission, making him the first Wall Street executive to hold the post in fifty years. Any notion that he might somehow turn against his former industry was dispelled during his confirmation hearing, when Shad told the Senate Banking Committee that he favored easing regulatory requirements on business, including the Foreign Corrupt Practices Act of 1977, which he felt posed “competitive problems for American industry.”1 He also signaled his intention to cut costs, and to spend less than the agency’s authorized budget. He then proceeded to do everything he’d said he would, prompting the Wall Street Journal to deem it “the most sweeping deregulation in the agency’s 50 years.”2

  Shad’s past and present careers then collided spectacularly, when Wall Street did what it so often does with a financial innovation, and took it too far. The rash of junk bond–fueled takeover activity led to a coincident rise in insider trading—by 1985, three-quarters of all takeover bids were preceded by suspicious surges in stock prices—and Shad suddenly found himself in the uncomfortable position of investigating and prosecuting not just people he knew but the companies they ran—Shad’s protégé at Hutton, Frederick Joseph, was CEO of Drexel Burnham Lambert when the Ivan Boesky/Michael Milken insider trading scandal broke. While Shad was initially accused of going soft on Boesky, it was later revealed that he’d done so in return for Boesky’s cooperation in going after Milken. In 1987, he even executed an about-face on the whole matter of downsizing the SEC and deregulating the industry, when he called for the largest increases in the SEC’s staff and budget that anybody had proposed in years.

  Successful graduates of HBS tend to be quite generous toward their alma mater, in terms of praise as well as in cold, hard cash. The School is both relentless in beseeching them for money, and extremely successful in convincing them to hand it over. Indeed, it’s the one thing that it has consistently proved better at than any of its rivals. Shad had made a fortune on Wall Street, and the question of whether he would give back to the School was never in doubt. As to how he would give back, his experience at the SEC clearly played a defining role. In March 1987, Dean John McArthur announced that Shad had pledged $30 million to HBS—at that point, the largest gift in the School’s history—to endow a program in Business Leadership and Ethics. “I’ve been very disturbed most recently with the large numbers of graduates of leading business and law schools who have become convicted felons,” Shad told the New York Times.3

  While few thought that an increased focus on ethics would be detrimental to an MBA’s education, there was some sniping nonetheless. BusinessWeek wondered whether this was “a case of throwing money at a problem that money helped produce.”4 And a junior faculty member at HBS was quite skeptical: “They still have to sell this one to one hundred tenured faculty who think the whole discipline is garbage.”5

  In July, Shad wrote an opinion piece for the New York Times, “Business’s Bottom Line: Ethics.” While on the whole a cogently argued and persuasive piece, it did contain a few interesting remarks, such as this totally unsupported (and completely absurd) suggestion: “Wall Street has long been criticized for ethical lapses, but Wall Street’s ethics compare favorably with those of other professions.” And then these three ideas, presented in sequence: “As demonstrated by most successful individuals and companies, the marketplace rewards quality, integrity and ethical conduct. . . . While integrity and ethical conduct are their own rewards, they also make good business sense. . . . In sum, ethics pays: It’s smart to be ethical.”6

  That’s hardly a controversial statement, and it’s difficult to criticize the intention behind it. But it also contained a tacit ordering of values that seemed out of whack. “Shad and the business school ethicists who repeat this dictum over and over seem unaware that mere expediency is perhaps the shallowest foundation for an ethical system,”7 writes John Trumpbour in How Harvard Rules: Reason in the Service of Empire. Not only that, but by placing profit above ethics in his hierarchy, Shad left open the door that if and when acting unethically could be shown to pay even more, the logic would compel you to do so.

  Again, it always gets complicated at the intersection of profit maximization and sound judgment. Especially when you’re dealing with the high priests of capitalism, whose sacrament is profit. Shad was just preaching the gospel of his particular church. You see, Harvard Business School has always seen itself—and, by extension, “business”—as occupying the moral high ground, even in instances where it had shown itself not to be. They are loyal adherents to the classic capitalist theme that markets are moralizing and civilizing.

  Keep in mind, too, that we’re talking about Cambridge, Massachusetts, where the Protestant ethic still looms large. And it is an ethic that sustains a transformational view of money, in which the ability to accumulate wealth becomes a reflection of a person’s character.8 As John Kenneth Galbraith put it, “The modern conservative is engaged in one of man’s oldest exercises in moral philosophy; that is, the search for a superior moral justification for selfishness.”9

  Considered in that light, one can start to see how a school that has shown itself very effective at conquering new pedagogical challenges has likewise consistently failed to demonstrate a real sense of urgency about the need to embed ethics into the heart of its teachings. Because if you’re utterly convinced that you’re on the side of the angels, then the question of your ethics is moot, and the task of integrating it into your teachings possibly even redundant.

  At the beginning, mind you, it seemed a priority. In 1907, Professor A. Lawrence Lowell put it simply: “The way to inculcate good morals,” he said, “is not so much formal preaching as letting them appear as an integral part of the principles that are explained or demonstrated.”10

  In his 1921–22 report to Lowell, who was at that point the president of Harvard, Wallace Donham sounded as if HBS was all but ready to make ethics a core part of the MBA program: “[The] status of Business Ethics in the curriculum needs consideration,” he wrote. “At present the subject is much on the minds of this group of instructors, all greatly interested in the upbuilding of business as a profession. We are not, however, presenting any series of cases chosen out of the difficult practical problems, properly grouped under this heading, which arise in an active life of business.”11

  His remark raises a central irony of the School’s existence: From the very start, the faculty wanted to claim professional status. But they wanted it without having to nail down the ethical side of things. It wasn’t until six years later that Donham announced a Professorship of Business Ethics at HBS and a second-year elective on the subject. But the course was abandoned in 1935, with the weakest of rationales: low student interest. Some things are too important to leave up to the twenty-six-year-olds. They’re too young to know better.

  Or maybe they’re too old to be taught: “We can hardly hope to create moral fiber,” Donham wrote in HBR in 1927, in an article titled “The Social Significance of Business.” “We can and should present to the student, while he has time for consideration free from the pressure of circumstances, the more common ethical dilemmas of business. The sound ethical standards of the young man are far more likely to be preserved in later periods of stress if this is done.”12

  But even Donham’s concerns went only so far. When John Shad claimed that the ethics of Wall Street compared favorably to other professions, he was only the latest in a long line of people from HBS who have made similarly unsubstantiated claims. When discussing the obvious ethical lapses in the lead-up to Black Friday and the Great Depression in 1929, Donham said pretty much the same thing, although he included all “business men” in his assertion: “I think from 1926 to 1929 a good many business men, like an even larger percentage of the rest of the community, were swept off their feet by a sudden apparent expansion in the wealth of the nation, and [contributed to] a temporary reduction in ethical st
andards.”13

  Over the next several decades, a handful of courses tried to tackle ethics in the context of the businessman’s responsibility to society at large, including Public Relationships and Responsibilities (1946–48), Business Responsibilities in the American Society (1949–60), The Manager and the American Economy (1961–63), Planning in the Business Environment (1963–72), Environmental Analysis for Managers (1972–78), and Business, Government, and the International Economy (1979–present). In large part, however, they focused on political economy and regulation. During Donald David’s tenure, too, the emphasis of the entire curriculum was less about how big business could behave better than on how big business was the answer to all of the nation’s problems.

  In 1961, Dean Stanley Teele offered his own variation on the “we’re more ethical than you” theme when he said that “the ethical standards of business are surely as high as those of most groups in our society and have improved immensely over the decades.”14 If that was in fact true, there was a significant decline coming in the not-too-distant future: Between 1975 and 1985, two-thirds of Fortune 500 companies were convicted of serious crimes, including price fixing and illegal dumping of hazardous waste.15

  In 1963, the responsibility for corporate social responsibility was formally moved to the required second-year course, Business Policy. Kenneth Andrews, you will recall, was adamant about threading ethical considerations into the setting of strategy. But then two things happened. First, the shift to a science-based management decision-making ethos brought about by the foundation reports threatened to drain judgment from decision making whatsoever. And second, the emergence of Michael Jensen as an intellectual force at the School, and the devolution of management (and by extension, its ethics) to the level of prostitution.

  In the late 1960s, the School added a Social Responsibility “module” to the course, which to that point, according to one professor, could have been described as one part macroeconomics, one part how to navigate antitrust laws. But consider, if you will, the choice of the term module. It suggests separateness. And detachability. “The message it seemed to send was that ethics, like a caboose on a train, would lend a sweet symmetrical touch to business, but that the locomotive would haul just as well without it,”16 writes Laurence Shames.

  In 1976, the School offered, for the first time ever, a full-semester course explicitly devoted to the topic, Ethical Aspects of Corporate Policy. “The work on social responsibility of corporations, ethics, and professional morality is likely to be expanded beyond the impressive start given this work by Professors Bauer, Ackerman, Churchill, and others,”17 Dean Fouraker said at the time, suggesting a solid institutional commitment to ethics that it didn’t have before and has only fleetingly demonstrated since. Two years later, in fact, a second-year student, John LeBoutillier, wrote an editorial for the New York Times, “Of Harvard, Elitism, and Amorality,” in which he expressed dismay at the “elitist notion of inbred superiority and an easy acceptance of law-breaking to solve business problems.”18

  In 1979, when issuing its overcooked rebuttal to Harvard president Derek Bok’s suggestion that the School entertain the possibility that it had more work to do regarding ethics, the Associates included an unintentionally hilarious remark. “The School has been considering the study of ethics for more than 50 years and is actively addressing it now,” they wrote. “There is substantial sentiment among the directors that the Faculty should make a concerted and fundamental effort to deal with the vital issue of business legitimacy and the factors required to maintain and communicate that legitimacy. . . . Essential to this study would be a deeper concentration on ethical behavior and a clearer definition of the corporation’s true ‘social’ responsibilities.”19

  It’s hilarious because of, well, the part about “considering” the issue for fifty years. But it also demonstrated one of the School’s perpetual blind spots—the notion that the issue of business legitimacy was essentially one of communication. America is a capitalist nation. It loves its business heroes. But when it occasionally deigns to ask pointed questions about the ethics of its business leadership it is usually when those “leaders” have strayed off the ethical path. The issue isn’t that people forget how ethical business can be; it’s that they’re responding to how unethical it can be. That’s not a communication problem. It’s an ethics problem. What’s more, that report was written in 1979, when America’s corporate leaders were in the midst of shaking off any nonshareholder responsibilities whatsoever. Marvin Bower had already thrown his lot in with free-market advocate Friedrich von Hayek,20 so in their call for “a clearer definition” of social responsibilities, the Associates were, between the lines, calling for less, not more.

  The report got carried away in the end. While acknowledging the ethical contradiction at the heart of marrying free-market capitalism with an egalitarian democracy, it then made vague reference to some sort of terrifying outcome if anyone ever seriously tried to address it: “Unquestionably, men of goodwill can agree that it would be desirable if somehow we could harmonize the two ethics; the problems in doing so are formidable and the risks of a false or injurious combination may be as large as those of outright failure.”21 In reality, the biggest risk was that no one would be interested: In 1978–79, only thirty-seven students took Ethical Aspects of Corporate Policy, a fraction of those who enrolled in another course called Power and Influence.22

  In 1980, the School hired two more philosophers to write cases on ethics. In one fell swoop, they tripled the size of the ethics faculty,23 which to that point had consisted of John Matthews (’49). In 1985 the three professors—Matthews, Kenneth Goodpaster, and Laura Nash—published Policies and Persons: A Casebook in Business Ethics.

  And then the big money arrived, in the form of John Shad’s $20 million gift. At that point, they had to get at least semiserious, and the School launched the HBS initiative on Leadership, Ethics, and Corporate Responsibility as part of the institutional commitment to ethics that Shad’s gift demanded. In 1988, another seven-class “module” devoted to ethical problems was added to the first semester of the first year. The School partly sabotaged the move, however, by deciding to make the module one of the only things in the first year that wasn’t graded.24

  And then, progress. Whereas for decades, one of the reasons the School had trotted out to defend itself against inadequate ethical instruction was that it was a fool’s errand to try to change someone’s ethical framework by the time they were in graduate school, the leaders of the new initiative rejected that claim outright. “We are convinced that particularly dramatic changes can occur in young adulthood in the context of professional school education,”25 wrote Professors Lynn Sharp Paine and Thomas Piper. In 1993, Thomas Piper, Mary Gentile, and Sharon Parks published Can Ethics be Taught? That they even posed the question shows just how much institutional inertia they were up against. But they answered in the affirmative.

  Later, in 1999, the School uncharacteristically accepted even more responsibility for the crisis in ethics that overtook the country in the 1980s. “Americans began to ask how things had gotten to this state, and one of the first places they asked this question was at the nation’s leading business schools,” wrote Paine and Piper in The Intellectual Venture Capitalist. “Had these schools—which for many years had claimed, proudly and accurately, to be turning out the nation’s business elite—somehow devalued issues of purpose, principle, and responsibility? Had they focused too narrowly on tools and techniques, and abandoned the high ground of leadership, vision, imagination, values and courage? The Harvard Business School was only one of many schools to respond to these tough questions—and the answer was an explicit ‘yes.’”26

  After the accounting scandals that culminated with Enron in 2001, HBS once again found itself on the defensive regarding ethics. Two studies at the time suggested it should be. In one, researchers measured MBA students against “felons imprisoned in minimum security prisons,” and found that the latt
er group was in some ways more ethical.27 Another studied corporate crime across nearly two hundred U.S. companies and found that the likelihood of such increased when members of the management team had either graduate business education or military experience.28

  But Jeff Skilling of Enron posed a particular problem. He was theirs, and his ethical failings were monumental. The School ended up concluding, in contradiction to their revelation of just a few years before, that students’ ethical compasses were set before they got there. In the case of Skilling, in other words, there was nothing they could have done to prevent him from doing what he did. But they had a new plan: They would tweak their admissions policies to make sure not a single future criminal made it through the door ever again. Problem solved. (Okay, they didn’t say the problem was solved, but they did say they would tweak their admissions policies.)

  In 2003, the School finally introduced an entire course—that is to say, not a “module”—into the required first-year curriculum. It was called Leadership and Corporate Accountability, and it had only taken them nearly a hundred years to get around to doing so.

  In 2005, in what can only be referred to as self-righteous overreaction, the School rejected 119 applicants for “hacking” into a third-party website to see if they had been admitted. One of the applicants had realized that the admit-reject letters were already on the site of ApplyYourself, and posted instructions for how to write the URL to see one’s own status on a public message board. In other words, the transgression, for what it’s worth, barely qualified as “hacking,” and the possibility of harm was zero, and yet Dean Kim Clark decided that was the moment to show that the School meant business when it came to ethics. “I would like to have the last word on Harvard Business School’s policy regarding applicants who hacked into the Apply Yourself Inc. web site containing confidential admissions information,” he said. “This behavior is unethical at best—a serious breach of trust that cannot be countered by rationalization. Any applicant found to have done so will not be admitted to the school. Our mission is to educate principled leaders who make a difference in the world. To achieve that, a person must have many skills and qualities, including the highest standards of integrity, sound judgment, and a strong moral compass—an intuitive sense of what is right and wrong. Those who have hacked into the web site have failed to pass that test.”29