The Options Problem — It started with Adam Smith, not Bernie Ebbers. By Robert Shapiro

Old Blog Import

The focus on stock options as a source of corporate misbehavior is fairly recent, but the problem that options are designed to solve is nearly as old as economics itself. In the mid-1700s, Adam Smith noted a troubling aspect in the growth of the early”joint stock companies,” or what we call public corporations. Smith had already figured out that markets work best when everyone can pursue his own self-interest, so he had to ask himself what would prevent a manager of one of those joint stock companies from pursuing that personal interest when it was contrary to the interest of stockholders. In a free market, Smith concluded, these newfangled stock companies would work only in a few small and simple market niches, where the manager’s actions could be readily routinized and his decisions easily monitored. That way, the manager would have to think about the shareholders, because they could keep close tabs on him.”