I stumbled across an interesting blog post in the small business section of the NYTimes. The topic: business ethics. Apparently, nearly 20% of Harvard Business School’s graduating class have signed a voluntary, student-led pledge to “serve the greater good”.
The pledge promises that Harvard M.B.A.’s will act responsibly and ethically and refrain from advancing their “own narrow ambitions” at the expense of others.
The post goes on to describe how real business isn’t always so clear cut. The blogger, Jay Goltz, poses the following hypothetical:
You find out that your chief financial officer is incompetent, and you have some serious issues with your bank and the Internal Revenue Service. You hire a headhunter to find you a new C.F.O.
You interview for three weeks. You have a complicated business that requires expertise that most candidates do not have. You are running out of cash, and the bank is getting impatient and talking about calling your loan. You finally decide on the best candidate. He does not have the exact experience you were hoping for, but he says he can figure it out. You offer him the job, and he accepts. He quits his job. He will start in two weeks.
Three days later, the bank calls. It has just found out that a C.F.O. in your industry has moved to your city. The bank knows her previous employer well, and her former boss can’t say enough about how great and how irreplaceable she is. The bank is relieved; there is a marked change in your banker’s tone. But you explain that you have just extended a job offer, and it was accepted. There is a long silence on the phone. Your banker asks you to just meet with the woman.
She comes in the next day. She takes a tour of the place and looks at your books. She spends 30 minutes going over things that you could be doing better. She is confident that she can not only resolve the crisis but “take you to the next level.” That’s exactly where you want to go!
You want to cry. You want to hug your mother. You are also sick to your stomach. What about the guy you’ve already hired? The guy who might be able to do the job. The guy who got a “good” reference but nothing like the praise that was heaped on Super Woman. The guy who has already quit his job.
Your banker says these things happen: Hire the woman! Your accountant agrees. You talk to your spouse. You talk to your best friend. They both are horrified that you would consider taking back your offer. Even your dog seems surprised.
What would you do?
This hypothetical — along with a public policy discussion I had over the weekend — got me thinking about economic efficiency.
Intuitively, Pareto efficiency seems like the only thing that is “fair”. The basic gist is that any outcome is efficient when you can’t allocate resources to make any person better off without making someone else worse off.
Sort of an economic “do no harm”.
But Pareto efficiency turns out to not really be all that fair at all. If this were 17th-century France and you saw King Louis XIV walking around, you might ask him to spare a penny (or franc), but that would harm poor Louis.
More reasonable as a test of fairness tends to be Kaldor-Hicks efficiency. Simplified, Kaldor-Hicks efficiency is about maximizing “total” well-being. If some people are made worse off, you redistribute some of the gains made by the big winners to the sufferers.
But this is still the idea of “a rising tide raises all boats”. Recent history has suggested a better analogy might be “a rising tide raises all yachts.”
When we’re talking about politics and capitalism, we generally get closer to the idea of minimax as discussed by John Rawls in A Theory of Justice, whereby we acknowledge how unfair things can be, and only do it in the name of those who are most disadvantaged. So yes, Louix XIV would need to empty his pockets.
But getting back to this question of business ethics…
I think the “right” thing to do is hire the preferred employee and duly compensate the displaced one. If you expect the outcome of your business to be greatly improved by the newer hire, you should redistribute some portion of that gain to the person losing out.
Or in plain English: pay a reasonable stipend while he looks for a new job.
I think Kaldor-Hicks works pretty well here to internalize the externality. What would you do?
(And also, am I crazy for trying to answer an ethics question with economic efficiency theories?)