Trust, trustworthiness, and the behavioral foundations of corporate law

Conventional legal and economic analysis assumes that opportunistic behavio r is discouraged and that cooperation is encouraged within firms primarily through the use of legal and market incentives. This presumption is embedde d in the modern view that the corporation is best described as a "nexus of contracts, " a collection of explicit and implicit agreements voluntarily n egotiated among the rationally selfish parties who join in the corporate en terprise. In this Article we take a different approach. We start from the o bservation that, in many circumstances, legal and market sanctions provide, at best, imperfect means of regulating behavior within the firm. We consid er an alternate hypothesis: that corporate participants often cooperate wit h each other not because of external constraints but because of internal on es. In particular, we argue that the behavioral phenomena of internalized t rust and trustworthiness play important roles in encouraging cooperation wi thin firms. In support of this claim, we survey the extensive experimental evidence tha t has been produced over the past four decades on human behavior in "social dilemmas." This evidence demonstrates that internalized trust is a common phenomenon, that it is at least in part learned rather than innate, and tha t different individuals vary in their inclinations toward trust. Most impor tantly, the experimental evidence indicates that decisions whether or not t o trust others are in large part determined by social context rather than e xternal payoffs. By altering social con text-subjects' perceptions of other s' beliefs, expectations, likely actions, and relationships to themselves-e xperimenters can reliably produce in subjects in social dilemmas everything from nearly universal trust to an almost complete absence of trust. In oth er words, most people behave us if they have two personalities or preferenc e functions. One is competitive and self-regarding. The other is cooperativ e and other-regarding Social framing is key in triggering when the cooperat ive personality emerges. These behavioral findings carry important implications for corporate law, F or example, in this Article we demonstrate first that the phenomenon of tru st offers insight into the substantive structure of corporate law and parti cularly into the nature and purpose of that elusive legal concept, fiduciar y duty. Second, the experimental evidence on trust sheds light on how corpo rate law works, by suggesting that judicial opinions in corporate cases inf luence corporate officers' and directors' behavior not only by altering the ir external incentives but also by changing their internalized preferences. This possibility helps explain the notoriously puzzling relationship betwe en the duty of care and the business judgment nde, Third, trust highlights the limits of law by explaining how cooperative Patterns of behavior can so metimes develop within firms even when external incentives, such as legal s anctions, are unavailable or ineffective. In the process, it underscores th e dangers of the contractarian approach by suggesting that an excessive emp hasis on external sanctions-including formal contract and even the rhetoric of contract-may be not only ineffective but counterproductive, serving to undermine trust and trustworthiness within the firm.