19 Nov 2009Working Paper Summaries

Management and the Financial Crisis (We Have Met the Enemy and He is Us …)

by William A. Sahlman

We have spent the past year mired in a global financial crisis that few saw coming and that will plague us for years to come. Such crises are gut-wrenching. Collectively and individually, we search for causes and solutions. Too often, we look for quick fixes that do long‐term damage, or we put the equivalent of duct tape on obvious problems, missing the true root causes. HBS professor William A. Sahlman argues that the macroeconomic problems were the result of terrible microeconomic decisions. The root cause of bad decision‐making resides in the nexus of culture, incentives, control and measurement, accounting, and human capital. We now have a unique opportunity to force a review of all the players in the financial system, from individual consumers to politicians and regulators to management teams at financial services firms. Key concepts include:

Management needs a new kind of comprehensive analysis monitor. The new entity would take an objective, hard‐nosed look at major financial services firms on a holistic basis.
The new monitor would learn from working with many players in an industry. Auditing the best and worst firms would create powerful tools for improving practice.
Beyond introducing this new player to the broad system of corporate governance, the most important and most difficult changes are those required of managers, who must look hard at risk and reward.