Two days after the presidential election, Elon Musk took to his X social media site to ask whether it’s time to replace the United States’ federalist system of corporate governance with a single law of corporations.
“When there are egregiously wrong legal judgments in a single state that substantially harm American citizens in all other 49 states,” Musk said, “the federal government should take immediate corrective action.”
Musk was likely referring to his stinging defeat in Delaware’s Chancery Court earlier this year over his Tesla pay package, worth tens of billions of dollars. The court ruled the package was created and approved improperly and shot it down. In response, Musk took steps to move Tesla from Delaware to Texas, where he expects courts to be more business friendly.
Now that Musk has been given a role in the incoming Trump administration as a government efficiency czar, he’s in a position to do something about his idea. But that would be a crushingly bad move, says Stephen Bainbridge, the William D. Warren Distinguished Professor of Law at the UCLA School of Law.
“Federal preemption of corporate law is a terrible idea,” Bainbridge wrote in his blog November 11.
There’s nothing in the U.S. Constitution that says corporate governance is a state matter but it has been that way from the country’s beginning and it’s one of the reasons U.S. capital markets are so strong, he says.
In fact, state-level corporate governance is the “genius of American corporate law,” Bainbridge says, quoting another law professor, Roberta Romano, the Sterling Professor of Law at Yale University Law School and the co-director of Yale’s Center for the Study of Corporate Law.
Because of this federalist system, states compete to try to get companies to incorporate under their laws. That leads to experimentation in corporate governance but in a calibrated way, because the threat of shareholders or corporate officers preferring one state over another forces all states to be smart about the balance of power between shareholders and corporate officers.
“In contrast,” he says, “the uniformity that would result from federal preemption would preclude experimentation with differing modes of regulation. As such, there will be no opportunity for new and better regulatory ideas to be developed — no ‘laboratory’ of federalism. Instead, we will be stuck with rules that may well be wrong from the outset and, in any case, may quickly become obsolete.”
It’s not as if lawmakers over the years haven’t tried to do what Musk is considering, he says. In the early 1900s, progressives introduced bills to create a kind of federal law of corporations, but none of them went anywhere.
“Legislative inaction is inherently ambiguous,” he says. “All that can be said with certainty is that Congress chose not to act.”
The U.S. Supreme Court has had occasion to weigh in on the idea, too, and it’s consistently sided with the states, Bainbridge says.
“No principle of corporation law and practice is more firmly established than a state’s authority to regulate domestic corporations,” Bainbridge says, quoting from the high court’s 1987 ruling in CTS Corp. v. Dynamics Corp.
“In sum,” he says, “Donald Trump should not start his presidency by blowing up the bedrock of our corporate economy just because Elon Musk is throwing a hissy fit.”
