Responsibility with authority: Using the power of the purse to leverage the effectiveness of the Board of Directors

Abstract

A spate of recent scandals, from Enron to option backdating indicate that as a control mechanism, the Board of Directors is susceptible to failure in its governance role precisely because the board is often not thought of as a control mechanism to begin with. Our object in this paper is twofold: we first examine the stresses placed on boards from the increasing complexity of the firm, its transactions and the control environment. In particular, we introduce the critical issue of ‘control capture’ and propose a comprehensive control regime to overcome control capture. For a part time Board of Directors to be able to implement complex control systems requires that it makes use of the tool that other parties with oversight responsibilities utilise to translate their responsibility into authority: independent budgetary authority — the ‘power of the purse’— which allows the board to acquire credible means of exercising control and leveraging its effectiveness. We discuss the pros and cons of extending budgetary authority to the Board of Directors.