The role business schools played in the economic crisis
Back in October, not long after Lehman Brothers collapsed and triggered a meltdown on Wall Street, the usually prim Financial Times mocked the alumni at Harvard Business School’s 100-year anniversary gala as they “sipped champagne and chatted fondly about old times.” (“We will leave the talk of fixing the blame to others,” Harvard’s dean assured the gathering.) BusinessWeek piled on, hosting an online debate: “Business schools are largely responsible for the U.S. financial crisis. Pro or con?” These and other critics wondered: What had they been teaching our nation’s best and brightest in these MBA programs, anyway?
“In a way, finance professors caused this problem—I’m not bragging about this,” says Charles Trzcinka, who chairs the finance department at Indiana University–Bloomington’s Kelley School of Business. He points out that many of the financial tools that played a starring role in the current crisis, from the countless ways to divvy up and sell mortgage-backed securities to the explosion of credit default swaps, were taught in business schools without, often, a full appreciation for how they could go sour—if, say, housing prices cratered or large counterparties went bust.
Business schools aren’t, of course, primarily responsible for the implosion of global finance. But, across the country, business-school faculties are grappling with the possibility that they’ve been instilling generations of students with a naive faith in free markets, teaching them to focus solely on short-term profits, and justifying some of the more outrageous executive-compensation schemes that have become Exhibit A in the case against corporate America.
In recent decades, the swelling of the U.S. financial sector has meant boom times for B-schools. By 2007 some elite business schools were shipping out roughly 40 percent of their graduates to large investment banks, hedge funds, and private equity firms, while students were elbowing their way into electives like “Corporate Financial Engineering.”
Trouble was, students often weren’t learning as much as they should have. “There were so many people who just wanted to learn enough to get a job in this field,” says Trzcinka. Out in the corporate world, many managers failed to grasp the subtleties and limitations of the mind-boggling mathematical models that were helping them earn outsized returns. “Look at Lehman Brothers in 2005: If you were one of the chief risk officers, what could you have done to convince senior management that you were heading for disaster?” asks Andrew Lo, who teaches financial engineering at MIT. “I’d argue virtually nothing. Unless senior management understood these models to the extent that [their quantitative analysts] did, there’s no way you could convince them to pull back—business was too profitable.”
Nor were faculty members sounding as many warnings about Wall Street as they could have. “Our tendency was just to get excited by the novelty—and by our belief that markets could do no wrong,” says Jay Lorsch, a professor of human relations at Harvard Business School. Lorsch points out that most MBA programs have to maintain friendly ties with the corporate world. Professors often consult on the side and work closely with companies to develop case studies, while business schools depend on big firms to send students to their executive programs. “This all created a tendency to go along with the business community, to not be too critical,” Lorsch says.
These days, there is a genuine sense that something’s gone badly awry. At Wharton this spring, a new class on the financial crisis filled its 300 spots in less than 48 hours. Economic theories that would have been heretical 20 years ago—the idea, say, that people and markets don’t always behave rationally—are being greeted with fresh interest. At Harvard, informal debates are said to be breaking out in faculty lounges about whether professors should focus more on teaching students how to run businesses that are sustainable in the long term, rather than just pawning off the latest hedging techniques.
Still, the changes amount to something less than an outright revolution. When I asked current MBA students what sorts of things they weren’t hearing discussed in class, the list of still-too-delicate topics included whether executive pay schemes might have led people to take excessive risks, whether investment banks are really “value creating,” and, of course, what role MBAs might have played in the current crisis. Rakesh Khurana, a professor at Harvard Business School, told me that business schools still need to have a perhaps-uncomfortable discussion about their broader purpose in the world—a question that involves pondering “the fundamental relationship between the economy and society.” Not the sort of thing, alas, that’s easy to stick in a textbook.
Bradford Plumer is an assistant editor at the New Republic, a magazine that rigorously examines U.S. politics, foreign policy, and culture. This article was excerpted from the April 1, 2009, issue; www.tnr.com.
The New Republic is our 2009 Utne Independent Press Award winner for political coverage.