Golden Parachutes & The Case For Old Money September 29
So one mantra that keeps being repeated during this financial crisis is that executives in the financial industry shouldn’t be rewarded, e.g., with golden parachutes, for their bad judgment. Now obviously the government should insure these executives don’t come out of this any better than they would if the government didn’t intervene. For instance if an executive would have received a much smaller pay out if the company went into bancruptcy and the government steps in to prevent this the executive shouldn’t profit from the government’s action. However, far from being a matter of commonsense fairness forcing these executives to give up the contractually required and legally guaranteed compensation they are do is the height of unfair government seizure to satisfy rabid populist motives.
Don’t get me wrong. I’m not claiming that executives aren’t paid too much1 and I certainly believe that the way executive pay is set ought to be reformed, probably via government regulation. However, the fact that executives pay is too high doesn’t justify taking it away after the fact. There are a ton of people who are overpaid relative to what their job performance is worth. Maybe it’s postal workers, or perhaps skycaps, certain real estate agents or maybe the clerk at the local video store2 who spends his day watching movies. But regardless of which wage earners you think have overpaid jobs would you think it was fair for the government to step in and confiscate their pension after the fact because ‘they didn’t deserve it for the work they did?’ Of course not. Just like overpaid wage earners these financial executives had other jobs they could have taken but they choose the jobs they did partially because of the compensation the contracts and the law guaranteed them even if things turned out poorly. The legislature may want to change the laws to prohibit these kinds of contracts in the future but those executives who choose to work in the financial sector based on the legal framework at the time shouldn’t be blackmailed out of the compensation due them so the legislature can cover it’s ass for not having these laws already on the books.
I’m also skeptical that these executives truly demonstrated bad judgment. Certainly they demonstrated poor judgment as far as preserving the long term worth of the companies they ran. However, even the best of us, whatever our intentions, are influenced by human level incentives. Even if we deny executives golden parachutes when their corporations fail we can’t take back the high salaries paid out during the upside of the bubble. Moreover, there isn’t much we can do to change this. People, even executives, want to know their compensation is in their hands not wait on it for many years as we would have to do to eliminate the incentives to participate in the upside of a bubble. But even more important than the economic incentives are the social incentives.
We are wired to want to be on top of the heap and executives are no different. Making record profits gets you on the cover of Fortune, the admiration of colleagues and all the other benefits of being the man of the hour. Playing it safe and conservatively managing your company brings only the questionable pleasure of schadenfreude when the bubble finally bursts. Worse, a system of (purportedly) merit promotion virtually guarantees corporate executives are unduly risk prone. By rewarding those who seem to have made the best deciscions in the past we are effectively selecting for those individuals who took risks and got lucky[^lotto]. If you reward the people who made the most money last year your virtually certain to get someone who bought a whole lot of lotto tickets.
The upshot of all of this is that old money may not be such a bad thing. If you are the CEO because the corporation has been in the family for generations your at least not selected for being a gambler. Additionally your incentives are much better aligned with the long term interests of the corporation (and the economy at large). As a Ford, Dow or what not the lure of immediate fame is reduced while the social pressure not to squander your family wealth is increased. I’m not sure if this has any real world significance but it’s something interesting to think about.
-
Frankly, I don’t know. My educated guess is that the executive compensation system as it stands now is highly inefficient and thus overpays for the talent it attracts. However, a more efficient system might very well pay similarly (or more) but just achieve higher performance as a result. ↩
-
In places where blockbuster isn’t competing yet. ↩
If you haven’t yet, you should read Nassim Nicholas Taleb’s books, notably Fooled By Randomness.
You’re correct that there is no good reason for society to try and restrict the pay of executives in general. They can get away with it, it makes for great conversation over shrimp cocktails at the yacht club, and no one seems that much worse off in the long run. (To the extent that their profession is about inventing money out of thin air, it’s not like they’re sweatshop owners or anything. Let them have their fun.)
The tipping point comes when, after a decade of their bad judgement has essentially destroyed the American economy as we know it, the public as a whole has to bail them out. The market is not going to make them pay for the damage they’ve done. If the mess is on our hands now (and even if Congress never explicitly gives them a dime, the situation is large enough that it is our mess for the foreseeable future) then so is the fate of these executives, and it’s time for heads to roll.
A look to Taleb might remind us that, just as 90% of these executives coasted to success on pure odds and so arguably didn’t deserve their massive bonuses, now that the situation has hit the fan (as it were), the punishment for the reckless and indefensible actions of the corporations under their command should be as indiscriminate.
They can’t have it both ways. Either their ridiculous pay is a reward for steering the great ship of the American economy through calm waters, in which case their drunken sojourn into an iceberg of their own design speaks directly against their deserving another breath of free air, or they are hapless goons at the whims of forces they will never understand or control. Either way, the party is over and they should be grateful for whatever clemency the people deign to allow them.
In a saner society they’d be tarred and feathered. Today, there should be extensive investigation, public trials, massive fines, and liberal jail time. If your industry is so big that the health of the nation (and a large part of the globe) depends on it, then you assume commensurate responsibility for the machinations of that industry. You might say: you takes your money, and you takes your chances.
Maybe that’s rabid populism. I think it’s just common sense.