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Miscellaneous Felix Salmon Review
MISCELLANEOUS FELIX SALMON REVIEW....Felix Salmon:
I've now reached the point at which I simply don't believe people when they say that lower pay for bankers will result in worse performance — especially since it looks very much as though it was higher pay for bankers which was at least partly responsible for much of the present crisis. Let's bring down pay, a lot, and see whether performance really falls.
The financial system went for decades, quite happily, without monster paydays: why can't we go back to those days? No one thinks we need to pay the Treasury secretary lots of money to make sure he's "working hard"; why are bank CEOs any different? And insofar as lower bank salaries would drive America's best and brightest into other sectors of the economy, that would surely be a good thing.
Hear hear — and not just for banks. Our economy worked just great back when CEOs were paid 50x the median salary, and I don't see why it can't do so again. The most efficient way to make that happen, of course, is not to directly cut CEO pay but to pay line workers more. Not only would they spend that extra money on actual stuff (as opposed to idiotic investment scams), thus helping drive the economy upward, but it would automatically reduce the pot of money available for all the suits. It's a twofer.
In other Felix Salmon news, he says I got a couple of things wrong in my super-senior tranche post yesterday. First, he says that the synthetic CDO market is smaller than the cash CDO market, not bigger, and also that banks mostly didn't keep synthetic CDOs on their books at all. Rather, they kept the real CDOs and sold off the synthetics. Noted.
Elsewhere, Felix points to a post by Sam Jones that explains super-senior tranches in yet another way, and it's worth reading on the off chance that you have an obsessive interest in this stuff. If you don't, though, here's the conclusion:
The risk is with the noteholders of the synthetic CDOs. And just as with [asset-backed] CDOs, those noteholders are likely to see some very severe losses. Synthetic CDOs are only now about to experience the same kind of dramatic collapse that plagued ABS CDOs way back in late 2007 and early 2008.
The trigger will be the growing number of corporate defaults, which just like assumptions on subprime mortgage defaults, was, in many synthetic structures, underestimated. Barclays analysts see a "rising tide" of synthetic CDO downgrades on the horizon. Downgrades which could well have huge regulatory capital requirements on the super-senior positions banks have on their books.
Oh goody. And for what it's worth, this is why I'm interested in all the gory details of this stuff. Ezra is right that the housing bubble underlies everything (though it might not next time....), but the financial rocket science really did kick everything into another gear. Understanding it is not only interesting for its own sake, but also provides some insight into how everything unfolded and what's going to happen next. Though, at this point, I admit that I'm not even sure I want to know.
Thanks for asking the right questions. You, the links and the commenters on this blog have helped me a lot to get some handle on what's happening. Keep it up!
I agree that CEO's are way overpaid, and line workers definitely deserve to see their median wage increase over time as opposed to stagnate. I don't think any sensible person would disagree with that.
Let me just say that while both of those things should happen, if we really want to regain the mantle of world's most innovative nation, we need to do a better job of rewarding innovators who make meaningful innovations that broadly increase the standard of living, or increase the world's knowledge in some fundamental way. Too many brilliant kids in college opt out of the hard sciences and into the financial market's because that's where the money is, and money is what the culture puts the emphasis on.
Facebook is awesome, without a doubt, but i'd trade facebook for a hydrogen car in a New York minute.
It is revealing that the Left, all the way up to their most powerful levels, are obsessed by the irrelevant issue of executive compensation.
It shows what they really care about.
mark r: we need to do a better job of rewarding innovators who make meaningful innovations that broadly increase the standard of living, or increase the world's knowledge in some fundamental way
Communist!
Executive compensation is entirely relevant. Not for the actual dollar amounts, but because the greed drives people to make business decisions that are based solely on their bonus and pay structure, not on running the business well. Easy way to tell which companies make decisions based on executive bonus and compensation is to look at the companies currently filing BK and needing to be bailed out by taxpayers.
A well run business that made smart choices will survive a downturn just fine.
I'll ignore the post by "a", who obviously has no clue.
I would be in favor if Obama would propose a limit on compensation. Let's say:
1) Maximum 50 times the compensation of the other workers in the company.
2) The base would be calculated by taking the lesser of either the mean or average of every employee.
That would not limit the compensation for the CEO, it would merely mean that in order for him/her to make more money, every single person in the company has to earn more money.
It's a win-win for everybody involved.
Sure, you can argue that 50x is way too generous, but it would be embarrassing for any CEO to explain in front of congress WHY they deserve to earn more than 50 times their employees.
a: It is revealing that the Left, all the way up to their most powerful levels, are obsessed by the irrelevant issue of executive compensation.
Well, it doesn't seem to be irrelevant to the executives.
Nevertheless 'a' (if that's your real name) you shouldn't be fooled by our smokescreen tactic. We could care less how much The Rich are paid. After we kill them and eat them (using a variety of recipes in keeping with The People's cultural heritage) we shall simply return their ill-gotten gains to The Party.
QED
This strikes at the heart of the central tenet of the Republican: that we need lower marginal tax rates for higher income people to keep the economy growing.
Because what's the point of paying people huge amounts of money if the govt takes the bulk of it?
I say let's go back to Eisenhower era rates when the top rate was around 90%. The economy did fine back then.
Actually, I think it was JFK who first lowered those rates. It's been all downhill since.
Much of the problem with CEO compensation is how it is structured. It is often half or more in bonuses and stock options that are premised on short term profits, and so CEO's, being rational self-servers, run their corporations in ways that neglect and even undermine long-term goals.
I read a few years ago that the college professor who came up with the idea of stock options has more recently decided it was mistake.
Re blaming the bubble, a lot of the blame has to be placed on risk models, which were either spectacularly incompetently wrong or cunningly fraudulently wrong. (Or perhaps right, but ignored.) It will be interesting to read the textbook chapters that are written about the root causes of this financial meltdown. So far I've seen reasonable arguments that blame (a) real estate bubbles in the US and elsewhere (b) ludicrous levels of leverage, magic, and leveraged magic (c) suggestions of bad risk models (c.0) suggestions of risk models that underestimated correlations (c.1) suggestions of risk models that underestimated the likelihood of a bubble pop (c.2) suggestions of risk models that underestimated the severity of a bubble pop (c.3) suggestions of risk models that were incapable of evaluating new products (e.g. 110 percent no doc arm loans to people with bad credit ratings) that had never been through a business cycle.
I'm really surprised at KD, he doesn't usually miss this sort of thing. I guess he musta slept at an anti-holiday inn express last night: KD wants to get to 50:1 CEO/dishwasher by raising the pay for the dishwasher. But current CEO pay is more like 400:1. Raise the peons wages by 8 times. That only works if productivity increases by nearly eight times, lets say seven for the sake of argument. So we either keep the company output the same -and fire six out of every seven workers. Or we keep the employee count fixed, and increase the output by seven times. Spread this across the economy, and we need seven times the GDP previously. Obviously we aren't gonna have the physical resources to do this. The reality, is the average wage can't really change, unless GDP changes by a similar factor. Relative wages can change, but for the most part it is a zerosum game. Kevin, you gotta cut the CEO pay to do what you want.
To end the nitpicking. It is less the amount of pay, but how it is rewarded. Currently the big rewards are executive stock options. If an executive can spike the stock price and sell, that is how he cashes in. No need for a long term commitment, just one lucky option exercise, and he is home free. We need to make compensation contingent on long term goals, not short term manipulation. Then, at least the incentives would be right.
I find the argument about keeping CEO pay as high as it is to be akin to the argument that the RIAA makes about intellectual property rights being the only model to encourage musicians to produce music: it's all self-serving bullshit. There will always be creative people who want to play good music, and there will always be talented managers who want to make their mark in the business world. You don't have to pay outrageous sums of money to promote superior performance.
Banking and finance need to become boring again. Boring earnings = boring executive compensation. Empowering shareholders and making boards more separate from management (usually boards consist of management stooges and management itself) would help keep pay down in all sectors.
Bill Arnold: risk models, which were either spectacularly incompetently wrong or cunningly fraudulently wrong
I like your way with words. That sums up my verbose (but nevertheless extremely clever and enjoyable to read) rants on the subject.
We could care less how much The Rich are paid. After we kill them and eat them (using a variety of recipes in keeping with The People's cultural heritage) we shall simply return their ill-gotten gains to The Party.
Alex, you rule, and always have...
G. Powell, upthread, hits the nail squarely. A high marginal tax rate is the ONLY mechanism I'm aware of to effectively limit executive pay.
Others here mention laws or regulations -- "limit pay to 50x the average worker's pay," that sort of thing -- which in fact would be far more intrusive into the economy than our political process (and public opinion) would probably ever permit. (And, for that matter, such laws would probably be un-Constitutional, too).
The fact is that executive pay is set by executives. And they will ALWAYS think they and their peers are worth whatever they can squeeze from their companies. Strong unions might help hold this in check a bit, and higher pay to workers might limit how much executives could grab onto. But in the end, if executives will benefit by setting their salaries at obscene levels, they will do so and nevermind how much money the stockholders ultimately get.
There's a reason that Ronald Reagan made the progressive income tax one of his early and preferred targets when he entered office. I remember being appalled that Reagan was able to stampede Congress -- including a Democratic-controlled House -- into gutting the progressive income tax structure. Of course, the Democrats were up against decades of rightwingers howling about the "over-complicated" tax code. Little did the average Joe or Jane out there realize that Reagan's "simplification" of the tax code was pretty much restricted to annihilating the one portion of it that actually helped the average Joe and Jane.
Our economy worked just great back when CEOs were paid 50x the median salary, and I don't see why it can't do so again. The most efficient way to make that happen, of course, is not to directly cut CEO pay but to pay line workers more.
Huh? Quadruple everyone's pay except the top few? There aren't anywhere close to enough resources in the economy for that.
I agree and the whole boardroom clique needs a look they are usually all pals who sit on each others boards. And since Sen. Shelby thinks anybody less than a pol or ceo should work for minimum wage, maybe my doctor will have to take a big cut in office fees or new cars will have sell for $5000
Mind you, we used to have a better class of executive:
http://www.nytimes.com/2007/12/23/business/23wealth.html?pagewanted=3
"George Romney, on the other hand, voluntarily turned down $268,000 in pay over five years when he was chief executive, which was equal to about 20 percent of his total pay during that time. In 1960, for example, he refused a $100,000 bonus. Mr. Romney had previously told the company's board that no executive needed to make more than $225,000 a year (about $1.4 million in today's dollars), a spokesman for American Motors explained at the time, and the bonus would have put him above that threshold."
Sort of on topic, what I'd like to see is tiered capital gains taxes, with different rates according to the type of investment. The lowest rate would be for investing directly in a company that makes or does something. This would not include buying stock on a stock market from another investor, because that doesn't add money to the company's useful money supply. I mean instead either investment in start-ups or buying shares directly from the company that issued them, any kind of investment where the money goes to the bank account of the corporation rather than the bank account of investors.
A higher tier might be stock gains, should there ever be any of those.
The highest tier would be returns from financial instruments. That is, pay lower taxes on investments that increase production and higher taxes on investments that just repackage money.
Taiwan did something like this fifty years ago, imposing higher taxes on financial than productive investments, which is why it became such a productive country.
I surmiSe that you are attempting to foment class warfare.
GOOD FOR YOU
I don't mind a company being completely free to waste it's money and compensate it's CEOs in ways that are silly, frivolous and which lead to the bankrtupcy of the company, except when it endangers everyone else.
How to regulate those situations isn't entirely clear.
Isn't it curious that when someone says we should increase the pay of workers the response is that the economy would have to increase output for that to work, but when an increase in the compensation of a CEO is mentioned there's no discussion of productivity or output?
BTW, you could increase everyone's pay 1000000 X and it wouldn't matter much. The retailers would just raise their prices and absorb it all. We'd be right back to where we are today in about a week or month. That's why a minimum wage increase has short-term effects and taken to the extreme merely hurts people whose incomes don't go up the same amounts.
How does the government decide when a company is 'too big to fail'?
And, how should a company regulate such a company?
Where is the proof that a CEO
who makes more than $5 million a year (including options) is superior to those who make less?
Wall Street started this scam and most American industries have now fallen in line.
The real answer is for Boards of Directors to discover they can outsource top executive decision maker positions. When it turns out these $25+ million per year guys are not needed, the game will change.
What you are witnessing is the forced-marriage of self-preservation and privilege. If they have to kick a few executives overboard to prevent the titanic of pay-scales from sinking, they will.
"Limiting executive compensation" is just a token concession which allows the vast majority of other well-payed individuals to keep rolling in doe.