In case you haven't heard, the Pay Czar, Kenneth Feinberg, just started instituting pay cuts at Wall St. firms that used TARP money:
Mr. Feinberg, the Treasury Department's special master for compensation, will lower total compensation for 175 employees at seven firms including AIG, Citigroup, Bank of America and GM, by an average of 50%, people familiar with the matter said. He will also demand a series of corporate-governance changes at the firms, including splitting the positions of chairman and chief executive officer; requiring boards of directors to create a committee to assess risk, and eliminating staggered boards.
Some of that actually sounds not so bad, such as splitting the positions of chairman and CEO. However, this is not the way to go about fixing anything! What is Feinberg trying to accomplish? Here's the best I've found:
Summers said Feinberg's rulings -- which are expected to be publicly released in the coming days -- will ensure taxpayers' interests come before those of shareholders and incumbent management at the beleaguered firms.
Let's do a quick history. First of all, lest we forget, the government forced these companies into accepting bailout money. Some argue that hey, if you take public money, you have to be prepared for public oversight ... but they didn't have a choice! Beyond that, it's not as if there were any particular requirements associated with the TARP money. For example, one way to look out for taxpayers might have been to get the banks taking TARP money to lend more, during a time when credit was/is tight. Did that happen? No. "Geithner did not require the Big Banks to loan money for commercial loans as a prerequisite for additional borrowings from the Fed."
And now Obama & Co. start trying to trim their pay? What are they accomplishing?? All that I'm seeing here is this: Dear Big Banks, if you get in trouble, we'll give you tons of money. In fact, we might even force it down your throats, but at least no matter how bad you screw up you know you won't go under. Then we'll let you do whatever you want with that money and achieve mind-blowing profits during a recession, which will naturally lead to fantastic compensation and plenty of public outrage. And since we used to work on/with Wall Street, we could basically predict all this would happen. And it's kinda messed up that we used to work with you and now we're giving you more-or-less free public money, but hey, that's what friends are for! But look, we'll have to pretend to be totally bewildered and fake some anger at you so the public doesn't tar-and-feather us.
Honestly, as far as I can tell, that's more or less the story so far. Ugh. Instead of focusing on useful policies that might prevent future issues (such as reinstatement of the Glass-Steagall Act, or something similar, which is sadly looking like it won't happen), they do worthless stuff that won't even really have a lasting impact:
Pay is the wrong way to tackle this problem. It’s a lazy, crowd-appeasing, intellectually dishonest approach. The out of line pay is a symptom, and any attempt to treat symptoms as causes is likely to be ineffective, more likely dysfunctional.
...
Now why is trying to control this through pay not such a hot idea? First, one hundred years of performance appraisal systems have proven them to be abject failures (aa 1992 paper by
Patrick D. Larkey and Jonathan P. Caulkin, “All Above Average and Other Unintended
Consequences of Performance Appraisal Systems,” did a brilliant job of dissecting why, but it was too heretical to get published. You can read a few key points here in the section “The Illusion of Meritocracy”). Second, comp systems are supposed to solve what is called a principal-agent problem. You the person hiring someone to work on your behalf wants to make sure they are operating in accordance with YOUR best interests in mind, not theirs.
But what did we learn from 20 years of executive rewards schemes that had lots of equity incentives that would supposedly align the interest of top brass with that of shareholders. We got instead an explosion of CEO pay and companies that are so fixated on quarterly earnings that they are reluctant to invest in growth. How did that come to pass?
BECAUSE THE AGENTS AND NOT THE PRINCIPALS DESIGNED THE PAY SCHEMES! The foxes were running the hen house. Oh, sure, we had some fig leaves, it was the HR department that hired the compensation consultant, and the board (nominated by the incumbent management) that signed off on it, but it is pretty clear that a comp consultant that did not deliver a CEO-wallet-fattening plan was unlikely to get much repeat business.
And is anything going to be materially different? No. The conventional wisdom is that having employees take a high level of pay as equity is a magic solution, conveniently forgetting that Bear and Lehman both featured very high levels of shareholding among its top management and employees. Feinberg is only intervening in outliers, to collect a few scalps. He is in a very difficult position and is trying to make the best of it.
The financial services industry now has an unimaginably rich deal: privatized gains and socialized losses, and with tons of leverage too, which amps up the apparent profits and hence the pay levels these looters can claim they deserve. The way to attack this problem is to constrain the level of risk assumption. That in turn requires understanding the products and the markets, something the authorities have completely abdicated. With so much “talent” looking for jobs, now would be the perfect time to invest in catching up.
Sorry for the angry, poorly-written rant. And please keep in mind, I'm not exactly trying to defend banks here. In fact, I think I've been quite open on this blog about how immoral they've been and how dangerous they are to our country as they're currently constructed. The point here is, nothing useful is being done to correct this! All this Pay Czar junk is just political maneuvering. Real reform is not happening.
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