Getting in Deeper
Stay out of executive pay.
In what the Wall Street Journal calls “a watershed moment for government intervention in the private sector,” the Federal Reserve announced yesterday it will regulate executive compensation at all banks so they will not have incentives to take on too much risk. Fed chairman Ben Bernanke said his purpose is “to ensure that compensation packages appropriately tie rewards to longer-term performance and do not create undue risk for the firm or the financial system.”
Meanwhile, the Obama administration said it would cut by half (on average) the compensation of the highest-paid people at the seven companies still on taxpayer life-support: AIG, Bank of America, Citigroup, General Motors, Chrysler, GMAC, and Chrysler Financial.
So here’s today’s puzzle: Is such government intrusion into the compensation process a good or bad thing?
Before answering, let’s remember that the taxpayers have been compelled to rescue lots of companies, banking and otherwise, over the last two years. The people’s exposure is immense. Just the other day Neil Barofsky, special inspector general for Treasury’s financial sector rescue, said enormous surprise bailout costs will befall the country in addition to the $159 billion the Congressional Budget Office projects TARP will lose. Barofsky was referring to the cost of government borrowing and the potential cost of rewarding risky behavior: “With the potential of moral hazard and ‘too big to fail,’ the government could be setting itself up for an even more dangerous crisis in the future,” he said.
Besides that, the Fed has been buying up billions of dollars in “toxic” (that is, worthless) mortgage-backed and other paper with money created from thin air. The new money threatens to ignite a monster price inflation when the banks begin to lend it. The impending dissipation of the people’s wealth at the hands of the Fed(eral Office of Counterfeiting) is another cost of the bipartisan government bailout of corporate finance. It’ll be a massive tax on the middle and working classes.
Well, then, shouldn’t the government have something to say about what goes on in those companies on the dole, executive pay in particular?
It’s tempting to say yes, but I think the best answer is no. I’m not totally comfortable with that answer, but it seems better than the alternative.
They Ain’t Us
First off, we must reject the propaganda that the Treasury and the Fed are acting as the taxpayers’ agents by taking control of corporate compensation. Nothing can be further from the truth. They are the taxpayers’ adversaries and are only looking out for themselves. After all, they are the ones that exposed the taxpayers to these huge liabilities in the first place. The companies did not bail themselves out. (Some did not want the money.) They didn’t ask the American people to send in voluntary contributions to help them through hard times. Instead, they relied on the coercive State apparatus to be rescued from the consequences of their own risky strategies. (Yes, in a variety of ways the government created the incentives that led to those strategies. The politicians are ultimately the responsible parties. But some companies avoided the trap and didn’t need help.)
Therefore, it’s not really the taxpayers’ money that the politicians are looking out for. In real terms, it’s their money. Sure, all wealth possessed by the State comes from the taxpayers. But once government operatives seize it, it’s not the taxpayers whom they are concerned about. The Bush administration tried to sell the public on the bailout by suggesting that the toxic assets (or bank shares) acquired by the government might one day be resold at a profit for the taxpayers. But that’s balderdash. Let’s say the assets do sell for more than the government paid. Will taxes be cut to reflect the profit? Will a planned tax increase be canceled? Fat chance. Politicians tend to spend every penny they can get their hands on — and then some. It is they who would profit, not the taxpayers. They ain’t us.
We really have to stop thinking of elected officials as our representatives. That kind of talk is just their way of keeping us from realizing what they are doing to us.
Another reason to oppose government conditions on bailout money is that they are likely to make things worse. When the banks were accused of using the money not to make loans but to buy other banks, I wondered if we really want bureaucrats and politicians prodding banks into lending. Isn’t that what helped create the financial problems in the first place? I seriously doubt whether anyone at the Fed or Treasury is qualified to design compensation packages that encourage just the right amount of risk but not too much or too little. The term “pretense of knowledge” comes to mind here. The Fed and U.S. Treasury are certainly imposing institutions, but so was the Wizard of Oz. Remember who’s behind the curtain.
Bad Precedent
A third reason to reject this government intervention is that it will serve as a justification for further intervention. If bureaucrats can set up pay schedules for bailed-out companies and regulated banks, it won’t take much for them to find pretexts for guidelines — or other forms of intervention — in other circumstances where systemic risk is real or imagined. Pay czar Kenneth Feinberg says he hopes the pay scheme will become a model for the rest of Wall Street. What’s to stop him now from giving the firms a little push in that direction.
The Journal is wrong to call this a “watershed moment,” because government has been deeply intertwined with banking for generations. Since 1914 at least, the country has been under the thumb of a formal banking cartel through the Fed. Every aspect of banking is controlled. (Not that the big bankers mind.) So dictating pay guidelines is not quite as radical as it seems. Nevertheless, it is a further step, and any such step will be cited later as a precedent for the next one, and so on.
My final reason for saying no to the pay czar and bank regulators is that I want to make sure that such bailouts never happen again. Maybe the people will be less likely to acquiesce the next time if they see the current corporate rescue for the plunder it is.
The only good reason I can think of for okaying the government’s plan is that it might lead other companies to refuse bailouts in the future. But I’m not too sure about that. Bank executives nurtured by state capitalism might be happy to live with guidelines as long as the taxpayer money keeps flowing. The truly talented personnel will just head to unregulated parts of the economy.
We can’t change the past. The bailouts happened. Now we have to deal with the consequences, and there are no good answers. Corporate executives whose conduct was likely influenced by their belief in a government safety net (which turned out to exist) and who deserve no sympathy from the taxpayers got hold of our money anyway. The only question now is whether we let the government make things worse. We should concentrate on stripping government of the power to bail out companies in the future. We should also begin to fully separate State and banking. A good start would be to abolish government deposit insurance, which only lulls depositors into a false sense of security and creates the very systemic risk the regulators say they want to avoid.
Comment by ken green on 23 October 2009:
This is an awesome piece of simple reason. But it just makes me sad.
Comment by Derek on 23 October 2009:
This is a good article, but all I ever read is how we should do this or we should do that. As tough as it is to
say, is there anything we CAN do? The American public is so far out of touch with politicians these days, and they’ve got so much protecting them. What can we do to get the bad ones out of office? How will we know what we replace them with won’t be just as worse as the last? How can we get them out NOW and not have to wait until reelection for their seats? So many questions and there is never anyone to answer them. There are so many problems with our corrupt government and there has been for a while now. I love America and what it’s supposed to stand for, but lately I’ve found myself contemplating leaving the country. This place won’t get better because the people that try to change it are seen as “crazy conspiracy theorist” by the media making the simple minded “media followers” (which sadly happens to be most of the public) think of a person trying to make this country better as a bad person. Money has ruled this country forever, and it always will. The American dream, for me, is to have America back.
Comment by Aron Martens on 23 October 2009:
To Derek,
I understand your frustration about what can we do to stop all of this. We as economists do a poor job of offering possible solutions. I believe the problem lies in democracy itself. I highly recommend that anyone interested in a solution read Democracy the God That Failed, by Hans-Hermann Hoppe. In this book Hoppe argues that Democracy leads to a process of de-civilization, the very thing that we are seeing in the current environment. What I like about his book is that he offers some hope on how to reverse this process. This book should be on the reading list of every college student and its principles taught in every high school across the country.
Comment by Pat on 23 October 2009:
Aron,
As I recall, “Democracy, the God that Failed” suggests a society protecting itself with omnipresent insurance companies for one thing or another. Not a good answer!
How about we reclaim our educational, business and government institutions with a return to responsible, moral behavior, starting with the individual?
Comment by william white on 23 October 2009:
Not a libertarian solution but Milton Friedman’s idea that insured deposits be invested solely in USG guaranteed securities would be a good place to start the weaning process. Instead both majors here and in the EU are waiting for BRIC to bail them out. Last word I got was that the banks in Brazil, Russia and China were in more serious trouble than US banks and in the case of India banks only marginally more solvent than the G-7 banks. Yeah, they’re going to rescue us.
Comment by David Hudspeth on 23 October 2009:
Unfortunately, we are getting what we deserve; by “we,” I mean the American electorate. Our society became so smug, again, after 9/11, that the current state of affairs may STILL not be enough to stir us from the coma we’re in. Hopefully, I’m wrong. The beginning of the reversal of events which I believe we desire, can take place with the 2010 off-year elections. God willing, as a nation, we will rise to the occasion!
Comment by Ben on 23 October 2009:
I’m against limiting executive pay in private companies, but if they have received taxpayer money, that’s a way different matter
Comment by Aron Martens on 23 October 2009:
To Pat,
Hoppe did not refer, as you do, to omnipresent insurance companies, but did refer to insurance companies as an alternative to providing security services. It seems to me that insurance companies in competition with each others might provide a superior product to that produced by the monopoly run police forces and the military industrial complex. Hoppe did not offer insurance companies as a solution to run the economy in place of government. Even if he did, could it get any worse?
Your comment regarding a return to moral behaviour is a good one. Hoppe also suggests that Democracy results in the de-civilization of society. Perhaps abandoning our fixation with Democracy might help provide the incentives for more moral behaviour.
As to “how about we reclaim our education business” I am in full agreement as is Hoppe. A privatized competitive education system with a variety of products and costs would allow all users to be treated as true consumers and would provide an infinite array of choices and would put parents rather than bureaucrats in charge of our most precious resource.
Comment by Chris Sullivan on 24 October 2009:
The government long ago asserted that it has authority over
wages by mandating a minimum wage. This is just a development
of that principle. If they can dictate a minimum wage,
they can dictate a maximum wage.
Comment by Sheldon Richman on 24 October 2009:
Ben, it is a different story — but not different enough. Every time I find myself leaning your way, I think about who would be setting the pay rules. Then I lean back the other way. Giving the state additional power even for a “good reason” is a very dangerous thing.
Comment by Alma Jurgensen on 24 October 2009:
We’ve seen what de-regulation has wrought. It ran rampant during the Reagan/Bush years. It was during the Clinton years that we discovered that the ‘market’leaves much to be desired: Messrs Greenspan, Rubin and Sommers were warned by one, Brookslie Born, that the derivative market demanded watching. She was roundly condemned by the aforementioned threesome. Her position in a non-descript overseeing job left her unable to make a difference. She offered her resignation to Pres. Clinton and we’ve not heard from her since. When asked by a Congressional Committee why she was so focused on the derivative market she replied that she was worried for the American people. The derivative market lives without anyone watching over it and worse few to none (including Greenspan) can tell you how it operates. Yes to regulation…if companies take one dime then that dime comes with strings attached.
Comment by Capt. A. on 24 October 2009:
To paraphrase Ludwig von Mises from an interview long ago in which the interviewer was asking about another problem the government had created, “What should the government have done to stem or solve this horrendous problem?” Mises reflected for a moment and then said, “They (the government) should have done ‘nothing’ … earlier!”
Since Mr. Starr lives about 2-blocks up the street from me (La Condamine), I shan’t even consider that Mr. Starr would mind if I quote him; chatting with him at the sidewalk café on occasion, he’s friendly enough to confab with Monégasque—Monacans, and I’ve first-hand heard him make his well-known statement about the British government:
Beatles drummer Ringo Starr: “Everything the government touches turns to crap.”
**************
That succinctly sums up EVERYTHING dealing with or about the United States government as well. Now the U.S. government setting limits on pay? Poppycock! There is no real freedom, liberty, privacy or private property in the “land of the free.” The United States is a place to be FROM.
C’est la guerre,
Capt. A.
Principaute de Monaco
GMT +2:00 CET
Comment by MBA on 24 October 2009:
Pay czar Kenneth Feinberg has said that he will have to move to Pluto to escape the anger that his decision to cap pay will produce. No, Mr. Feinberg. You should move to Moscow circa 1950.
Comment by Dredd on 24 October 2009:
The “intervention” into the private sector which the government has done is to be “point man” for the plunder barons; those who used to be called the “robber barons” when it was illegal to plunder the public treasury.
Comment by Novista on 24 October 2009:
Funny thing about those “robber barons” (a term created by Matther Josephson)
of the 19th century — all the railroads, save one, were subsidized by the U.S. government. With ‘free land’ and other perks. And the inevitable fraud, corruption and ineptitude that comes with crony ‘capitalism’.
The one successful railroad, the Great Northern, began with James J. Hill’s own capital, expanded with private investment, was efficiently built with the most efficient route planning — and made a profit. Not a penny from government. Nor land.
Fraud was illegal even then … so nothing has really changed.
Comment by Sheldon Richman on 25 October 2009:
Alma writes: “We’ve seen what de-regulation has wrought. It ran rampant during the Reagan/Bush years. It was during the Clinton years that we discovered that the ‘market’ leaves much to be desired….:
Your history is off. The era of deregulation was launched by President Carter and Sen. Kennedy: trucking, airlines, oil prices, etc. It was completed but not initiated under Reagan. The last major piece of bank deregulation, Gramm-Leach-Bliley, came under Clinton when was Summers of secretary of the Treasury. Shakes your worldview a bit, no? By the way, none of this deregulation caused the financial crisis.
Another point: deregulation is not all that’s required by the laissez faire advocates. Just as important is abolition of all business subsidies, guarantees, and privileges, such as the “too big to fail” doctrine. Deregulating without desubsidizing is a fraud because the downside of risk is socialized, while the upside is private. So even if deregulation had occurred, it would not be to blame because all the privileges were still in place.
Comment by FriendsOfLiberty on 25 October 2009:
Sometimes I long for a rich person to found his own bank, one that would be ultra-competitive with the rest of the banking cartel. But then, he’d become regulated anyway. When is this insanity going to end?
Comment by MarkZ on 28 October 2009:
When you sell your soul to the devil, you actually have to give up your soul in the exchange. In this case, “soul” happens to be CEO pay. Ok, bad analogy.
Sheldon, you talk about the bad precedent it sets. That’s rather obvious. But (how’s this for silver lining?), I think it may also serve to deter companies in the future from plunging mouth-first onto the government’s teet. If a CEO, or a board, or whatever (wealthy) decision-makers realize that asking for a handout will mean that they’ll have to trade in their Rolls-Royces for BMWs, then they’ll probably think twice.
Forced to choose between the precedent of limiting exhorbitant pay and nationalization of industry, I think most of us would take the former. Unless you’re like me and you want to see the empire unravel as quickly as possible…
Comment by Dr. Steve on 29 October 2009:
Will the government wait for an invitation in the future? How much of a stretch is the notion to “protect” the economy big brother will need to be proactive? The foot is in the door…….