Cap Executive Pay

A powerful social science theory, much advanced by Robert Frank of Cornell, provides a strong rationale for setting a ceiling on the incomes of the executives of all corporations that receive public loans, capital injections, or some other favor from tax payers. (Surprisingly many, by the way, if you include specially tailored tax loopholes, credit below the market rates, export assistance, and so on). Before I can lay out what the theory of relative deprivation suggests the next Congress and White House should do in this department, a few words on how we got executives who are paid scores of millions in the first place.

You may well say that the astronomical pay checks -- supplemented by bonuses, stock options, and all kinds of other goodies from executive jets to suites in five star hotels -- simply reflect unfettered greed and the fact that, at least until recently, most corporate boards approved whatever pay schedules their executives put in front of them. (These boards included many of the executives' friends and retirees keen to collect hefty fees for attending an occasional meeting and voting yes.)

All this is true, but do not underestimate the role of Michael Jensen and his colleagues at the Harvard Business School. Professor Jensen was all the rage when I was teaching at what is called "The B School," on the Boston side of Harvard. He was known for his die-hard support of the free market, and his arguments that executives were underpaid. He held that given that executives generate billions in wealth for the shareholders of their corporations, to reward executives for their efforts, their income should rise as the market value of the company rises. Even if they just got a few percentages of the new wealth, Jensen argued, their compensation should have been much higher than it was at the time. No wonder he was the darling of the CEOs who visited the Harvard Business School with great frequency. They paid no mind, and still don't, to Jensen's argument that they should also pay "big penalties for poor performance."

Also, missing in Jensen's and his associates' proposal is any explanation of what, say, an additional million bucks would buy from an executive who is already making twenty. Because I was a member of a delegation that included CEOs, I got to spend several days with the CEOs of Protector and Gamble and of Boeing, and I met some others. I found them extremely hard working people. They worked long days, often taking work home, and traveled constantly from one plant to another, from one meeting to another, with little rest in-between. I cannot imagine that anything could make them work even harder -or, for that matter, that their business would benefit if they took even fewer times out. Nor can I figure out what one would buy--with, say, that last million dollars. An eighth house? Another sports car you have no time to drive?

The answer takes us to Frank and the theory of relative deprivation. Most CEOs use their compensation figures mainly as a measurement of prestige, a statement of their standing compared to other CEOs. They are keen to make more than the next guy or doll. (Indeed, this is the reason European executives, who on average make much less than Americans ones, are just as content as American ones, because their reference group are other European executives.)

A cap on executive compensation would not only save millions for the financially strapped corporations-- and be fair to the tax payers who help these corporations stay afloat-- but would also provide the executives with a new reference point. Anyone who makes the max allowed will have made it. No more need to try to outdo the other, money-wise. Such a ceiling would leave the CEOs free to do what is best for their corporations, the economy, and families-- rather than focus on ways to jack up the price of their stock each quarter.

Micro-blogging: Brother, can you spare a dime?
The executives of Goldman-Sachs just announced that they will forgo their bonuses this year and will do with a "mere" $600,000 salary. Given their performances this year, one wonders why they were entitled to bonuses in the first place. Anyhow, if you are worried about how they will able to do on this meager income, perhaps you could send them a Christmas food basket...

Amitai Etzioni is a University Professor at The George Washington University and author of The Moral Dimension (Free Press, 1988). To contact him, write [e-mail]. www.securityfirstbook.com

Comments

[TXfemmom]

The rich and the powerful develop this sense of entitlement, and they are oblivious to anyone else's pain.

Look at GW as an example.

All these people are greed-driven and they have gotten out of control. The only thing that will correct this is to cap compensation and to investigate this current meltdown, identify those most responsible for it, and then seize all their assets under RICCO statutes, as this has to qualify as a criminal organization set up to promote what was, essentially, a pyramid ponzi endeavor.

[steve12]

I don't think it's the government's business to cap a private business' pay to its employees. However, the government could cap the tax deductibility of that pay. I would suggest the tax deductibility be no more than maybe 25 times the average wage earning employee at that specific company, whatever that might be. It is now 475:1 in Fortune 500 companies. In Japan, it's 11:1. In Britain, it's 22:1.

Let companies pay what they want. Leave it to the stockholders, but don't make the rest of us subsidize that pay.

[ElectDems]

Why not cap their pay based on a percentage of the net worth of the company? Something like 1-2%, if the company is above a certain income level. It would be fairer than an actual salary figure and the cost of living differences wouldn't be a factor as it would be if you used an actual dollar amount.

There would still be an incentive to excel, but if you based the percentages right (and I'm not good with math so I don't know what that would look like), and gave them a ceiling, someone could still be motivated but not take as much of the pie.

I think a percentage-based ceiling might be more palatable to more people as well.

[BillMelater]

There is another way to cap their pay. Tax them at 80-90%.

http://billmel8er.wordpress.com

[Samalabear]

Exactly. That's the way it was until the 70s and the middle class was stable and growing. It's pathetic that so many are going to suffer because of these excesses of this small percentage of the population and the manipulation of markets. Remember "Network"? That's really when all of this big-business-runs-the-world got started big time -- the ushering in of the "me" generation. The wealthy got taxed less and less and took more and more.

[UnstuckInTime]

psst, the "wealthy" pay most of the taxes.

[iambusto]

Cap compensation of Rap Stars, Movie Stars & Athletes first. then lets deal with executives.

CEO's at least run companies that increase chareholder value.

Athletes only make money for themselves (and their sponsors if they are successful). but why should they make over 1 million in endorsements.

What did rap stars and movie stars ever do for me? a ceo at least made me money if my stock went up because of better earnings !!

[jmyoung666]

But CEO's are no more integral than most of the other employees. CEO's do not increase company earnings. All the employees contribute to those earnings as well.

I agree there should not be a cap per se, they just should not be allowed to make more than 30 the salary of the median employee and more than 100 times then lowest paid employee.

[yodaveg]

Okay, calm down, all you survivalists. The gov't is not going to regulate executive compensation"unless the company takes federal bailout money.

However, shareholders can and should revolt.

[Gidster]

So the fact that the top 3 execs from Goldman Sachs each received as a bonus $65 million, on top of their multi million dollar salaries is cool.... Better lay off some more employees, keep those bonuses coming!

[krocklin]

Shareholders never do revolt, do they?
Sheep.

[tomas0808]

Well, there's that but I think the only way to limit their pay is via a guillotine

[jerrypl]

I totally agree that a cap on executive pay must happen. I do not feel that the amount of pay and compensation and benefits (expense acct. perks) is equal to their productivity or the productivity they deliver to the output of the company. There are many career individuals who make less than these folks pay in taxes and work just as long, work just as hard, produce just as much, for a whole lot less. These executives do not deliver what they reap from their corporations.

http://eye-on-washington.blogspot.com

[newshawk14]

My mother was born in 1920, and when she first entered the labor market, most CEO's earned
five times the lowest paid worker. Congressman Jim Webb has remarked, that when he joined
the labor force, most execs earned 25 times the lowest paid worker. The multiplier now is in
the neighborhood of 500 times or more. My younger sister is the director of human resources
for a major corporation, when I suggested that executive compensation committees are in
essence a circle jerk, she burst out laughing and said, "Yes, that's pretty much it".

[DuganS1]

CEOs certainly make way too much money, but the comparison of CEO pay from decades ago to now probably doesn't mean as much as you think, because CEOs have always received a huge amount of perks. Back then they often received more perks because the tax rates on income were so much higher.

[copestir]

I was told recently that the only way to cut costs of health care is to cut back on labor costs. If that is the actual case I think we should cut the cost of the CEO first and then trickle down the savings.

[Veri]

Actually, copestir, one way to make American companies extremely competitive is to go to a single-payer health care system. This reduces the cost to companies in regards to healthcare. Of course, you have to convince the Demo-Republican Party that this is in the best interest of the American worker. There goes the legal bribes, I mean "campaign contributions" to said political party.

Now, if you argue that this raises taxes on the working, I would disagree. There should be a credit for working people. To pay for the shortfall in revenue, close the damn loopholes every K Street lobbyist has created for their clients. Corporate taxes in America, on paper, are one of the highest in the first world. Reality says otherwise.

[RightWingMarine]

As a stock holder I want those executives doing everything they can to boost the stock price. I have no idea what you are referring to when you state that by limiting exec pay we can free those execs to do what is best for the company and stop worrying about the ticker.

Why would any CEO continue to work for the year once they have earned the max permitted? Why not knock off in Spring and come back next year? Or go to work for another company and make the max all over again? Who gets this extra pay we are stealing from the execs? Big government? yeah, their such great stewards of the taxpayers dollars.

How about we eliminate all government handouts across the board? No bailouts, no corporate welfare, no individual welfare, no food stamps, no medicare, no medicaid, no subsidies, no tariffs... Let each industry and business rise and fall on its own merits and stop trying to protect jobs and stop interferring with the free exchange of goods between consenting adults.

[tomas0808]

Yeah, the caveman economy. Brilliant!

[Veri]

Hmmmm... an idealist. What you fail to realize is that capitalism, in your last paragraph, means that those at the top benefit. Capitalism, as currently practiced, is all about exploitation, greed, murder, and profits.

What you describe is an ideal capitalism. Hate to break it to you, but in your ideal world, even you would be poor. Read up on the history of capitalism. How, during the 1930's, corporations had government troops come out and shoot the common man.

Capitalism, in and of itself, is not bad. What it can not survive is the human ego. Communism did not. An ideal is just that, an ideal. The reality is quite different. Greed, corruption, murder, exploitation, war. This is human history.

Stop fantasizing.

[MajorKong]

The closest thing we had to your free-market paradise was in the late 1800s.

Before those pesky new-deal child labor laws we had 8 year olds working in coal mines and textile mills. Before Social Security the elderly lived in abject poverty and frequently died of hypothermia. The economy went through such massive boom and bust cycles that there was a depression every 20 years or so.

It just wasn't quite as much fun as you think it would be.

[WhereIsTheTruth]

"Why would any CEO continue to work for the year once they have earned the max permitted? Why not knock off in Spring and come back next year?" That could easily be headed off by requiring them to work as part of their contract. You know, like the average American. They should be permitted a limited amount of time off and penalized for violating that part of their contract if they do otherwise.

Shareholders should have a greater say in executive compensation and should be able to vote on packages that exceed a certain dollar amount. Further, shareholders should have the right to deny bonuses based upon performance.

[RightWingMarine]

I believe slavery and indentured service have been outlawed in this country but it is interesting that this solution should come up on a liberal blog.

Shareholders already have a right to vote to decrease executive compensation. They are shareholders, they own the company and they vote to determine the leadership and direction of the company.

[ThePeacemakers]

RightWingMarine said:
"Why would any CEO continue to work for the year once they have earned the max permitted? "

I believe the companies run year round. Not seasonally.
If they aren't inspired to do their effing jobs year round - then pay cuts are definately in order.

[Bush 08]

I think a cap is long overdue... and using the public backed loans as a way to "get the ball in motion" is a great idea...

[Overd0g]

By what authority would the government decide how much private citizens pay each other? I've scoured my constitution and find no such power. If such a thing were ever attempted, I'd say revolution would be the only possible recourse for the people.

[MajorKong]

If you do business across state lines, congress has the authority to regulate interstate commerce.

[KillTheMessenger]

A contract between a CEO and a corporation is not interstate commerce. Try again.

[KillTheMessenger]

Too bad that theory gets a bloody knows when it hits the practice of contract law. How are you going to regulate a contract between two legal entities without breaking hundreds of years of case law?

[Veri]

KTM, already posted earlier about this. Caps would go to The Supreme Court. And be ruled unconstitutional. You know this, I know this, the Rubes do not. This is why they will remain poor. By listening to populist bullsh*t like this.

Of course, by the time caps work their way through our legal system, the Rubes will have forgotten about this.

[kdogg]

Bullcrap. These corporations are given the ability to exist by the government and are regulated one or another by the government. If they want a business license to conduct business in this country why can't salary caps on executive pay be part of the license? Justify to me why the excutive needs to make five hundred times the amount of a entry level worker. Why not a hundred times? Or just fifty times?

[KillTheMessenger]

"If they want a business license to conduct business in this country why can't salary caps on executive pay be part of the license?"

Because it would turn hundreds of years of law on its head. The supreme court will take a look at it and decide in fifteen minutes flat that the government has no constitutional right to interfere.

"Justify to me why the excutive needs to make five hundred times the amount of a entry level worker."

The average executive makes probably $150,000 a year. Members of the management team of most publicly traded companies make about $200,000-$500,000. Stock options are only worth something if the business is successful, i.e. typically almost never. Your numbers refer to rare cases of executives of transnational corporations, i.e. a small handful of companies.

In any case, what clause of the US constitution are you going to use to limit compensation? And to what arbitrary level? Does the pursuit of happiness suddenly end at a cap of $1 million? Why not $100,000? Why not $10 million?