“Profit is not satanic.”
Those are the words of John Varley, chief executive of Barclays; they were addressed to an audience at the church of St. Martin-in-the-Fields. Varley is one several bankers who are now taking the case for free-market capitalism to churchgoers. Brian Griffiths, an adviser to Goldman Sachs International, recently told listeners at Saint Paul’s Cathedral in London that “the injunction of Jesus to love others as ourselves is an endorsement of self-interest,” adding “we have to tolerate the inequality as a way to achieve greater prosperity and opportunity for all.” Why is that? Because, as Varley puts it, “talent is highly mobile.” If we don’t let talented bankers pay themselves outrageous amounts of money, they go will find someone who will let them: “If we fail to pay, or are constrained from paying, competitive rates, then that talent will move to another employer.” This old argument is now coming from the same people who are fighting against international regulations that would prevent financiers from going to “another employer” or another country that doesn’t limit executive compensation.
The claim that inequality is a necessary condition for a higher general standard of living is disputable; it depends on the strange claim that GDP is the best way to measure a country’s standard of living. But whatever the merits of this claim, it is one that sounds much better coming from an economist than from a banker. As the late G.A. Cohen pointed out, when financiers talk this way, it sounds a lot like extortion. One could argue, Cohen wrote, that parents should pay ransom to a kidnapper because, unless they do, he won’t return their child. But there’s one person who isn’t in a position to make this argument: the kidnapper himself — since, in making the argument, he would be offering not an innocent prediction but an ultimatum. Similarly, it may or may not make sense to allow bankers to be paid enormous sums in order to advance the material welfare of the rest of society, but there is no law of economics that requires bankers to accept or demand enormous sums. Those who, fulfilling their own prophecies, demand much, much more money than anyone needs violate a principle of distributive justice that does not depend on GDP. Jesus has nothing to do with it.
(The New York Times has the story about the bankers’ new gospel here.)
Isn’t the whole argument predicated on the erroneous assumption that international finaciers are “talented”. Surely talent is mobile, but anyone who manages the near apocalyptic destruction of the first world’s very successful economy and the collapse of leading financial institutions is hardly worthy of such a title.
I beg to differ. Those who have invented financial instruments by which they and a few others have been greatly enriched must be reckoned as talented by any standard. What they lack is a moral sense and a concern for the common good. Talent is one thing, virtue another.
Adam puts his finger on a real problem in the argument Wall Street’s publicists make in defense of high executive compensation. They say we should allow financiers to be paid hundreds of times what most people make because they are so talented. They also say we can judge how talented the financiers are by observing how much money people are willing to pay them. This is circular. There has to be some other measure of talent, and we have to be sure that the talent for which financiers are being rewarded has some real social value. Joseph, no one denies that it takes some kind of talent to devise the complicated derivatives that blew up the economy, just as no one denies that it takes skill to pick a lock or build a good bomb.
Move over Joel Osteen, Benny Hinn, Joyce Meyer, and Creflo Dollar, you’ve got competition from a new breed of prosperity gospel preachers.
Matthew
You say
“They also say we can judge how talented the financiers are by observing how much money people are willing to pay them. This is circular. There has to be some other measure of talent, and we have to be sure that the talent for which financiers are being rewarded has some real social value.”
OK – What measure, and who will apply it? After centuries and centuries of human commerce and labor, what other measure can you come up with? Will we use the political process to decide?
This reminds me of a conversation I had with a relative once – She is a teacher and was commenting on the brilliant speech given by her state’s “Teacher of The Year” award. The awardee made the observation that you could line up teachers side by side from goal line to goal line in Mile High Stadium and they would all together not earn as much as a defensive lineman on the Denver Broncos. I asked her how many of them weighed 275 lbs and can run a 40 in under five seconds?
She didn’t get it, do you?
The free market maniacs believe that markets are self regulating. This is simply false, as has been proven. Therefore markets must be regulated. In particular the use of financial instruments that have the potential to disrupt the financial system must be regulated. If regulation is sufficiently comprehensive, the talented profiteers will have no place in the industry to go. It is probably not in the cards that financial services will voluntarily adopt a code of ethical behavior. Therefore the federal government must act and act boldly. Debating about how talented certain people are is missing the point. What they have been using their talents to do is harmful and should be made illegal.
“She didn’t get it, do you?”
Maybe she did get it, but refused to accept it as a valid comparison and reason.
And neither do I. I spent many years working in Corporate Compensation and see absolutely no link to comparable worth in these two examples.
I just think some of the suggested cures are worse than the disease.
What is the object of the exercise here – to help the poor, or attack the rich?
How does a wage ceiling on derivative traders and hedge fund managers help the poor?
Consider three well-understood ways to help the lot of the poor.
One way is to solicit charitable donations from the wealthy. Capping the incomes of the wealthy won’t help, and will probably hurt.
Another is to redistribute income via the government’s powers of taxation and transfer payments. Capping the income of the rich will reduce the government’s tax collections, both directly (because those in the highest tax brackets have lower incomes) and indirectly (because those in the highest tax brackets relocate to places with more favorable regulatory environments).
Another – the best way – is to generate better jobs for the poor via entrepreneurial risk. Capping the incomes of entrepreneurs is a disincentive to entrepreneurial activity.
Joseph,
I agree with most of what you say. But the question of what exactly constitutes “talent” in the financial industry really does have something to do with how the talented are rewarded. The most highly compensated executives in the firms at the center of the collapse were not the ingenious “financial engineers” who invented complex securities. In fact, the most highly compensated executives in those firms often did not understand how those securities worked and so judged them only by their popularity within the industry and their short-term profitability.
Sean,
Yes, I get it. Hilarious. You ask, “Will we use the political process to decide?” Yes.
Jim,
You’ve bought a cup of the Club for Growth Kool-Aid a year after Jonestown.
Your response is based on a lot of premises that were always dubious and are now more dubious than ever — such as, that the superrich will spend (or better) give away most of the money the government doesn’t take from them; that in the information age the main economic role of entrepeneurs is still to employ workers and not to replace them with technology; that social inequality doesn’t matter as long as everyone has more than he had before in absolute terms (never mind that in developed countries most wealth is positional); that because we have the kind of economy you evidently favor the poor and the lower middle class do have more than they’ve ever had (never mind stagnant wages, disappearing pensions, etc.); and finally, that developed countries could never coordinate their financial regulation in such a way as to keep firms from ditching the societies that make them possible in the first place.
First off, I am a fiscal and social conservative and do not agree with the concept of wage controls to begin with. However, to justify the position of the financial czars, they are making a faulty appeal to talent, one that I think greatly exagerates both their importance to the financial insitution and their role in developing the financial systems which proved to be so beneficial to a few, and so detremental to the economy in general.
We as a society must follow the media via in dealing with this situation, to find balance and justice. Firstly we risk making these people scape-goats by over-emphasizing their role in the nagative; secondly we risk being robbed blind by over-emphasizing their role in the positive.
Those at the top of the modern oligarchy that is the financial world are not the brightest, most talented or virtuous. Do they deserve their luxurious wages? I doubt it, but that is not an economic question.
The real question economically is: Is the ‘free market’ willing to pay them for their services at those rates? The answer cannot be a ‘yes’ because the premises are faulty. The modern banking and financial insitutions are not a free market, not in the least. Banks, lenders, mutual funds companies, insurance companies etc. are so heavily regulated in their operations AND creation that THAT particular market is far from free.
To top it all off, those at the top eschalon of the financial world operate more like professional sport coaches than cream settling to the top. Sports coaches are routinely traded, fired, rehired etc. not based on talent or performance whatsoever, but rather prestige, honour, popularity, perseption and most importantly connections. Without sounding too conspiracy theory-ish, it is important to remember that the boardroom and the bedroom are almost inseperable at this level and considering that the government has already limited the financial market to an oligarchy/monopolistic system (with privatized profit and socialized debt) it is without a doubt within the rights of the regulatory body to impose restrictions on this aspect of the functioning of the financial institutes.
“The salary of the chief executive of a large corporation is not a market award for achievement. It is frequently in the nature of a warm personal gesture by the individual to himself.”
John Kenneth Galbraith
We should keep in mind that the bonuses paid before the onset of the financial crisis were based on illusory profits. it was bad accounting, not successful business activities that produced the income upon which bonuses were paid. Likewise, in the current environment, the profits recorded by banks, investment firms and the like, are entirely a function of taxpayer subsidized low interest rates. The bonuses paid as reward for these profits have nothing at all to do with entrepreneurial capitalism and precious little to do with talent. In this environment a baboon could make money. There is no talent involved.
Matthew
OK – the political process
Whis is more socially valuable and worthy of higher compensation?
A prima Ballerina or a good mechanic
A theology professor or a housekeeper
A banker or a baker
Exoribtant wages? Did Harrison Ford deserve millions for Indiana Jones and the Kingdom of the Crystal Skull? As a parent of college students I find what universtity presidents make obscene. Let’s start regulating those too.
How is a political process likely to come up with a more rational, fair, or socially acceptable process than buyers and sellers?
This isn’t an argument the market based compensation is always just or based on social good. If it were, Snoop Dog would not be a millionaire. Every, and I mean every example where politcal mechanisms decide the winners and losers shows it is both dangerous is ultimately corrupt. At least Snoop Dog made his money from people who are willing to pay for his “talent.” When the government decides who wins and loses, you get Ferdinand Marcos.
Jimmy
BINGO! It is not a valid comparison!! My relative obviously thought it was – which is why she was the one who made it. My entire point is that it has nothing to do with inherent value, social good, etc.
Well Sean the best way for the political process to control excessive compensation is to tax it away. If we returned to the income tax regime that prevailed prior to the 1980″s then all personal income above $1 million a year would be taxed at a 70% rate. We would still have inequality but not quite so much.
A “fair” process to decide on the salary of university presidents and other leaders:
A department chair leads the faculty of his department. He should be rewarded according to how the department is doing. That can roughly be seen as the aggregate of how each faculty is doing. If each faculty member is rewarded according to his accomplishments, then the fair amount for the department chair would be to get a raise/bonus equal to the average of the raises given to his faculty.
Similarly, a university president should be rewarded according to how well the university is doing, and that is measured at the individual level by various raises to each faculty employee. So the fair thing would be for the university president t get a raise/bonus equal to the average of the raises given to all university employees.
In general, any leader should be rewarded as much (in percentage) as the average person working under him. This would at least guarantee that social inequalities do not get worse.
I don’t know if we need to over-complicate Varley’s nonsense with a general discussion about profits.
He has advanced about half an argument, reminding us that the market sets the wage. What he’s missing is the other half; that these primadonna’s labor is a commodity and that their “talents” are worth no more and no less than what someone is prepared to pay them. High priced cowboys don’t like to admit that their worth is not somehow intrinsic to themselves, but this is a fact.
It should be news to no one that the market for genius banking experts on exotic securities is rather soft right now. Soft, as in soft as the feathery little white bottom of a baby duckling. The US government acting appropriately in our capitalist system, by simply saying “Here is what we the customer are willing to pay. If you can find a better deal somewhere else, fair play to you and don’t let the door hit you in the ass on the way out.”
In the real world, they don’t send a shill out to rabble rouse the tea baggers. An executive simply says “XYZ Company is offering me twice as much as you are. Top them or I am out of here.” Since these bankers are not saying this, they don’t have another offer out there and they are simply trying to get what they can.
I can think of one scenario only where these people could demand a premium at this time. If they created jungles of toxic waste and now are the only ones who know where all the trails are, then for better or worse they can command some kind of extortionate salary to clean it up before they are discharged for real.
But short of that, the fact is that the economy has changed and we no longer know who’s a talented banker any more. There were lots of “talented” real estate brokers who were capable of spinning fortunes provided there was a real estate bubble going on. No one knows where most of them are now. Banking is in the same boat. It’s a different market. No need to pay people a lot of dough for their yellowed resume. That’s capitalism.
In any case, if they want the big money, they need to show the value…First. It’s not too much to ask and we’re the damn customer anyway.
“What is the object of the exercise here – to help the poor, or attack the rich?”
With all due respect, nobody is talking about “the” rich. Clearly the subject of the police actions of the state are those certain enemies of the Party such as bankers and I reckon oil companies, ecc.. I do not think entertainers or members of the Party and the like are at issue here.
I think the circularity of the “we should pay them lots of money because they’re talented. they are talented because people are willing to pay them so much money” can in many cases be resolved by appealing to the excess return on capital that certain people can make by doing deals or trading on financial markets. As we saw last year, there are quite a few clowns in high places who can literally do no better than monkeys, but there are some individuals who are the real deal.
Nevertheless, I don’t believe it follows that the profits are justified for that reason alone. Relationships in finance are exploitative in a way that would make used car salesmen bush. Much money is made simply by taking advantage of people with less information. If the way they make their money were explained to you in plain english, a lot of it would “feel like” it should be illegal. However, it is packaged in ways that avoid violating existing laws and lobbying ensures that no new restrictions will be put in place.
Even if you take perhaps the most “meritocratic” example, the ex-string-theorist who is so amazingly brilliant that he is able to write some algorithm that generates obscene amounts of money simply by program trading, it’s ridiculous to pretend that we have some obligation to treat this like any other source of income, just because he’s smarter and he “earned it”. It would be like saying that people who are bigger and stronger should be able walk down the street mugging whomever they can overpower. After all, they’ve “earned it” because they’re stronger, right?
Charles
Great idea – it has been so successful eveywhere it is tried.
The fundamental question is, as discussed above, is this really all about jealousy and resentment. I don’t care if someone else makes more than a million a year so long as it is done honestly. The issue should not be about whether the level of compensation is “just” but whether the compensation was honestly earned. By honest, I don’t mean fair, but that the compensation is the result of open transactions – that those paying the compensation know what they are paying any why.
Now that might not have happened, and probably didn’t, in many of the cases that we are now hearing about. So fix that problem. Don’t come up with some artificial construct of what’s just and what’s not. It’s a very dangerous and destructive game.
I don’t think it has to do with jealousy and resentment. These guys are going to make a pile no matter what. I think it has to do with we as the providers supplying the money making strings as to how it is used. The irony is, if it were the other way around and the banks were bailing out the government no one would think this is unreasonable. But because it’s the government making the rules, it somehow becomes a violation of the “free market”.
People like to talk a lot about socialism and there’s this odd idea that has emerged recently that somehow if the government touches it, it’s “socialism”. But government far more often than not is paying private companies for stuff. The government is acting as a client with the private sector acting as a vendor. The client ALWAYS gets to set the price. The vendor gets to take the price or walk away. The thing that’s annoying the bankers is that they can’t walk away. So they are whining instead. I will note that if the bankers were telling the truth that there’s this big demand for their services in the private sector (or even other foreign public sectors) then they could walk away and believe me, they would.
Unagidon
Yes, the client sets the price, but not usually with the power of the state behind it. I would be perfectly happy with an approach that said, this is what we want and if you don’t do it we will take our money elsewhere (i.e. what normal clients can do), but that’s not what they are doing. They are saying. do what we want or we will fine and tax you to get it. It’s a dangerous precedent.
Moreover, this would not be so troubling if it was just limited to those companies where the government has bailed them out, but Obama and many in Congress are calling for a general regulatory system in which the state will establish “fair” salaries.
Sean,
The power of the government in this case comes from their status as client with the money. If they weren’t the only ones with capital right now they wouldn’t have this power. In other words, it’s pure market power, not coercive power.
I agree that the government should not be in the business of setting prices and rates as such. But the market failed here. We look at salaries as incentives. Yet people were highly incented to produce massive destruction and the same people are looking for more money now that the economy is so ruined that it had to be bailed out. I can tell you of a case that I know of as a sort of insider where a certain CEO of a public company gave himself massive salary increases and stock options year after year, far and above the relative level of capitalization of the company. His response to people saying that he was greedy was “the market likes it or they wouldn’t buy our stock.” Nice theory, but it would be just as reasonable to say that the market was buying the stock despite the high salary that the CEO was giving himself. In the context of the stock bubble that was going on at the time, what this looks like is a disconnect between compensation and performance. When performance collapses and we still have people arguing that they, as talented peoples, still deserve the same levels of “compensation”, then we have a problem. And in this case, it really is the market intervening in the form of the last big investor (the government) now saying “as the stock holder, I say, enough!”
“the best way for the political process to control excessive compensation is to tax it away. If we returned to the income tax regime that prevailed prior to the 1980″s then all personal income above $1 million a year would be taxed at a 70% rate. ”
Actually, there is a better way, a way that respects market dynamics and the good it can accomplish. It is called prudent regulation.
There is a class of financial instruments that are essential to the working of the economy – stocks, bonds, futures, options – that are (mostly) exchange-traded and (mostly) well-regulated. For decades following the Great Depression, activity in these markets was the bread and butter of firms like Goldman Sachs, Merrill Lynch, Bear Stearns, et al, and they all prospered – and some of their executives and traders became quite rich – without endangering the financial system, and while contributing an enormous amount of social benefit. Let’s restore a regulatory regime that constrains these companies to these marketplaces. Mortgage-backed securities may be enticing, in the same way that my neighbor’s wife is hot, but she is off-limits to me, and exotic securities and derivatives need to be off-limits to securities bankers.
Those firms won’t generate profits as large they did earlier in this decade, and compensation and bonuses will be smaller. Fine. Let the players who want more find another way of getting it, but without endangering the financial system.
“Your response is based on a lot of premises that were always dubious and are now more dubious than ever”
You assume all sorts of things that are offbase. I haven’t stated my premises, so I’m not sure why you assume you know what they are. Wouldn’t it be more charitable to ask me what they are, rather than assume the worst an then attack, in effect, your own assumptions?
” — such as, that the superrich will spend (or better) give away most of the money the government doesn’t take from them;”
Not at all. In real life, wealthy individuals already give away whatever they choose to give away, and many charitable endeavors and not-for-profits, such as Catholic Charities and Catholic universities, parishes and schools, would have to curtail their missions, or close shop, without that largesse. If the superrich donate even 1% of their income, that is a substantial amount of money – more than hundreds of average middle class families would be able to muster from their disposable incomes. Let’s help the rich to do the right thing, rather than earn their enmity and drive them away. The wealthy are, like us, children of God, in their cases blessed with great gifts and charged with great responsibility.
Btw, my experience of the wealthy is that most of them invest the bulk of their income. That’s good. Investment is generally a good thing that creates jobs and wealth for others. In fact, it’s essential to the well-being of the world in which we live.
” that in the information age the main economic role of entrepeneurs is still to employ workers and not to replace them with technology;”
People need to work. In order to work, they need jobs. Entrepreneurs create jobs. I don’t think I can spell out a premise any more clearly :-).
The reality is, what drives entrepreneurs has always been to satisfy some human longing (frequently, but not always, the desire for wealth) by taking risk. If you’re employed by Commonweal Magazine, you work for an enterprise that was, originally, started by an entrepreneur. I’m sure he didn’t do it to get rich :-), but there was a human longing that drove him, and he took a risk and started an enterprise that, whatever else it is, is economic in nature. And one of the beneficial effects of his risk-taking is that he created jobs.
Even in today’s economy, jobs are still necessary for entrepreneurial endeavors – including jobs that create, manufacture, implement and support technology. This is, in fact, one of the largest sectors of employment in the US economy. Many of those high tech jobs consist of meaningful work that earns very good wages.
It certainly is perplexing that economic forces today cause unskilled jobs to disappear, and it’s unconscionable that we have failed to prepare several generations to participate in the modern economy through our poor public education systems. But none of that changes reality. The modern economy is reality, and no national government regulation is going to make it unreal. Unskilled jobs are perfectly capable of moving to Malaysia or Poland at an even higher rate than they do now if we make it more expensive for employers to operate here.
What is your suggested way of preserving or creating unskilled jobs in the US?
” that social inequality doesn’t matter as long as everyone has more than he had before in absolute terms (never mind that in developed countries most wealth is positional);”
Of course social inequality matters. But apparently it’s also inevitable. It’s certainly not a feature that is unique to a market economy. And the reality is, it’s what we do about social inequaltiy that matters even more. Every attempt I can think of to use the bulldozer of government control to level social inequality has failed, and in some cases has produced unimaginable human suffering. But what are your suggested ways of accomplishing this?
” that because we have the kind of economy you evidently favor the poor and the lower middle class do have more than they’ve ever had (never mind stagnant wages, disappearing pensions, etc.); ”
I’m still waiting for you, or someone, to explain how capping the wages of the superrich will solve those undeniable problems.
“and finally, that developed countries could never coordinate their financial regulation in such a way as to keep firms from ditching the societies that make them possible in the first place.”
Good luck with that one.
Maybe a better way of looking at the issue is to consider the government to be the insurer of last resort — because, like it or not, that seems to be the case here and will continue to be so in the future. The fact is that no government can afford to expose itself to the risk of a financial failure so catastrophic that its political stability is jeopardized.
If a company purchases fire and casualty insurance, before issuing coverage, the insurer makes certain demands to minimize its risk, like making sure the buildings it covers are constructed according to code. Since no company can affort the exposure, they are forced to comply.
In the case we’re discussing, the real issue isn’t salary caps but the controls that need to be in place to minimize the governments exposure as an insurer. In my opinion, the issue of salary caps is really tangential.
Unagidon
Unfortunately, at least one of the reasons for the colosal market failure was the government’s involvement.
You mention the derivatives market. At least one, if not the, big reason for that debacle was the behavior of two large government sponsored agents following the political direction of members of congress and the executive to boost home ownership. Everyone knew that push comes to shove the government would have to back up those securities to some extent. No sane person would have invested in them otherwise.
The call for more government involvement in the system ignores decades of experience that tell us that what is regulated and how much it is regulated quickly and inevitably becomes a commodity that is bought and sold. More regulation doesn’t thwart avarice, it just gives the greedy one stop shopping – Washington DC. Wouldn’t GE and GM be a lot more worthwhile if they spent half as much energy pleasing their customers as they do pandering to politicians.
Sean, interesting post. Let’s look at it.
“Unfortunately, at least one of the reasons for the colosal market failure was the government’s involvement.
You mention the derivatives market. At least one, if not the, big reason for that debacle was the behavior of two large government sponsored agents following the political direction of members of congress and the executive to boost home ownership. Everyone knew that push comes to shove the government would have to back up those securities to some extent. No sane person would have invested in them otherwise.”
By the time this happened, the housing bubble was twice as large as a zit on the nose of high school girl posing for her prom picture. It was massive and the updraft of fictitious wealth pulled the market players to look for promising avenues of what what we used to call, with a serious expression, growth. The government had already failed on the regulatory side even before massive sub prime lending entered the picture. Regarding sane people investing in the derivitives, I don’t think that banks (including the investment banks) are necessarily lying when they said that they did not have a true idea of the underlying toxic risk in these exotic instruments. Yes, I can personally vouch for the fact that there was an impression in financial community, especially once the notional value of these instruments reached an equivalent to the GDP of the planet earth, that if things ever collapsed Uncle Sam would intervene. We were already talking about this possibility in 1989. But havnig that buzz in the background is not the same as prudent risk management. No one had any way of knowing whether a Federal bail out would bail THEM out in particular, and this THEM is the thing that they were supposed to be keeping an eye on. Even if it is true that sub prime mortgages to dark skinned people caused the house of cards to fall down as many on the right like to say, this was still a house of cards and it fell down because it was made out of paper, not because of the last person to lay a card on top of the pile.
“The call for more government involvement in the system ignores decades of experience that tell us that what is regulated and how much it is regulated quickly and inevitably becomes a commodity that is bought and sold. More regulation doesn’t thwart avarice, it just gives the greedy one stop shopping – Washington DC. Wouldn’t GE and GM be a lot more worthwhile if they spent half as much energy pleasing their customers as they do pandering to politicians.”
I would definitely agree with you if any of this were true. Regulation is not designed to eliminate avarice. It is designed to keep it from operarating in certain ways, where it has been seen to be operating in the past. It is always playing catch up to human enterprise, of course. But saying that since this is the case it is useless to regulate is like saying that the kids are going to find a way to smoke, screw, and drink anyway, so why set up any rules?
The real sad thing about this latest catastrophe is that we dismantled a regulatory system that was working just fine and allowed a major disaster to become a total melt down. It hurts worse when one should have known better.