How the Lack of Ethics Cripples Democracy, Reason #2: Corporate Executive Greed

 

"Let's see...that's one schilling for Cratchet, 280 for me..."

The average compensation for chief executives of the 500 largest U.S. corporations is going up again.

According to Governance Metrics International, the average compensation for the CEOs, including salary, bonus and benefits plus the exercise of stock options, the vesting of stock grants and retirement benefits, was just under $12 million in 2010, up 18 percent from 2009. As Washington Post business writer Steve Pearlstein observes in his column this week, if you believe this is justified by market forces and common sense, “then you must also believe two things: First, that none of these guys would do the same job for a nickel less. Second, that the value of the chief executive went up 18 percent last year while the value of average workers in their companies changed very little.”  “And,” concludes Pearlstein, “if you believe that, you are a fool and an ideal candidate for an open seat on an S&P company board of directors.”

The absurd gap between executive pay and worker pay is per se unfair, but its damage to our culture and society goes far deeper than that. Democracy is a system that depends on public trust in the spirit and values of humanity, and its objective, liberty, is inextricably linked to a free economic system, or at least as free an economic system as can be endured. When those who run companies appear to be exploiting those who work for them and sacrificing the efficient and profitable provision of needed goods and services to the public for pure personal gain, trust in the economic system crumbles, and with it trust in democracy and freedom.

The research of professors Lucian Bebchuk at Harvard and Jesse Fried at Berkeley has shown that the top five executives keep about 10% of the net profits of large public companies now, about twice as much as in the early 1990s. Their research also found that the size of chief executive pay has a negative correlation with the corporate profitability. This means, in short, that the highest paid corporate executives are satisfied to make outrageous sums of money even though it harms their companies, stockholders, the economy, the jobless, and the nation.

The current CEO to worker compensation ratio among large companies in the U.S. starts around 200 to 1 and goes up from there, in contrast to Britain at 25-1,  Sweden at 13-1, Germany at 11-1 and Japan at 10-1. Half a century ago, the average U.S. ratio was about 8-1. Why do U.S. executives insist on so much more now, eating up profits that could be used to build companies, do research and development, add jobs? Just greed and ego. It is as simple as that.

I remember when I worked for the U.S. Chamber of Commerce, its current president, then my boss, told me that salaries had nothing to do with merit, value, or need. “It’s how we keep score,” he said. So in the interest of “keeping score”, executives manipulate the incestuous corporate governance system to devote obscene resources to enriching themselves, even as middle class America is in the grip of financial crisis.

These privileged and powerful individuals’ lack of the basic ethics necessary to subordinate their greed to the needs of American society will inevitably force the law to move in aggressively, as it usually does when ethics fail. The resulting harsh regulations and legal restrictions will harm innovation, restrict growth and take a little, or a lot, more liberty out of American life, and the fault will be entirely on a corporate culture that allowed executives to abuse their positions, fail their duties and destroy trust in the capitalist system.

Can the corporate culture be reformed before this occurs? Pearlstein is justly pessimistic. “Unless we are prepared to stop working at companies that overpay their executives, investing in them and buying from them, there’s little hope of restraining executive pay,” he writes. Harvard Business School professor Rakesh Khurana echoes the theme. “This is really a story about power,” he says.  “Private power, the power of the economic elite, has trumped social norms, has trumped political power.”

11 thoughts on “How the Lack of Ethics Cripples Democracy, Reason #2: Corporate Executive Greed

  1. A good solution to this problem would be to allow shareholders to have a “say on pay”, that is, to allow them to vote on the compensation of executives. As you say, firms that pay executives more have lower profits, so if shareholders (rather than directors) were given the vote on pay, pay should go down to more reasonable levels.

  2. Heck, it sounds like we might have a good measure for executive pay. Remove the CEO and his direct reports from the equation, average out the remaining employee’s compensation. Use Employee Average as X. Give CEO 10x in guaranteed pay with bonus and all benefits not exceeding 25x.

    I think companies with a 200:1 ratio should be outed and the news media should use their biased reporting for the corporate world and get away from politics.

    • I’m not sure why a one-size fits all policy is a good one. For some corporations, paying their CEOs more than the average going rate may be justified. For example, a struggling company might have to pay more to lure in a new CEO to lead a turnaround because that CEO knows that the company could go bankrupt and he or she could lose his or her job. The extra pay would compensate the CEO for the risk (indeed, this may be one of the reasons why companies that pay CEOs more tend to have worse stock market performance: companies with worse stock market performance might need to pay more to attract a CEO).

      Giving shareholders a say on pay would allow the shareholders to decide how much they need to pay to attract executives.

  3. This kind of elitism — with serfs and all — brought on the French Revolutiion. And with good result, yes?

    Kingdoms and corporate board rooms do not necessarily equate, but today they seem increasingly do, especially during a time of recession. It is time — not for the government to step in but for executives to demonstrate a teensy, weensy, molecular, atomic bit of ethics, morals, and something beyond sheer greed.

    It’s not like the Greeks — who don’t pay taxes and retire at age 45 — but here we have a bunch of hard working Americans who see the differential in a completely different way. The only thing the government (Obama) can do is appeal to the moral sense of CEOs (of which, clearly, they have none).

    The only other option is for a PETA-like organization to start publishing these discrepancies — and call for a boycott of the corporations who are participating in this horror. I know it’s a “time of growth” and the slogan is “buy, buy, buy” but one CAN pick and choose based on the corporate culture it’s buying from.

    I for one don’t buy one piece of clothing made in China. I know it’s made from slave labor, and it’s my one little piece of protest. Of course, I don’t own as many cheap tee-shirt and shows as I used to…

  4. There are similar arguments concerning how much actors and athletes are paid. Indeed, actresses like Jennifer Lopez get paid millions of dollars per movie, even if their movies bomb at the box office, and sports stars like Kobe Bryant still get paid millions of dollars per season even if their teams do not win the championship. And pay gaps between these celebrity actors and athletes and say, the average for the workers at the movie production companies, athletic organizations, studios, and stadiums is likely on par with the gap between CEO pay and the average worker pay in the 500 largest companies in America.

    But what is the average pay for all actors, pro athletes, or CEO’s? And here is the fallacy of your argument. Your article only cites the average for the salaries of five hundred CEO’s. But unless there was somehow a mega-merger such that there are only five hundred corporations in America, that would be like writing a similar article only citing the average pay for actors who were nominated for Academy Awards while excluding those who were not. How many corporations are there in America? Feel free to round to the nearest ten thousand.

    And I notice that these critics never put their money where their mouth is. The truth is, incorporation is available to anyone living here. If they truly believed what they preached, they would form articles of incorporation, and pay themselves (as CEO’s) what they think CEO’s deserve.

    Finally, Thomas Sowell wrote about Boris’s Goat

    • They aren’t similar arguments at all. Salaries for sports figures and entertainment figures are determined through legitimate bargaining and market forces, and accurately represent the value of unique talents that can be quantified. Teams that lose money don’t pay huge salaries; movie stars whose films don’t draw stop getting contracts. The salaries for the CEOs of the largest firms are not determined by rational market forces, and are essentially institutionalized looting by an elite group whose “unique skills’ are mostly ephemeral, self-promoted, and exaggerated at best. The average CEO salaries below the top 500-1000 firms are irrelevant to the fact that the top salaries are unfair, unjustified, obscene, and come at the cost of jobs, profitability , and hostility to capitalism. Arguing against government restrictions on salaries is legitimate–arguing that the salaries aren’t unethical is absurd.

      • The salaries for the CEOs of the largest firms are not determined by rational market forces, and are essentially institutionalized looting by an elite group whose “unique skills’ are mostly ephemeral, self-promoted, and exaggerated at best.

        So they are a lot like actors.

  5. Pingback: War and Corruption Deficits: Insects and Leviathans

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