Why Are Huge Salaries a Mistake?
I guess it really depends from where you observe this phenomena of gigantic remuneration packages. If you are a player, then it all makes sense and seems normal. If you are an observer, you scratch your head and ask why? So in the end when one tries to answer the question of whether huge salaries are a mistake, the answer is “it depends”.
- For private business operating in totally unregulated areas, the principles should be able to pay themselves whatever they feel appropriate and can afford. Think of great athletes or famous entertainers. We may envy their take home pay but we do not have to watch them play, or buy tickets to their events if we do not want to. Further, if they should suddenly die or become very poor in their field, there is no one who loses other than themselves.
- For those who work in regulated areas or for public companies, the answer is different. When these executives fail, others pay the price. Pay should, therefore, have something to do with the degree of difficulty, or the range of responsibilities, or the value produced, in comparison to other businesses, one would think. Just how much pay is enough clearly differs but generally speaking you should expect that people will pay themselves (salaried or union) as much as they can get away with.
What limits pay? There are natural forces like shareholders or board compensation committees. (We have seen recently that these methods are not fool proof and can become compromised.) There is, also, the simple limit of the company profitability. In theory if the executives pay themselves too much, and stock prices did not rise, shareholders would revolt. But what happens if stock prices rise and top executives pay themselves huge bonuses?
Sooner or later, highly paid management will lose sight of their main fiduciary responsibilities and begin making business decisions premised upon the idea that the stock price must go up. Whatever it takes becomes the motto since “enough is never enough”. And when that business is in the Financial Services Sector, bad things can happen. Risk management gradually slips out of mind and more and more leverage is employed. The notion that a financial services company has a primary role to protect and insure the safety of each investor’s initial investment, and only a secondary role to pursue the promised rate of return, gets lost. It becomes all about achieving these huge returns and then of course collecting an equally over the top bonus.
It is now popular to cite the President’s pay (about $ 400,000) as the ceiling for executive pay. I personally think that is too low and does not recognize the post presidential years’ earning power that Presidents accrue while earning the 400K. I think that remuneration packages in the $1-5 million range for the CEO in the top tier with a bonus potential of another $1-5 million is in the range of reasonableness. Further the bonus should be accrued, held for 5 years. Following the fifth year, the compensation committee should reconfirm that the bonus awarded for year 1, has been born out in corporate performance for years 1-5 against standards that were previously established to justify the bonus. In year 6, the same process would be repeated with respect for the bonus in year 2, and so on.
The point of pay should to provide adequate compensation reflecting the difficulty of the job, and for bonuses, to reward contributions for longer term superior performance. If total pay is too large, human nature takes its course and performance focus is no longer about what the company does. It becomes much more about how much the shareholders can make (read stock price increases) and how much the top executives can extract first.
This entry was posted on February 1, 2009 at 3:13 pm and is filed under Barack Obama, Democratic Party, Politics, Republican Party. You can subscribe via RSS 2.0 feed to this post's comments. You can comment below, or link to this permanent URL from your own site.
