Paul Krugman is a brilliant man, he has a Nobel Prize in economics. I am not and I don't.
But Krugman is wrong on a very important point regarding the financial crisis. He thinks government should regulate bankers' pay (read it here).
He says the current method of compensation created an "incentive" for the abuses that brought the world's financial system nearly to its knees. Perhaps. It was certainly a factor. But there were many interacting factors, and we have to be careful about which we choose to "fix," and potential unintended consequences.
Compensation, or paychecks, is a perfect place to encourage the power of the market place, and absolutely the wrong place for government intervention.
What needs to be done is to foster consequences in the system, where firms that fail, and by definition those who lead them, are punished by the market, without threatening the entire system.
Generally this will mean making sure that bad decisions by one firm, say an AIG, don't threaten everyone's welfare. This can include limits on market share, capitalization requirements, reducing barriers to entry into a market so that competitors can flourish, etc. And, more than anything else, transparency.
It does not mean meddling directly in compensation issues. That is a guarantee of inefficiency, mediocre leadership, a lack of creativity and it crosses a line of how we want our financial system to function. Capitalism versus something else.
We don't want our government to govern companies directly, except to create a system that preserves itself and its function to society while allowing those companies to bring efficiencies, offer new products, and to fail when their decisions are faulty.
A fine distinction, perhaps, but an important one.
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3 comments:
Then just quit allowing compensation to be stock options. This just encourages behaviour to drive the value of stock upward temporarily, rather than concentrating on long term growth.
Actually, this would be counter-productive.
Many forces affect the price of a stock. True enough, managers have been encouraged to concentrate on short term increases to stock price, rather than long term company health. But their own holdings are only one of these, and probably not the most significant.
Historically, stock options were actually designed to encourage decisions that would improve the long-term growth of a company.
This comment highlights exactly why meddling directly in compensation is a bad idea.
Instead, (1) Protect the system, (2) encourage competition, (3) but remain wary of legislating actual business practice except where it conflicts with (1) and (2).
Agree with Art...
Stock options may have historically been designed to incentivise decisions promoting long-term health, but there is a clear unintended consequence. Not only does it encourage short-term thinking, it allows execs and other managers to get fabulously wealthy in a short period of time, insulating them from the need to give a shit what happens down the road.
Apres moi, l'deluge.
Pay a good salary for good work. Simple enough.
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