President Barack Obama has announced a cap of $500,000 a year on the pay of senior executives at distressed financial institutions that receive bailout money deemed “exceptional assistance” from the taxpayers via the federal government.
This is an understandable move considering the circumstances, but it carries some dangers.
One can understand the populist impulse behind this decision, especially in light of the news that Wall Street firms paid more than $18 billion in bonuses in 2008 — the same level as 2007 — despite the financial meltdown.
We would have preferred it if government had not bailed out failing companies, but when private firms accept money from the government, they should expect it to come with some strings attached.
If this policy sets a precedent for more government control over compensation levels in private businesses, something the president hinted at even for firms that don’t get bailout money, however, the results could be disastrous. And some unfortunate results could come more immediately from this decision itself.
There is also the inconvenient fact that the financial crisis that has led us into recession and possibly worse is more the result of government policies than of private-sector mistakes.
There is little doubt that greed, esoteric financial instruments and a general feeling that the party would never end played their parts. But financial players operated in an environment created by loose money policies at the Fed, increasingly unrealistic government mandates to provide mortgages to people who were manifestly unqualified under sensible lending standards, and the belief (later validated) that the losses of quasi-governmental entities like Fannie Mae and Freddie Mac, which facilitated and backed billions of dollars in imprudent investments, would be bailed out by the taxpayers if they were in danger of failing.
It is more than a little ironic then that the very government that enabled an orgy of imprudence — and is even now offering more loose money and lamenting the fact that lenders are more cautious and consumers are prudently cutting back on spending and saving more — is now acting the part of the stern schoolmarm, rapping the knuckles of those it deems too greedy and imprudent.
Some reputed compensation experts fear this policy will cause some talented executives to move to companies without government-imposed compensation limits and make it more difficult to recruit qualified executives. The situation bears watching.
There is little question that what began as sensible policies — rewarding successful executives with stock or stock options that increased in value as the company showed greater success — evolved, in part because of loose money, into a climate of entitlement in which top executives expected stratospheric salaries and bonuses whether their companies did well or not. Some adjustment was inevitable and desirable.
If President Obama’s policies lead to more extensive government control over compensation levels and other internal policies at companies that do not take government bailouts, however, stagnation could be the result. Economies grow, benefiting all, when wealth is created through innovation, developing new products, improving management practices and a host of other activities. If government puts a damper on such activities by controlling the rewards that should flow to those who push innovation, we will see less wealth creation and everybody — not just top executives — will be poorer.