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Ruth V. Aguilera, expert on comparative corporate governance
The U.S. government has joined the growing outcry over earnings of top executives, ordering deep pay cuts at seven big firms that have yet to pay back bailout cash. Business professor Ruth V. Aguilera, an expert on comparative corporate governance and a fellow at the Center for Professional Responsibility in Business and Society, discusses the recession-fueled unrest over wages and bonuses in an interview with News Bureau Business & Law Editor Jan Dennis.
In general, are top corporate executives overpaid or does their generous compensation merely reflect the norms of the fields in which they work?
In general, they are immensely overpaid. In fact, it has gotten out of line. How did we get there? Global competition for managerial talent (even some large publicly traded European firms are run by foreign CEOs who demand American-style compensation packages), private-equity funds willing to pay high stakes to retain executives in acquired firms, short-term incentives tied to ever increasing lucrative options, and savvy compensation consultants. It is particularly problematic because there is not always a clear link in the compensation research between long-term firm performance and pay. The agency incentives developed to align shareholder and managerial interests have backfired in an overvalued stock market that made options short-term drivers of risk and excess.
The problem with executive pay is that both the structure and level of pay have to change. The structure involves paying for good sustainable performance and not just performance (in other words, quite often executives are paid to make deals without really looking at whether these were in fact successful deals). The level of pay has unfortunately been driven up by a growing industry of “compensation consultants” who more often than not pay at artificial market prices – partly because it is proportional to their profit cut.
Is the government right to seek steep salary reductions for executives at firms that benefited most from federal bailouts?
Absolutely. I think it is important to send the message that if taxpayers and employees are tightening their belts, so should corporate executives and investment bankers who gained from bailouts.
Lavish compensation packages are simply offensive when we are in a period of high unemployment, low quality of work, high government debt, and an increasing number of working poor, to mention just a few of the many issues that are affecting our economy.
However, I am more keen on a broader proposal known as “say on pay,” where companies are required to submit their remuneration policies for approval at annual shareholders meetings. This binding vote on compensation packages is already part of corporate law in the Netherlands, Sweden and Norway. “Say on pay” was originally proposed to the U.S. Senate in 2007 by then-Sen. Obama, and a few publicly traded companies have already introduced this binding shareholder vote on executive pay practices.
Why might “say on pay” be relevant? First, because it will grant more voice to shareholders, particularly if it is binding. If one of the shareholders is the government, like in some U.S. firms that got bailouts, then it is up to the government to some degree to decide what the effective compensation should be. Second, I think it will weaken the strong artificial role of market intermediaries such as remuneration consultants. Critics say that a mere yes-or-no vote on compensation packages is too simplistic and that it will be a distraction, but I disagree. “Say on pay” is a place to start. It can greatly help to educate stakeholders about pay and overall firm matters, and increase dialogue between shareholders, managers and boards.
Why government intervention? Well, it seems like pay – and in particular bankers’ pay – is where fingers are pointing regarding the trigger of the financial meltdown. In other words, what motivated bankers to take lots of risk and reward themselves for it? This is why we need some boundary rules on how things are run.
Why are hefty salaries such a target for politicians and the public, and is the outrage warranted?
I think you and me and my grandmother got tired of just looking at executive salaries that were growing out of control with such little oversight.
I think there are three main reasons behind the outrage: inequality; its uni-directionality; and little shareholder voice. (1) Inequality: According to a committee of the U.S. Congress, the pay gap in America has widened rapidly and the average pay of CEOs is now 180 times greater than the rank-and-file worker, whereas in 1994 the ratio was 90 times. (2) Uni-directionality: It seems like up to now compensation has been a one-way street. That is, even when profits fell, executive’s salaries kept skyrocketing; and (3) shareholder activism: Up to now, investors or even boards had a docile voice when it came to say on pay. Boards have to be enabled to act as well as held to higher accountability on their pay decisions. Mechanisms to grant more power to the board are independence from compensation committees, separation of chairman and CEO positions, and minimizing the number of boards that directors sit in so that they can devote more attention to each board.
Executive pay is a serious societal issue because it touches on principles of fairness and equity. How much is too much?
When the G20, the group of leading economies in the world, met in September at a Pittsburgh summit, they pledged that member states would take a hard look at their executive pay principles. It is very important that we do not engage in a global race to the bottom in compensation packages and hence it must be tackled at a multilateral level because there is a global labor market of executive talent.
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