Creating Value

by Don Boudreaux on March 27, 2007

in Books, The Economy, Work

There are two kinds of people in the world.  Members of the first group think of jobs as being rather like boxes, each of which has a monetary figure on it as well as a set of levers inside.  A job-holder occupies a box, yanks on the box’s levers, and in return receives pay in the amount of the prescribed monetary figure.  Lucky workers are those who land in boxes paying big money and whose levers are easy to manipulate; unlucky workers are those who find themselves in boxes paying little money and whose levers are difficult to manipulate.

The second group of people in the world understand that real jobs are a matter of creating value for buyers.  The greater the amount of value I create for others, the better — or, at least, the higher-paying — is my job.  In markets, your job isn’t a box that you get assigned to; your job is an opportunity to perform, to help improve the lives of others and, in return, to persuade these others to help you improve your life.

And one of the most important of these performances is corporate management — the ability to coordinate large amounts of resources, time, and workers in ways that create large amounts of value for others and that makes it easier for those of us with less vision and administrative ability to find jobs that maximize the value that each of us, individually, creates for others.

Charles Koch, CEO of Koch Industries — and author of the just-released The Science of Success — is one of our era’s great entrepreneurs and managers.  (He is also a stalwart supporter of economic education and classical-liberal values.)  Washington Times columnist Richard Rahn has this nice overview of Charles Koch and his book.

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Henri Hein March 27, 2007 at 2:54 pm

I haven't read "The Science of Success." I do think there is a real problem with executive pay levels. See for instance "The 5 most outrageously overpaid CEOs":
http://moneycentral.msn.com/content/P125120.asp

Other CEOs that come to mind are Carly Fiorina and Kenneth Lay, who received multi-million dollar salaries while running their companies into the ground.

The tired old response that "CEOs are paid by stockholders" doesn't hold water. CEOs are not paid by stock holders in any meaningful sense. Their pay is set by boards of directors, which are made up of other executives.

Peter March 27, 2007 at 3:27 pm

"CEOs are not paid by stock holders in any meaningful sense. Their pay is set by boards of directors, which are made up of other executives. "

Who are, of course, elected by the shareholders.

ben March 27, 2007 at 4:00 pm

Henri Hein

The response you cite may be tired but it is nothing compared to the conspiracy theory you seem to be citing as a reason for high executive pay.

The problem for demonstrating CEOs are overpaid is that there is competition at all parts of the hiring process. There is competition for the CEO position, competition for board positions, firms compete for shareholder's funds, and firms compete with other businesses for sales. All of that works against paying employees more than their worth to the firm including the CEO.

Against this is a principal/agent problem and entrenchment, which I do not personally think is sufficient to cause a major departure of wages from productivity. In any case, neither of those have anything to do with the conspiracy you appear to allege.

Henri Hein March 27, 2007 at 4:41 pm

"Who are, of course, elected by the shareholders."

Again, not really. Directors are nominated by the chairman or the board, and only in extremely rare circumstances do shareholders vote against the board.

Henri Hein March 27, 2007 at 4:44 pm

Ben,

Don't put words in my mouth. I alleged no conspiracy.

Will you make the case that CEOs like Gary Smith or Carly Fiorina earned their pay?

Aschkan March 27, 2007 at 5:40 pm

Comments on executive pay are usually very myopic based on one individual's performance. The treatment and remuneration a board gives to both an incoming and outgoing CEO are vital in the company's ability to attract and retain top-level CEO talent over the long term. A board that earns a reputation for poor outgoing treatment will lose out in hiring new talent as well. Not every company has the luxury of keeping CEOs for 25-30 years a time, especially in this CEO market, and CEOs to my knowledge are pretty good at profit maximising, at least of their own finances.

Peter March 27, 2007 at 5:57 pm

I'll make the case that Fiorina earned her pay. Given her previous success she got the market rate when she came over to HP.

From our vantage point today, yes, the Compaq merger looks like a failure. But keep in mind that there was a huge shareholder battle whether to go through with it.

Fiorina backed the merger, Hewlett's son did not. Shareholders voted to back Fiorina. If they hadn't, she would have been out on the street looking for a new job.

Ultimately, shareholders decided the fate of the company and her pay along with it. In hindsight, it was a bad decision, much like when sports teams shell out millions upon millions for top athletes only to have them not live up to expectations.

But hey, that's life. Her salary came at the expense of the shareholders, and they as a whole are to blame.

ben March 27, 2007 at 6:46 pm

Henri Hein

You said: "Their pay is set by boards of directors, which are made up of other executives."

Hmmm, sounds like conspiracy to me. Perhaps you can clarify what you meant.

If you want to argue that Fiorina and Smith were overpaid because they presided over losses in shareholder value, then it follows CEOs Welsh and Gates (amongst many, many others) were dramatically underpaid as they presided over large gains.

Fiorina and Smith don't help your argument.

You need to identify the market failure that allows CEOs to be paid more than they are worth and circumvent the constraints the wages of most other employees are set by.

Henri Hein March 27, 2007 at 7:23 pm

Peter,

I'm fine with a board taking a gamble on a relatively unknown person and offering a good performance-tied package. When things didn't pan out, they should have let her go instead of giving her raises.

HPs stock went down long before the merger. Instead of stepping down, she came whining to the board that her now-useless stock options left her empty handed. They responded by giving her stock outright. This is exactly the kind of self-congratulatory largesse I find disturbing.

The battle over the merger shows exactly that shareholders have no real power against the board. Most individual HP investors were against the merger. It went through partly because those against it were inclined to sell their stock rather than wait for the outcome of the vote, but also in large part because institutional investors generally vote with the board.

"[shareholders] as a whole are to blame"

I was and am an HP shareholder. What do you suggest I should have done different?

Mesa EconoGuy March 27, 2007 at 7:41 pm

Not to interrupt this Dick Grasso compensation debate, but here’s another thoughtful review of The Science of Success:

http://article.nationalreview.com/?q=YjE1Y2Q0MWY0YzE1ZTgxODY5Mzg4YzFkNDBhOGFjZWY=

Tense Alcyoneus March 27, 2007 at 7:42 pm

I'm a big fan of Koch Industries because it is private, and so is actually a capitalist entity (unlike public corporations).

I will definitely buy Koch's new book.

But I find the hypocrisy of the free market crowd quite interesting. On the one hand, Boudreaux wants us to understand jobs as little businesses, which is quite correct. But on the other hand, Boudreaux and others defend the Department of Labor's interventionist practices on H-1b, which is quite wrong.

If jobs are just little business (and they are) then government intervention against these small businesses in favor of large businesses — must be an anti-free market position.

That's why I stopped being a public free-market advocate. I realized that people like Boudreaux are really just trying to help big businesses gain advantage over small businesses like job-holders.

Ironically, my critique is Capitalist. Hence the charge of hypocrisy.

Henri Hein March 27, 2007 at 7:45 pm

"Perhaps you can clarify what you meant."

I just think there is room for concern when a profession sets their own salaries, whether directly — such as politicians — or indirectly — such as doctors through licensing boards or executives through nepotism.

"You need to identify the market failure that allows CEOs to be paid more than they are worth and circumvent the constraints the wages of most other employees are set by"

Incoming CEOs nowadays are often awarded stock outright. This circumvents constraints placed on employees receiving stock-options. The latter only gets paid on the award if the stock goes up.

Bear in mind that directors don't spend their own money, and we all know what kind of generosity that can lead to.

The current system whereby a small handful of directors sets the salary of the top executive post seems to defeat the Haykeian principle of dispersed knowledge working best. The market for top-grade CEOs at large companies is tiny, and I understand that arriving at the correct price is a challenge. That doesn't mean that status quo can't be improved.

I wouldn't call it a market failure — like Glen Whitman (http://agoraphilia.blogspot.com/2003/06/turning-market-failure-on-its-head-ive.html), I don't like the term. I do think that the dogmatic libertarian stance that nothing in the market place can ever be problem is off-putting to most people. In fact, it's off-putting to me.

Tense Alcyoneus March 27, 2007 at 7:55 pm

Taking a break from my H-1b grumblings, I'd like to ask Henri Hein if he thinks public corporations are even capitalist entities.

No on owns them, at least not in the capitalist sense. The putative owners aren't responsible for their "property," and so cannot be said to really own it.

I see the fundamental problem as an abrogation of property rights. The legal structure creating the modern corporation was created by Socialists. It was a deliberate attempt to divorce responsibility for property from the ownership of property, for the explicit purpose of joining government power to private money.

It should surprise no one that these non-capitalist entities behave just like little Socialist dictatorships: show trials for defectors, huge boons for the top officials, five year plans, a budget process resembling the Soviet Union, and yes the ostracision of dissenters and the "execution" or firings on a mass scale of "useless" "kulaks" or workers. And don;t forget the obligatory entreaties to "sacrifice" and "duty" for the fatherland.

You free-market types have hitched your wagons to a Progressive-era anti-Capitalist horse. Philosophically, it's quite amusing. Economically, it's tragic.

ben March 27, 2007 at 8:35 pm

Henri Hein

"The current system whereby a small handful of directors sets the salary of the top executive post seems to defeat the Haykeian principle of dispersed knowledge working best."

Not at all. a) there is competition for decisionmaking from other types of entities and other competing firms. If smaller firms make better use of information they will prosper (as they do in many industries) b) only a fraction of a firm's decisionmaking is concentrated in the CEO.

"Bear in mind that directors don't spend their own money, and we all know what kind of generosity that can lead to."

That is true of all organizations.

"I wouldn't call it a market failure… I don't like the term. I do think that the dogmatic libertarian stance that nothing in the market place can ever be problem is off-putting to most people. In fact, it's off-putting to me."

Nothing to do with dogmatism. If CEOs are overpaid, then a perfectly reasonable question to ask is why shareholders consistently invest in organizations that pay too much, and what prevents those firms being displaced by other firms paying a more appropriate amount?

Unless you can solve this problem it is you who is being dogmatic.

Henri Hein March 27, 2007 at 8:42 pm

"That is true of all organizations"

How is it true for a sole proprietorship?

"why shareholders consistently invest in organizations that pay too much"

Admittedly, the waste of an overpaid CEO is small compared to a large company's overall revenues. That the problem is small does not make it go away.

"what prevents those firms being displaced by other firms paying a more appropriate amount"

Straw man. Large companies are displaced by smaller, rising companies all the time.

Tense Alcyoneus March 27, 2007 at 8:47 pm

Ben, I think you've missed the point, at least as I understand it.

It is entirely possible that corporate governance structures, *imposed by law*, act as an intervention, crating artificial incentives for raising executive pay.

To investigate this question, we do not have solve the problem you've presented.

Henri Hein March 27, 2007 at 8:48 pm

"I'd like to ask Henri Hein if he thinks public corporations are even capitalist entities"

From a contemporary regulatory standpoint, I personally think we are sadly far from a free-market situation.

From a more philosophical standpoint, I've wondered myself if legal constructs such as juristic person and limited liability are compatible with pure libertarian principles. Not being a pure libertarian, I don't have an answer.

jp March 27, 2007 at 9:06 pm

Henri asked what he should do as an HP stockholder. My suggestion is that, if he doesn't like the way HP is being run, he sell his HP stock and invest in a company run the way he prefers.

Tense A. wrote, "The legal structure creating the modern corporation was created by Socialists." This is not correct. Corporations (or functionally equivalent limited-liability business entities) have existed for millennia. A good (though dense) recent study available online is "Law and the Rise of the Firm," which can be found here: http://www.harvardlawreview.org/issues/119/march06/hansmann_kraakman_squire.shtml

ben March 27, 2007 at 9:12 pm

"How is it true for a sole proprietorship?"

Fair point. That is one example where principal and agent are not separated. But that doesn't eliminate many of the options.

>>"what prevents those firms being displaced by other firms paying a more appropriate amount"

>"Straw man. Large companies are displaced by smaller, rising companies all the time."

You've completely misunderstood the point. Regardless of the size of the organisations, firms that pay a CEO the "right" amount will on the average outcompete firms that overpay, in that "right"-paying firms deliver higher returns to shareholders.

If a firm is overpaying its CEO, then everybody can win by paying that CEO less – shareholders, the board, the firm's customers. Essentially you're positing some mysterious loyalty to a CEO in spite of the incentives it appears everybody is facing not to pay too much.

So again I ask – why are they paying too much?

ben March 27, 2007 at 9:15 pm

Tense, your 7:55 post indicates to me you haven't worked for a corporation before. Certainly the socialism analogy was, shall we say, over the top.

"It is entirely possible that corporate governance structures, *imposed by law*, act as an intervention, crating artificial incentives for raising executive pay."

Well, which laws, Tense? Be specific.

Tense Alcyoneus March 27, 2007 at 10:54 pm

ben, your indications are wrong, sir. I have worked for corporations before. Sure, the analogy is hyperbolic (some of it intended to be funny, but that failed obviously). Nevertheless, I'm willing to defend the claim that corporations are not capitalist entities, and the claim that they operate like Socialist governments.

ben, I'm not sure I have enough knowledge to make reasonable claims about the laws governing corporations. My remarks were much more limited: to show that you had improperly formulated the "problem" to exclude this possibility. It occurred to me because governance of public corporation is *highly* regulated, a good indicator of interventionist effect.

jp, thanks for weighing in with a good reference. I feel compelled to note that my claim was carefully qualified. The *modern* corporation was created by Socialist-minded Progressives in the early half of the 20th century.

I don't mean that to disparage your main point, because it's definitely one I have to address. Since forms of asset-shielding have existed before, even before Socialism, how can I claim that such arrangements are Socialist?

Such arrangements are properly understood as *precursors* to Socialism. Indeed, most early economies are most accurately described as Mercantilist. While mercantilism is not Socialism, it most certainly is not Capitalism either. So my claim — that the modern corporation is not a Capitalist entity — is coherent with Hansman, Krakkman, Squire.

Nathan T. Freeman March 27, 2007 at 11:20 pm

"I was and am an HP shareholder. What do you suggest I should have done different?"

Sell your stock when Fiorina was hired. Duh.

The essence of liquid equity markets is the ability to exit your investment and take available profits when you disagree with the consensus. It's the ultimate form of voting with your feet. You don't even have to walk.

One key metric in the election of any new CEO is the balance of compensation tied to stock performance or general financial metrics vs. straight salary or golden parachutes. Steve Ballmer has performed dismally as the CEO of Microsoft, but he has suffered for that more than just about anyone (excepting perhaps Gates, of course.)

That being said, I'm eager to hear how jp and ben can rationalize the modern corporation's model of 3rd party limited liability. Why is it that NO individual action taker bears ultimate responsibility when corporations engage in illegal or even negligent acts that harm individuals who have never contracted with said corporation? Take, for instance, environmental contamination, where while the corporation itself might be liable, individual decision makers and actors are NOT held responsible. What is the basis for this shield?

15 years of pondering this question have not led me to a satisfactory answer. I am eager for new insight.

ben March 28, 2007 at 1:48 am

Nathan

"Why is it that NO individual action taker bears ultimate responsibility when corporations engage in illegal or even negligent acts that harm individuals who have never contracted with said corporation?"

Its off-topic, but what the heck. Here's my list of reasons for why the principal is appropriately liable:

a) Whether liability is allocated to the agent or the principal, it is the principal that bears the cost of liability because agents will demand compensation for bearing the risk of liability (Coase theorem)

b) It is usually easier to assign liability to the principal. It will often be difficult to monitor agents and assign blame, and therefore liability, to individuals inside a firm.

c) When the principal is liable she faces incentives to monitor and control her agents in proportion to that liability. Even if the principal finds it difficult to monitor and control agents, she still faces incentives to reduce whatever activity the agents are engaging in which cause harm.

d) Injured parties are less likely to be compensated when agents are personally liable. Agents take account of this financial limit on their liability and may take inadequate precautions. Principal liability is then preferred because it gives the principal appropriate incentives to control her agent, or reduce the activity that can result in damage.

e) Even without personal liability, agents face strong incentives for good behaviour. Agents who impose large costs on their employers will generally suffer reputation damage (e.g. by being sacked) which carries negative consequences.

f) Agents in fact do bear personal liability for negligence and criminal activity.

Henri Hein March 28, 2007 at 1:51 am

"if he doesn't like the way HP is being run, he sell his HP stock and invest in a company run the way he prefers"

In the event, I chose to hold on to my stock, thinking that Carly would eventually leave and the valuation rebound. I was correct.

All HP stock holders were faced with this dilemma:
- HP is a great company
vs.
- Ms. Fiorina is a terrible CEO

I have no truck with the contention that a shareholder is in any position to reconcile the two. Since you acknowledge that my only true options were to sell or hold on, it seems you implicitly agree.

Henri Hein March 28, 2007 at 2:00 am

"Regardless of the size of the organisations"

You lost me here. How did size become irrelevant? The starting premise is that a large corporation requires special skills and responsibilities that commands a large salary.

"Essentially you're positing some mysterious loyalty to a CEO in spite of the incentives it appears everybody is facing not to pay too much"

It's not that mysterious, if you consider all the factors involved in the decision making. Many directors hope to become CEOs themselves one day. It is in their interest to see high salaries. Also, boards are often pressured to find a CEO, leading them to hire somebody with inappropriate generosity, rather than wait for the right person at the right price.

Emperically, it seems common that executives get overpaid at expense of shareholders. If the custodian was found filling the soap dispensers with hair gel and wiping tables and floors with the same mop, he wouldn't get a $20 million stock package and airtime on the corporate jet.

Henri Hein March 28, 2007 at 2:20 am

Nathan,

Do I know you from the old freemarket.net forums? In which case, I'm delighted to cross paths with you again.

"The essence of liquid equity markets is the ability to exit your investment and take available profits when you disagree with the consensus"

The problem is not with the equity markets. The problem is with the job market for high-level executives. I'm stipulating that it is such a small market, both in terms of available positions and available talent, that there is not enough information to set a proper level for any given position, and further that there are not enough incentives for boards to punish a poor-performing CEO (or fellow director, for that matter).

In light of this, I tend to challenge the "CEOs are paid by stock holders" over-simplification. To be fair, nobody here has made that case, but I can't help noticing that Tense and I are the only ones even willing to consider a potential problem.

ben March 28, 2007 at 3:08 am

Henri

"It's not that mysterious, if you consider all the factors involved in the decision making. Many directors hope to become CEOs themselves one day. It is in their interest to see high salaries. Also, boards are often pressured to find a CEO, leading them to hire somebody with inappropriate generosity, rather than wait for the right person at the right price."

So your first explanation for CEO pay is that boards systematically breach their fiduciary duty by overpaying their most visible employee in the hope that this will raise the market price for CEOs which will one day benefit board members.

That is the most ridiculous theory I've heard for a while. Do I really need to say why?

I doubt your second theory, that high pay is a by product of a need to find a leader fast, explains much of why CEO salaries are high, but in any case it doesn't support your theory of overpay. Presumably boards pay a premium for a fast CEO because that lets them avoid a more costly alternative. The additional payment reflects scarcity, in particular of qualified people available at short notice, and premiums for scarcity have strong efficiency justifications.

Martin March 28, 2007 at 3:23 am

"A job-holder occupies a box, yanks on the box's levers, and in return receives pay in the amount of the prescribed monetary figure. Lucky workers are those who land in boxes paying big money and whose levers are easy to manipulate; unlucky workers are those who find themselves in boxes paying little money and whose levers are difficult to manipulate."

Which are you, Don?

Ray March 28, 2007 at 7:58 am

If I could only land in a box like Home Depot CEO.

Nathan T. Freeman March 28, 2007 at 8:38 am

Henri, yeah, that's me. Thought your name sounded familiar.

If you thought Fiorina was a terrible CEO, you could contribute your vote in the form of a sell, thus pushing the price down, thus spurring the board to action. If you anticipated a rise after her departure, then all you needed to do was watch for news of her leaving, and cal your broker. I don't have time to check out the figures right now, but I bet that if you'd just thrown your HP portfolio in an index fund in the meantime, your profit would have been considerable.

This is what I did when Ballmer took the helm at MS. The return over holding MSFT has been considerable.

Ben, all the principal vs. agent scenarios remind me of why severe drug penalties have such a negative outcome. If the penalty for selling cocaine is basically as severe as the penalty for murder, then it's a break even proposition for the drug dealer to commit murder. I can't help but see that as parallel to a misbehaving CEO. His upside is billions of dollars in personal wealth. His downside is millions of dollars in personal wealth and a bad reputation. This does not seem like an effective deterrent strategy, given how rarely there is criminal prosecution for C-level management agents.

Bear in mind that this 3rd party liability model applies even in a company with 5 owners. How powerful is the control incentive for a group of 5 guys investing $20000 each and appointing a potentially negligent CEO? And yet how easy might it be for all parties to limit total liability to $100K?

jp March 28, 2007 at 8:59 am

I don't have time to wade through all the claims and counterclaims made above. Just a few points lest I be taken to tacitly agree:

1. Modern U.S. antipollution law (CERCLA) does hold principals liable when certain factual circumstances are present.

2. I do not agree that corporations are non-capitalist. They are no less capitalistic than sole proprietorships and general partnerships. They are voluntary associations of individuals to achieve mutually agreeable ends, and ownership interests in them are private property entitled to all the protections afforded to any other form of private property.

3. Corporations are ultimately run by majority vote. If the minority doesn't like the way things are being run, and is unable to persuade the majority otherwise, then the minority can cash out and invest elsewhere. If one doesn't care for that democratic arrangement, then other investments are available — bonds, real estate, commodities, etc.

Randy March 28, 2007 at 1:58 pm

If I do not hold stock in a corporation, then what that corporation pays its CEO is of no concern to me whatsoever. If I do hold stock in a corporation, then what the corporation pays its CEO is of concern to me in direct proportion to the amount of stock I hold. If I'm a small stockholder and I don't like the CEO, the CEO's compensation, etc., then I should sell. If I'm a large stockholder, then I should use my voting power to do something about it. Bottom line; I don't see the problem. I think the whole issue is manufactured by egalitarians wanting to stick their noses into other people's business.

William Newman March 28, 2007 at 2:06 pm

I think an economist should know better than to write "the greater the amount of value I create for others, the better — or, at least, the higher-paying — is my job." That is part of the truth, but there's a major problem that we don't know how to capture the value of lots of things that people produce. If Einstein's work on the photoelectric effect advanced the date of discovery of the transistor by a week, that alone (which was what he got the Nobel Prize for, but probably not his most important work) seems to show he was so grossly underpaid that the statement is dramatically refuted.

On an unrelated note (but one which comes up in the comments) why is it that people who are troubled about corporate officers and shareholders having limited liability for the acts of the corporation so seldom seem to be troubled about union officers and members having limited liability for acts of the union?

Martin March 28, 2007 at 2:07 pm

"If I do hold stock in a corporation, then what the corporation pays its CEO is of concern to me in direct proportion to the amount of stock I hold."

On what principle do you work that out?

If I own even one share, these people have my money.

So what they earn is of interest to me.

Randy March 28, 2007 at 2:15 pm

Martin,

Yes, they have a few dollars of your money. You don't honestly think that holding a couple hundred shares of a multi-billion dollar corporation gives you the right to set corporate policy do you? On the other hand, someone who holds a large percentage of the stock already has a significant role in setting corporate policy – as they should.

Randy March 28, 2007 at 2:21 pm

William,

The problem you present can be easily resolved by recognizing that value is inherently subjective. Whether or not a professional football player deserves to make millions of dollars a year is not up to me to decide. Its up to those who do feel that the player provides something of value to them. My thoughts on the matter are irrelevant.

Peter March 28, 2007 at 2:59 pm

"If I own even one share, these people have my money.

So what they earn is of interest to me. "

Martin,

You're right, by owning even one share you have a claim (albeit a very small one) on the assets of a company. So you do take interest in what they do with those assets like the cash in their bank account. Most people would rather have it paid to themselves in the form a dividend than to the CEO in the form of a retirement buyout.

However, you're also interested in attracting top talent to keep the company profitable. In order to get Fiorina to come over to HP, part of the deal was her $21 million retirement package.

That's a lot of money, but to you as the owner of one share it is worth less than one penny (HP has over 2.6 billion shares outstanding). That penny might be worth it if it attracts a CEO that adds literally billions to the bottom line.

Also keep in mind that a company like HP spends over $3 billion in R&D each and every year. Having someone at the helm that directs that money (over $1 per share) to the right places is, logically, going to be a higher priority.

Yes, ex post, you might find out that the penny could have been better spent on someone else. But hindsight is 20/20. As a shareholder it's best to move on, spend another penny or two on a new CEO that will put the 81 billion of HP's assets to better use.

Henri Hein March 28, 2007 at 3:03 pm

"Do I really need to say why?"

Yes. Please explain, in careful detail, how stipulating that one incentive, as part of many, is ridiculous in ways that your theory — namely, that directors are automatons guided exclusively by their fiduciary responsibilities and act on perfect knowledge despite the lack of dispersion — is not. Bonus points for explaining how it is that complex decision factors and imperfect knowledge is consistent with observed data, while your oversimplification is not.

ben March 28, 2007 at 4:41 pm

Henri

I see you're reduced to asking me to justify a view I don't hold.

Your view is ridiculous because it assumes each board can influence the market price for CEOs and that, even if they could have that influence, they will not be undone by free riding.

Henri Hein March 28, 2007 at 5:04 pm

jp,

"If the minority doesn't like the way things are being run, and is unable to persuade the majority otherwise"

Do you know of any case, say within the last ten years, where a shareholder vote went against the board on a significant issue?

Henri Hein March 28, 2007 at 5:31 pm

Ben,

I merely responded in kind. Anyways, you have hardly explained what your alternate explanation is, and I'm in no position to surmise it.

Obviously, I don't think my view is ridiculous, and I don't think you have made a case that it is. There are only a few hundred large caps in the US. With such a small market, then yes, one outcome can affect the market as a whole.

I asked my coworkers at lunch, "what do you guys think of CEO pay?" Viewpoints differed widely, but almost everyone agreed (unprompted by me) that letting the CEOs compensation be decided by other executives is a problem. That viewpoint may still be wrong, but you are not going to get off by dismissing it with invective.

jp March 28, 2007 at 6:13 pm

Henri — Here are two from last year: In the fall, the stockholders of Sears Canada rejected the plan of parent Sears Holdings Inc. to take Sears Canada private. In June, the stockholders of Arbinet rejected a company-backed board candidate and elected Alex Mashinsky instead.

Dissidents would not mount proxy contests if they did not have a good chance of succeeding. Success, however, does not always result in a vote against what management wants. Often, the company has a proxy adviser that lets it know in advance if the vote is likely to go against what management/incumbent directors want. If things do not look promising, the company will negotiate with the dissident to make changes to satisfy it. In the recent CVS-Caremark merger battle, for example, it became clear that Caremark stockholders were going to reject CVS's original bid after rival bidder Express Scripts came on the scene. CVS therefore upped its bid several times, ultimately reaching a point that the Caremark stockholders found agreeable.

Peter March 28, 2007 at 6:38 pm

Here is one from last month:

Eddie Bauer Shareholders Reject $286M Buyout Offer From Investment Firms

…The Eddie Bauer Holdings Inc. board and three advisory firms had recommended shareholders approve the deal, but the company said the proposal did not get the required majority in a meeting Thursday, with 44 percent of its outstanding shares favoring the buyout and 37 percent opposed…

http://biz.yahoo.com/ap/070208/eddie_bauer_acquisition.html?.v=3

ben March 28, 2007 at 7:15 pm

No invective here Henri. I think your reasoning is absurd. The market for CEOs in most industries is global. Even if you believe the proposition that a single board can move the world price for CEOs, you have to explain why each board does not sit back and wait for other boards to do the work for them. Please explain.

You have actually assembled the components for an argument that CEO pay is justified. You appear to accept that the quality of a CEO matters (Fiorina was bad), and that in a large firm a 'good' CEO can be expected to make tens or hundreds of millions of dollars difference in value. A profit seeking firm will rationally (i.e. profitably) bid up to those large amounts but no more to get a good CEO.

You also accept there is a market for CEOs, from which I take it you accept there is competition among firms for CEOs. That competition sends CEOs to the highest bidder, and that bidder may need to bid a significant fraction of the additional value a good CEO creates for a firm to get their candidate. Hence, and unavoidably, high wages.

Plainly, hiring decisions are made with imperfect information and mistakes will be made, which you have also noted. The question is whether large and systematic overpayment is occurring, which is what you allege.

Now, what specifically is wrong with this reasoning?

Python March 28, 2007 at 7:52 pm

What about the CEOs who do bring a great amount of value to their companies and probably should get paid more? Why focus on one side of the equation? I think I know why.

In general, complaining that CEO pay is too high is a red herring. What does it matter if it is anyway? The kinds of companies that do pay CEOs "too much" (whatever that means) rarely get hurt solely due to that behavior, and it's doubtful that the high pay drove up the costs of their products. So if the company doesn't get hurt, and the consumers don't get hurt, why care? What is the highest ratio among Fortune 500 companies of CEO pay to revenue?

Is this forum going to be full of comments of how athletes get "overpaid"? Or how much actors get paid?

A lot of things in life look out of proportion, and some truly are. Are we going to start harping on all of those things just to prove that our current economic structure isn't perfect? Why has the Corporation become the identity of American capitalism? It shouldn't be. Innovation, privately-owned business, labor mobility, and class mobility should be the icons because they show how our system empowers people.

Some prop up the Corporation as a straw man to show the weakness of American capitalism. Corporations are not perfect, what is? These Corporation-attackers rarely point out the positive things that Corporations bring.

Q: Who cares how much a CEO makes? A: People who choose to see things in class-versus-class perspectives.

David P. Graf March 28, 2007 at 8:15 pm

As a "worker-bee" who has seen the changes in business and compensation over the lsst several decades, I don't think that there's a problem with the salaries paid to CEOs. I do think there's a significant problem with the salaries paid to the people who actually do the work and get the job done for the CEOs. I can recall when a family could have a comforable middle-class lifestyle with only one breadwinner. Not very likely today.

Frankly, I think we've forgotten why we even have an economy. It's not to make shareholders overjoyed at everyone else's expense. People were working for thousands of years before anyone heard of Adam Smith or bowed down to Milton Friedman. The primary reason for jobs is to make it possible for people to take care of themselves and their families. When Citibank and other large companies plan to lay off thousands of employees to make shareholders happy, then we've got the cart before the horse.

Randy March 28, 2007 at 8:37 pm

David,

Re; "The primary reason for jobs is to make it possible for people to take care of themselves and their families."

Not quite. The primary reason that people work at jobs is to take care of themselves and their families. The primary reason that people create jobs is to get something done while they spend their own time doing something else. Society doesn't create jobs – people do.

ben March 28, 2007 at 8:50 pm

Python

Exactly. It's nobody's business anyway what those guys get paid. Bottom line, I get a great deal from Wal Mart, Microsoft, and Toyota. Given this, could their wage structure matter less?

True_Liberal March 28, 2007 at 9:06 pm

Randy's got it right.

The trouble is, corporations usually are not honest enough to acknowledge this. They use doublespeak such as "job ownership" when there is no such thing in the long run.

In fact the best thing an employee can probably do for himself is to work (or think) himself out of a job, because no job will last forever. The soon that job is GONE, the better off the employer will be.

Then, if the company doesn't immediately place the employee in another job-to-be-eliminated, the true wisdom (or lack!) of the management is revealed, and it's time to move on.

Russell Nelson March 29, 2007 at 1:16 am

I always thought it went like this:

There are 10 kinds of people in the world: those who understand binary, and those who don't.

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