Preventing Oil Spills, Bankruptcies, Etc.
A 1993 law discouraging companies from paying their chief executives more than $1 million a year appears to have led to a de-emphasis of salaries and an increase in stock options… Those stock options didn’t lower total compensation. And they probably encouraged C.E.O.’s to expose their companies to more risk, because options’ value grows as risk does. In fact, legislators’ misunderstanding of the law’s true incentives may have contributed to the severity of the crisis…
In contrast, the Squam Lake group recommends that companies be encouraged to withhold a good part of the compensation of their top executives for a number of years, and that it should not take the form of stock options. That would give them incentives to consider some of the long-term consequences, and intrinsic value, of their decisions.
Interesting idea.
I think there is not a good argument for doing this, most of the time. But in cases where there is a significant risk of external costs for others (e.g., oil spills), it may make sense.
How is this an improvement over traditional tort liability law? What’s wrong with making BP liable under the tort system for the harm it causes. Then we don’t have to care how much it pays its CEOs or when.
Academics used to champion changing compensation from salaries to stock options in order to align managerial interests with those of stockholders. That didn’t exactly work as advertised.
Now 15 professors of financial economics want companies to somehow decide what to pay executives years after the executive has left. Never mind that financial economists will be needed to deploy fancy statistical models that are sold as the aids necessary to avoid expensive lawsuits when compensation is cut and past executives sue on the basis that the poor results affecting their post-employment compensation is the fault of both macroeconomic changes and the current executives. No rent-seeking here!
A simpler solution: You think the executive of a company gets paid too much? Don’t buy its stock.
Then, get people out of the business of telling other people how to run their business. Stop passing laws that “perversely created the wrong incentives” because clueless government officials and their academic travelers thought that compensation was such a simple matter that they could control it without any unintended consequences.
I’m not convinced the BP oil spill has anything to do with executive compensation. That said, I’m definitely in favor of firms doing more to structure compensation in ways that serve the interests of shareholders both in the short and long term.
I wish somebody would come up with simple index to measure executive compensation as it relates to company size. It would be interesting to see how compensation correlates to investor returns. I suppose the next step would be an index-ETF based on that index.
This reminds me of the pension problems that a lot of local and state governments are facing. Because the liability (the exec’s pay) is so far in the future, it doesn’t seem like a real liability. Money that doesn’t come due today doesn’t seem as real as money the comes due in the future.
… until the future is finally here, and the company is in danger of going belly-up because of guarantees made X years ago.