Executive pay

Whether or not they manage their companies well, US executives are certainly highly skilled and magnificently successful at managing the relationship between their finances and those of the corporation. Between 1993 and 2003, according to a pair of economists, quoted in the New Yorker, the top five executives of 1,500 US firms were paid a total of $350 billion - averaging a billion for every four management teams.

Were they worth it? In 2003, profits of the Fortune 500 soared by a fabulous 540% on a mere 7% gain in revenues, with the earnings rises spread almost right across the board. But that’s the giveaway. External factors over which management had no control boosted nearly everybody. As one economist observed, ‘Never in our modern history had there been a combination of fiscal and monetary policy on the scale that we were seeing’. Given such mighty stimulus, consumers and businesses adopted spend, spend as their watchwords.

The most you can say about most recipients of this spending was that they didn’t get in the way of the golden flood. By and large, however, they were the same managements that had produced dismal results in the previous two years, when profits fell by 54% and 66% respectively. As another study by two academics shows, ‘executives are rewarded far more for good luck…like rising oil prices … then they are punished for bad’. In fact, results may have nothing to do with reward: ‘in 2005 the average CEO got paid millions literally just for showing up’.

Worse still, the reward bandwagon may be counter-productive. According to another study, based on 1992-2001, ‘the more a CEO was paid relative to his peers, the more likely his company was to underperform in the stock market’. Then, giving people vast payoffs in the event of takeover, encourages them to sell out - even if it’s in the shareholders’ interest to stay independent. On the other hand, very highly paid executives can increase their pay, perks and power by making big acquisitions - which more often than not destroy shareholder value.

Yet it’s hard for people to grasp the idea that huge corporate pay-piles bear no relation to performance. The basic belief that the higher the reward, the better the performance dies hard. The trouble is that both the level of reward and the speed of its rise are not governed by the performance, but by what the traffic will bear. And that has simply got hugely bigger and bigger. Even the New Yorker writer, James Surowiecki, descends from indignation to a muffled acceptance of a rotten system: ‘in the long run companies that don’t balance pay with performance tend to suffer where it matters most - in the stock market’.

Where it matters most is actually not the long-run market, but the basic, current economic performance of the business. In April 2004 Fortune wrote an enthusiastic account of how ‘GM gets its act together - finally. How America’s No.1 car company changed its ways and started looking like. Toyota’. Less than two years later, in February 2006, the same magazine featured ‘The Tragedy of General Motors’ on its front cover: ‘the evidence points, with increasing certitude, to bankruptcy’. The CEO says, ‘I know that things will turn round’. But he cannot know that. And, deep down, he may not even believe it’.

How did the mightiest manufacturing machine on earth fall so low? Because inbred teams of time-served corpocrats got paid excessive amounts while their ineptitude perpetuated severe management defects - and added new ones as circumstances changed. Given the benefit of the doubt by gullible commentators (see Fortune, above), these top managers, in many companies, brushed off criticism and glorified under-performance that dissatisfied the customers and the workforce. By the time the stock market caught on, it was too late - the fatal damage had been done. So the ruin of GM was dead easy; with the emphasis on the ‘dead’.