All Posts in the ‘Society’ Category

Why Boards Pay CEOs More

November 17th, 2014 | By ken in Society | No Comments »

Presumably corporations would not want to overpay their CEOs, which is why they hire “compensation consultants.” The consultants study the publically available information on comparable CEO compensation so that they can benchmark their peers.

But a new study by three professors at Cambridge University found otherwise: “We consistently find evidence that supports the argument that compensation consultants are hired to justify higher C.E.O. pay to the board, shareholders, and other stakeholders.”

Why do they all bother – for which, no doubt, they charge handsomely? Either the boards that commission the research ignore the findings or the consultants consider it expedient to inflate their recommendations.

Sorkin notes the obvious: It’s a mistake to let a CEO hire his own compensation consultant. According to the study, though, when that happened it “led to a 13 percent increase in pay.” It doesn’t make sense, “but it happens more than you would imagine.”

But an even better question is why, when they have the information they commission, they ignore it?

“Let’s be honest,” wrote Andrew Ross Sorkin in The New York Times, reporting on the study, “compensation at the top level is rarely based on a true marketplace. Unless a rival company tries to poach a chief executive, it is hard to determine exactly what they should be paid.”

Trying to be honest and respectful of the data, it looks like Boards want to please their CEOs. Far from paying fair market value – and possibly disappointing the CEOs who have a somewhat exaggerated sense of their own value – they flatter and appease them. As a result, compensation has no logic, either in relation to a norm or in response to performance.

It is as if board members and CEOs are members of the same club – which in some respects they are. Board members, often the CEOs of other companies, know how they want to be treated. They travel in the same circles and they are attentive to the perks and rewards they others are getting. Indeed, many of them are competitive and envious of those perceived to be better off than themselves.

Sorkin reports a story Warren Buffett tells about the time he ran Salomon Brothers. “At Salomon, everyone was dissatisfied with their pay, and they got enormous amounts. They were disappointed because they looked at others, and it drove them crazy.”

We are forced to think, though, that more than envy is at stake. CEOs are the nucleus of a new elite class. They often move from job to job, expecting the same privileged treatment, the jets, the bonuses and stock options that entitle them to extraordinary lifestyles.

For most boards, Sorkin concludes, “the best chief executive makes the most money.” That is, by definition. The greater the compensation, the best the performance must be. And those with the most compensation increasingly run the country with the power they exert not only through their corporations but also with their personal fortunes.

They endow new museums, concert halls, and hospitals. They fund schools and university departments, buy newspapers and magazines, create new charities – and, of course, donate heavily to political campaigns to maintain their access to power. In helping each other, they are also helping to establish their class and cementing their social position for years to come.

THE DECLINE OF INVESTMENT BANKING

November 11th, 2014 | By ken in Society | No Comments »

Not Just Less Profitable

MBA’S no longer flock to investment banking. In 2007, according to The Economist, “44% of Harvard’s MBAs landed a job in finance; 12% became investment bankers. Yet in the class of 2013 only 27% chose finance and a meagre 5% became [investment bankers.]”

“The trend is the same at other elite business schools. In 2007, 46% of London Business School’s MBA graduates got a job in financial services; in 2013 just 28% did, with investment banking taking a lower share even of that diminished figure.”

But why? To be sure, the financial rewards are less. The outcry about excessive bonuses, following the crisis of 2008, especially for firms that had been bailed out by the government, led to increased scrutiny and regulation. But banks also tend to lock in their people, tying them down when the business climate is volatile and varied. That’s not appealing to those starting out on their careers.

The increasingly more attractive alternative careers for new MBAs are in consulting, which in addition to offering good financial rewards also provide exposure to different firms and industries. “Almost 30% of students at the elite business schools now typically find work at consulting firms.” A close second is technology.

The Economist notes, it’s not just about the money: “less than 5% said that higher pay was their most important consideration when deciding to enroll at business school.” The entrepreneurial approach of smaller firms is increasingly appealing. One B school graduate said: ‘I have never heard anything about the corporate culture of investment banks that sounds like it’s an environment I’d like to work in.’”

Added to this, MBAs also seem to be searching for a sense of moral purpose, seeking “careers that have a positive impact on the world around them.” That contrasts with the fact that investment banking became tainted during the credit bubble, playing a major role in preparing the ground for the unemployment and economic misery of the Great Recession.

But there may be an even more important reason for the shift away from banking: “A survey by the Graduate Management Admission Council found . . . 26% say they want to start companies after they graduate.” That makes a lot of sense in an economic climate where success is measured almost entirely by “shareholder value.”

That undercuts the gratification of managing and building a business. Investors seeking higher stock prices continually urge restructuring, merging, and repurposing with an eye to raising the value of their investments. Producing products, offering useful services, being good places to work, creating jobs, protecting the environment, serving as responsible citizens – all are secondary. Business leaders are increasingly judged by that one standard.

For managers that can be frustrating and demoralizing. Moreover, the very jobs they work hard to accomplish responsibly and successfully can be spun off, outsourced, or consolidated if investment advisors start to think that such moves will make the stock rise in price.

The one way to avoid that loss of control is to be at the top, owning and controlling your own business. That seems to be what the really bright people want, and who blame them for wanting that kind of control?

CREATING THE NEXT FINANCIAL CRISIS

November 3rd, 2014 | By ken in Society | 1 Comment »

Can We Stop Ourselves?

We know how to prevent it, but we don’t seem to want to pay the price.

It’s like our dependency on fossil fuel. We talk about it and make gestures to cut back on emissions, but essentially we are immobilized. Our financial system is set up to give immense power to moneyed special interests, the banks and investment firms that have recruited squads of lobbyists and spent billions on political campaigns to protect their way of doing business. As a result we can’t protect ourselves from the long-range dangers posed by their insistence on issuing loans backed by inadequate assets.

Banks are still too big to fail. Limits on speculation are inadequate. The revolving door between regulators, legislators and traders is spinning. A key issue now is the size of down-payments required for those buying homes. As Peter J. Wallison of The American Enterprise Institute explained: “If the required down payment for a mortgage is 10 percent, a potential home buyer with $10,000 can purchase a $100,000 home. But if the down payment is dropped to 5 percent, the same buyer can purchase a $200,000 home. The buyer is taking more risk by borrowing more, but can afford to bid more.” Can afford it, that is, so long as the buyer earns enough to make the payments.

“In other words,” Wallison continues, “low underwriting standards — especially low down payments — drive housing prices up, making them less affordable for low- and moderate-income buyers, while also inducing would-be homeowners to take more risk.”

So who is in favor of this risky practice? Almost everyone it turns out. Banks and mortgage companies like it because it means more business for them. Real estate developers like it because they can sell more units. And prospective home owners like it because there are fewer obstacles in the way of realizing their dreams, even if they are being unrealistic about affording them.

But they can easily end up being the losers in this scheme: “The losers, as we saw in the financial crisis, are borrowers of modest means who are lured into financing arrangements they can’t afford. When the result is foreclosure and eviction, one of the central goals of homeownership — building equity — is undone.”

And if this happens often enough, we have a situation like the credit bubble – and eventual crash – of 2008.

It is unlikely that we will repeat that specific debacle. Everyone now is aware of the sloppily put together securitized mortgages that brought down Lehman Brother and almost destroyed AIG. This time it will be something else, some danger less well advertised.

When bankers are caught up in the frenzy of making money, their eyes are on the opportunities in front of them and the competition they face from other bankers. They easily neglect the danger signs. They also tend to over-estimate their intelligence and skills as there is often a competitive advantage in being brash and self-confident. No one is telling them “watch out.”

But the deregulated, politically powerful, over-extended, hyper competitive financial world is much less safe than it can appear, and holds the potential for multiple losers.

BECOMING CONSCIOUS

October 27th, 2014 | By ken in Society | 2 Comments »

Trading and Hunting

Contrary to our subjective beliefs, we make most of our decisions automatically, unconsciously. Professor Michael S. A. Graziano at Princeton recently reminded us of this.

He asked: “How does the brain go beyond processing information to become subjectively aware of information? The answer is: It doesn’t.”

It just thinks it does. Using the example of seeing the color white, he notes that we see what doesn’t actually exist, as the color white is an amalgam of the entire spectrum of colors.

It follows, then, we usually don’t need to be conscious of what we want. We already “know” what it is, and once we have started to be aware of having a choice we have already made it. In effect, we are largely sleep-walking through out lives.

This was a great advantage to our ancestors struggling for survival, as they did not have to think of what to do when seeing an animal they could eat or a danger they needed to escape.

Similarly, it is a great advantage to traders scanning the markets for commodities or currencies or derivatives. Opportunities for profit appear in a flash, and traders must pounce.

Under these circumstances, Professor Graziano notes, awareness is actually “a cartoonish reconstruction of attention that is as physically inaccurate as the brain’s internal model of color. In this theory, awareness is not an illusion. It’s a caricature.”

But that’s not sufficient for making complex and difficult decisions. Our ancestors needed to become conscious to hunt down very large beasts or to organize and manage their communities. So we, too, need to think about managing our wealth, when to buy and sell, how to plan, when to be suspicious, when to hedge.

More importantly, we have to think together so we can act together. Cartoonish reconstructions may work when the choices we face are simple and need to be acted upon quickly. But faced with making communal choices we need to weigh alternatives, to debate and reflect, exploring the long-range consequences, and think about the impact on our communities.

That means, in short, we have to inhibit our impulses for immediate action. That’s tricky. We need to be able to think fast as well to think slow, as Daniel Kahneman put it in his useful book on the mind, but when do we know which is best?

In politics, it’s easy to have knee jerk reactions. Apart from being driven by ideologies and interests, we are often overwhelmed by the complexity and importance of the social issues we face. A quick and dirty response is sometimes the best we can manage, especially when our choice is only one among thousands or millions of votes being cast. And then we have to contend with the thought: “Does it matter?” And, if it doesn’t, is that a reason not to act?

Neuro-science has made huge contributions to our understanding of how the mind works, but it does not have much to say, yet, about us as social animals or group members. Research will no doubt illuminate the pathways in the brain that lead us to follow the crowd, but we also need to understand better how to cooperate, to listen, to reflect and to contribute.

We can’t really do much just by ourselves.

A Slip of the Chip

October 17th, 2014 | By ken in Society | No Comments »

Dark Money and 501(c)(4) Associations

An accident on the internet last month exposed a hidden form of political corruption known as “dark money.” It allows corporations to donate funds to “social welfare groups” set up specifically to support their political interests while circumventing legal limits.

The New York Times, in a highly unusual step, editorialized about the practice: “There’s absolutely no legal justification for any political party to have a social welfare group, which exists solely as a vehicle for nervous donors who want to stay in the shadows. But whether the money is secret or disclosed, both parties are routinely selling access to the nation’s governors and their staffs to those with the most resources.”

Apart from The Times’s Editorial Board, few seemed surprised by the practice – or by the larger point about the buying and selling of political influence by corporations. The specific practice of “dark money” may be new, but contributing to political campaigns, hiring lobbyists, attending industry meetings, and setting up special occasions to get corporate executives together with legislators, their staff members, lobbyists, regulators – all of this has become common. It reinforces the belief in the eyes of the public that the system is rigged.

It doesn’t seem that the “accident” was the work of a self-appointed whistle-blower, and it may be as simple as a secretary pressing the wrong button. But it may also be an unconscious slip, which like many such slips could have been motivated in ways we can only imagine, such as guilt about participating in unethical schemes, belief the practice should be illegal, or anger about the system for being so weighted against the middle class. Then, of course, the slip may have been born of carelessness, rooted in the conviction that any restraints on wealth are pointless, bound to be circumvented sooner or later. I feel a tendency in myself to come around to that conviction.

The Times’s editorial concluded sardonically: “Those without a checkbook can stay in the back of the line.” But what is the power of such ridicule?

Clearly there are important discriminations to be made here, regulations and laws that need to be established as we struggle to maintain our belief in democracy and keep the political playing field reasonably level. Few of these influence peddling practices pass the smell test, stirring up visceral responses that, inevitably, provoke unconscious reactions. If so, “accidents” like this are bound to happen with increasing frequency.

That may be the only sign of hope as politicians, legislators, commentators, pundits and, even, the courts give up any pretense of opposition to this trend. The smell is getting just too bad, a stench that provokes disgust, revulsion, fear – and small acts of sabotage.

The underlying problem, though, is that such unconscious reactions tend to remain out of awareness. We smile at them, we may even laugh out loud, as we “understand” what is going on without being able to articulate it clearly or formulate a response.

Laughter and ridicule may be the best we can do.