Why hate CEOs?

Some dummies on the left recently made headlines with a new charge against
corporate capitalism. According to the Institute for Policy Studies in
Washington, D.C., CEOs who cut jobs at the firms they head are being rewarded
with big compensation packages.

It is galling, the group says, “especially in this period of economic
downturn as people are feeling very insecure about their jobs, to see that
the guys at the top have cushioned themselves.”

Catch the Marxist theory behind the rhetoric? The idea is that capital is
benefitting at the expense of labor by scarfing up all the surplus value.
Capitalism has been around so long it’s a wonder that workers are able to
feed themselves at all!

Actually, the direct statistical (not causal) relationship between job cuts
and high CEO pay isn’t surprising, especially in a downturn when maintaining
profitability is a challenge. In a bull market, everyone looks like a
winner. But when the bear arrives, managers who can keep a company in the
black come at a premium. Companies must pay to retain those individuals who
have the talent and foresight to navigate choppy market waters.

It is a special problem for companies going through very hard times. No CEO
wants to preside over dramatic downsizing or bankruptcy. The temptation is
to bail out as a means of preserving your own labor market value. To keep
the management around, their pay must increase relative to those companies
that are doing better. Thus the paradox: CEOs in downsizing companies tend
to be paid more.

But this is only a short-term trend because in the long term, the highest
paid CEOs are those who achieve profitability regardless of the particular
mix of labor and capital that is used to achieve it. If a CEO cut workers
and brought about falling profits as a result, his pay would be cut.

To observe a tendency in a bear market for job-cutting CEOs to be
compensated more than others does not demonstrate that the means to high pay
is to cut jobs. The only means to higher-than-average compensation in a
market economy is to perform better than your fellows over the long run.
Yes, mistakes in compensation are made, but only the market economy provides
a mechanism for correcting mistakes.

The lefties who bewail this system don’t propose an alternative, but there
are only two.

Option 1 is that CEOs could get lower pay for cutting workers, and pay
increases for hiring workers, regardless of what market conditions require.
That system would misdirect labor resources, causing a shift of workers out
of small and medium-sized industries into larger industries that can pay
more, again, regardless of market conditions. Big business would become
undercapitalized and top-heavy in its workforce.

What should the newly hired workers do? Perhaps technological development
that leads to labor savings should be shelved. And to prevent cut-throat
techniques from competing with Luddite Inc., new technologies should be
banned across the board, so that everyone would have the same incentive to
keep people employed in their current jobs, whether or not the jobs have
economic merit.

To prevent perverse outcomes – inefficient, labor-heavy companies hiring more
workers while efficient, labor-light companies lose workers – you would need a
complicated system of cross-firm subsidies. If you follow this logic far
enough, you would have to impose all-round central planning to ensure that a
predetermined, government-approved mix of capital, labor and profits
existed at all firms.

Option 2 is to fix the salaries of CEOs. This would end market competition
for management once and for all. As with bureaucrats in the federal
government, there would be fixed pay scales for all people designated as
management. There would be rankings, M1 through M16, with pay and benefits
based not on market conditions but on seniority and educational
qualifications. The longer you hang around, the more you are paid,
regardless of performance. Stockholders would be out of the loop altogether.

This may be what the left has in mind. But anyone with any economic sense
should know this would spell disaster. It would mean that no company would
ever be downsized or go out of business. This in turn would lead to
stagnation of the entire corporate sector and a secular decline in living
standards, as companies became ever more bureaucratized and immune from
market pressures (think Europe).

The anti-capitalist left might respond that stockholders don’t seem to have
much say over CEO pay now. In fact, that’s not entirely true. It goes
without saying the stockholders would rather receive the CEO’s pay in the
form of dividends than see it go to a new summer home for the head of the
company. Actually, the same could be said about all labor expenses of the
company.

Stockholders as owners are effectively purchasing labor services to be
employed in the firms they own. As with all purchases, the buyer would
rather pay $0 than $10 million. What they would like to pay and what they
must pay, given the realities of competition and scarcity, are two different
things. Just as everyone would like to have a Mercedes for free, reality
dictates that you have to shell out.

Do stockholders want the CEO equivalent of the Mercedes, or do they want a
Yugo? The choice is up to them. They buy and sell stocks, or have others do
it for them, based on their evaluation of whether the management is doing
the right thing. Sometimes stockholders band together to toss out the
management and hire a new one – a maneuver that would be far more common if it
weren’t restricted by the SEC.

Ask anyone who has ever been the head of a business whether it is easier to
spend money (on labor or capital or promotion) or cut expenses. The answer
should be clear. Cutting back requires deftness and sound judgment. If
something goes wrong, you are held responsible. The burden is especially
large these days, when every laid-off employee considers the option of
cashing in via a discrimination lawsuit.

In my opinion, therefore, the CEO who cuts should earn more than those who
spend. But that’s just my opinion, and it’s not up to me to determine what
CEOs are paid. It is up to the forces of the market economy, which no human
being on earth has yet learned to outsmart.

The signature attitude of the meddling left is a cock-sureness that they
know better than millions of consumers and stockholders how the economy
should be organized. Thus they put out these silly reports, which the
government and the media are glad to tout because they seem to make the case
for socialism.

However, what this Beltway think-tank really opposes is policy intellectuals
being paid less than private-sector capitalists, and thus do they aim their
fire at those who are infinitely more valuable to society.