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Business needs to speak out against greed
By Matt Miller
Published: April 20 2009 14:48 | Last updated: April 20 2009 14:48
Given the mess into which Wall Street’s poor stewardship has sunk the US, the phrase “financial industry statesman” will be seen by the American public as a laughable oxymoron for some time. But there is a real risk that the justified hit to Wall Street’s reputation will taint the standing of business more generally unless non-financial leaders wake up and take unconventional action. The perils of timidity at this moment are high. If business as a whole (and not just finance) is discredited by today’s meltdown, the drive to renew American capitalism could give rise to steps that burden the US economy for years.
To avoid this fate, far-sighted business leaders need to weigh in now on three subjects on which they have been notably absent: executive pay; the need for an updated “social contract” that fits 21st-century realities; and a strategy to make service jobs that cannot be offshored a path to the middle class. These are no longer political questions that can be left to Washington trade associations or viewed as a distraction from the “real work” of running one’s business, because failure to address them will fuel a backlash that affects every company’s licence to operate. Let us take them in turn.
Executive pay. The firestorm over bonuses at AIG, the insurer rescued by the US government last year, made clear that we are in the midst of an overdue “cultural correction” – that is, justified rage at the disconnect between any reasonable notion of “merit” or “performance” and financial reward. It is in the enlightened self-interest of business to acknowledge that it is both wrong and politically unsustainable to have chief executives routinely accumulating entrepreneurial-style wealth without taking entrepreneurial-style risk – or worse, while presiding over shoddy results or the actual demise of their companies.
That many financial industry leaders walked away with more than $100m as their institutions cratered should not just shock average Americans. It should outrage patriotic chief executives who know that a reckoning looms if ordinary people come to believe that US capitalism is a rigged system run by insiders for their own benefit.
Yet any honest observer knows that executive pay in America is, in fact, set largely by rigged systems today. What is needed is a new group of “CEOs against CEO greed” to model better behaviour and speak out against these scams. I know business leaders who are privately disgusted by the level of greed in many corner offices but who see no upside in speaking out; after all, they say, it is not their fight. Well, I have news for this silent majority: if you care about the future of American business, the brewing revolt makes it your fight now.
Sensible fixes abound. Boards could limit the gap between chief executive pay and that of senior managers to some reasonable multiple; require performance bonuses to reflect superior results relative to one’s peers, so windfalls are not bestowed by surging markets; and claw back awards that prove to have been based on illusory profits. Once business sets its mind to ending the pay racket, there will be no shortage of sound ways to do it.
A new social contract. When it comes to their Washington agenda, most companies focus on parochial regulatory issues or industry-specific taxes. They lobby hard on these narrow measures because the return on political investment is high. But this issue-by-issue mentality is not remotely equal to today’s challenges. A visionary business agenda would make sure average workers feel more secure in an era of accelerating change; this is the only way to avoid a backlash against trade and economic dynamism altogether.
To tackle these concerns, American business must rethink its odd, outsized role in the provision of health coverage, which may have made sense 50 years ago but which today leaves millions of families falling though the cracks – including the 14,000 people a day who have lost health coverage during this recession. No hired gun can work a subcommittee to “fix” this for business; instead, corporate leaders need to champion market-friendly solutions that nonetheless shift the social welfare burden over time from private payrolls to government.
Middle-class jobs that cannot be offshored. The present campaign to make unionisation easier and Vice-President Joe Biden’s taskforce on the middle class are two responses to an emerging (and depressing) reality: growing numbers of jobs in the US face effective wage caps because they can be done for less, and often better, overseas. Yet in-person service jobs – such as teaching, home health services or hospice care, for example – cannot be offshored. How can the US turn this kind of work into jobs that can sustain a family? Failure to acknowledge the centrality of this question will only deepen the perception that there is a corrosive gap between the interests of US-based corporations and those of Americans.
Chief executives face a choice. They can help bolster workers’ security, or they can hire more security guards and hunker down. There is little doubt that the risks of business as usual are far greater than the risks of such new approaches. The trouble is that every individual chief executive has an incentive to lie low. A group of 10 far-sighted business leaders who sense the threat (and the opportunity) could get this ball rolling. With business nearing the brink, who will answer the call?
The writer is a management consultant and a senior fellow at the Center for American Progress. His new book is The Tyranny Of Dead Ideas: Letting Go Of The Old Ways Of Thinking to Unleash A New Prosperity
Copyright The Financial Times Limited 2009
Business needs to speak out against greed
By Matt Miller
Published: April 20 2009 14:48 | Last updated: April 20 2009 14:48
Given the mess into which Wall Street’s poor stewardship has sunk the US, the phrase “financial industry statesman” will be seen by the American public as a laughable oxymoron for some time. But there is a real risk that the justified hit to Wall Street’s reputation will taint the standing of business more generally unless non-financial leaders wake up and take unconventional action. The perils of timidity at this moment are high. If business as a whole (and not just finance) is discredited by today’s meltdown, the drive to renew American capitalism could give rise to steps that burden the US economy for years.
To avoid this fate, far-sighted business leaders need to weigh in now on three subjects on which they have been notably absent: executive pay; the need for an updated “social contract” that fits 21st-century realities; and a strategy to make service jobs that cannot be offshored a path to the middle class. These are no longer political questions that can be left to Washington trade associations or viewed as a distraction from the “real work” of running one’s business, because failure to address them will fuel a backlash that affects every company’s licence to operate. Let us take them in turn.
Executive pay. The firestorm over bonuses at AIG, the insurer rescued by the US government last year, made clear that we are in the midst of an overdue “cultural correction” – that is, justified rage at the disconnect between any reasonable notion of “merit” or “performance” and financial reward. It is in the enlightened self-interest of business to acknowledge that it is both wrong and politically unsustainable to have chief executives routinely accumulating entrepreneurial-style wealth without taking entrepreneurial-style risk – or worse, while presiding over shoddy results or the actual demise of their companies.
That many financial industry leaders walked away with more than $100m as their institutions cratered should not just shock average Americans. It should outrage patriotic chief executives who know that a reckoning looms if ordinary people come to believe that US capitalism is a rigged system run by insiders for their own benefit.
Yet any honest observer knows that executive pay in America is, in fact, set largely by rigged systems today. What is needed is a new group of “CEOs against CEO greed” to model better behaviour and speak out against these scams. I know business leaders who are privately disgusted by the level of greed in many corner offices but who see no upside in speaking out; after all, they say, it is not their fight. Well, I have news for this silent majority: if you care about the future of American business, the brewing revolt makes it your fight now.
Sensible fixes abound. Boards could limit the gap between chief executive pay and that of senior managers to some reasonable multiple; require performance bonuses to reflect superior results relative to one’s peers, so windfalls are not bestowed by surging markets; and claw back awards that prove to have been based on illusory profits. Once business sets its mind to ending the pay racket, there will be no shortage of sound ways to do it.
A new social contract. When it comes to their Washington agenda, most companies focus on parochial regulatory issues or industry-specific taxes. They lobby hard on these narrow measures because the return on political investment is high. But this issue-by-issue mentality is not remotely equal to today’s challenges. A visionary business agenda would make sure average workers feel more secure in an era of accelerating change; this is the only way to avoid a backlash against trade and economic dynamism altogether.
To tackle these concerns, American business must rethink its odd, outsized role in the provision of health coverage, which may have made sense 50 years ago but which today leaves millions of families falling though the cracks – including the 14,000 people a day who have lost health coverage during this recession. No hired gun can work a subcommittee to “fix” this for business; instead, corporate leaders need to champion market-friendly solutions that nonetheless shift the social welfare burden over time from private payrolls to government.
Middle-class jobs that cannot be offshored. The present campaign to make unionisation easier and Vice-President Joe Biden’s taskforce on the middle class are two responses to an emerging (and depressing) reality: growing numbers of jobs in the US face effective wage caps because they can be done for less, and often better, overseas. Yet in-person service jobs – such as teaching, home health services or hospice care, for example – cannot be offshored. How can the US turn this kind of work into jobs that can sustain a family? Failure to acknowledge the centrality of this question will only deepen the perception that there is a corrosive gap between the interests of US-based corporations and those of Americans.
Chief executives face a choice. They can help bolster workers’ security, or they can hire more security guards and hunker down. There is little doubt that the risks of business as usual are far greater than the risks of such new approaches. The trouble is that every individual chief executive has an incentive to lie low. A group of 10 far-sighted business leaders who sense the threat (and the opportunity) could get this ball rolling. With business nearing the brink, who will answer the call?
The writer is a management consultant and a senior fellow at the Center for American Progress. His new book is The Tyranny Of Dead Ideas: Letting Go Of The Old Ways Of Thinking to Unleash A New Prosperity
Michael de Portu: Realities of the Economic Crisis
Financial fraud typically takes a long time to detect and yet, paradoxically, the tell-tale signs are (almost) always in plain sight. Whether it is Enron, Fannie and Freddie, or more recently Madoff, we are invariably surprised that we failed to listen to those who sounded an early warning or that we did not pick up on the anomalies and detect the grossly distorted picture.Why is this so? One reason seems to be that many of us — accountants, lawyers, bankers, examiners, and others — tend to be more interested in what is documented than in the reality that actually exists. We want to be able to verify the accounts and how they were calculated, but we seldom apply the same energy to checking on what is readily observable.
There are interesting parallels that can be drawn with many aspects of the current financial crisis. The prevalence of obscure jargon, the arcane distinctions of form, the assertions that “only experts can truly understand this” and the proliferation of acronyms all act as obstacles to see what is readily observable. This situation is further aggravated by the numbingly large amounts that are thrown around about the cost of the rescue effort (Goldman Sachs recently tagged it at $4 trillion) or the losses we still face (reference to IMF and Roubini), and then the sudden bursts of optimism when we are told that signs are emerging that we may have reached a bottom. Which is it? Where are we? When all is said and done what will the world around us look like?
As it were, attempting to get to the reality of this crisis is fairly thankless; many of the instruments were issued offshore or privately, so much of the underlying information is not public; when the documents are available, they are lengthy and frustrating to read. This being said, enough government data, surveillance information, financial filings and prospectuses are available that illuminate important elements. The picture that emerges, while partial, is fairly striking. It of course confirms the phenomenal growth of mortgage securities in 2004-2007, the importance of sub-prime, the decline in the quality of later offerings, the crisscrossing of derivative guarantees and outright bets on how these and other instruments would perform.
But, what it also shows is most surprising. For example, the total of all forms of debt outstanding in the domestic market almost doubled between 2000 and 2008, from $27 trillion to $52.5 trillion, with mortgages representing $14 trillion of the latter. It reveals that the total value of domestic debt and exchange-traded stocks was almost five times GDP when the crisis began in the fall of 2007, which is twice the multiple that prevailed in the 1980s and one-and-a-half times that of the 1990s.
It shows that at $1.7 trillion outstanding and wrapped into various issues or vehicles containing other assets, sub-prime spawned a non-investment grade debt overhang that is too large to be absorbed by the $2 trillion junk bond and hedge fund sector. It shows that bank lending has not, as claimed, declined — rather it is the issuance of securities has fallen off. It shows how just the top four banks account for almost half of the $7 trillion of bank debt outstanding in the market.
We also find that of the $54 trillion of credit default swaps, over 70% were created by the six top banks and investment firms. Credit default swaps are those contracts where a “protection” buyer would make regular payments to a “protection” seller in exchange for receipt of a “compensatory” payment if a basket of securities or other claims declined in value (regardless of whether the buyer had actually incurred a loss).
Several other aspects of the crisis come into clearer focus in light of this data. One is that it does not take as much as one might think to cripple a large financial institution. What matters is less the size of its balance sheet than that small portion of its equity that is readily available as, or convertible to, cash and can be diverted from the regular operation cycle.
The second aspect that stands out goes a long way towards explaining why something which started in 2007 suddenly exploded into a frenzy of wealth destruction in the fall of 2008. Individual firms’ data show that the system suffered an abrupt deterioration beginning in the summer of 2008. This was partly related to loans and securities losses incurred or recognized (such as through mark-to-market) – but that the main culprit was more prosaic: it was a sudden freeze in the payments system under the dual impact of collateral calls and a flight-to-safety (overnight lending became unavailable except against top-rated securities and Treasuries).
Today, the banking system only appears to be operating normally. In reality, without the significant amount of liquidity provided by the Federal Reserve through discount lending and 28-day credits, the interbank payments system would still be frozen. What is also apparent is that low interest rates and continued anxiety have combined to produce an environment of high credit spreads — a boon to banks which has enabled them to realize significant net interest income in 2008 and so far in 2009. This has also considerably heightened risk levels, as can be seen, for instance, in banks’ Value-at-Risk measurements of their portfolio volatility.
This is a pure financial crisis – in fact a crisis of the payments system that has spread and disturbed the normal pricing mechanism for all assets and instruments (other than cash and Treasuries). It is this breakdown that appears to have triggered a drop across the entire economy – that is, one going beyond the weak spots of California and the automotive industry that had existed since 2006 – leading businesses to embark in a wholesale pullback and a postponement of major decisions.
If correct, this alternative view has implications for some of the ingredients that should be part of the cure.
Government initiatives to fight the crisis have been aimed at keeping interest rates low to ensure ample monetary supply and providing liquidity to protect the banks and encourage them to “lend and make markets.” These initiatives also have the practical effect of serving to prop up prices. Assuring counterparts that financial institutions can meet demands for cash and do so without resorting to precipitous asset sales has this effect. Repurchases of mortgage-backed securities issued, or guaranteed, by Fannie and Freddie are another price boosting mechanism. Bolstering banks’ capital serves to reduce the need to monetize assets for liquidity purposes — strengthening someone’s bargaining position similarly is a price boosting device.
This is consistent with a view of the crisis as a bona-fide recession to which the traditional recession-fighting tools need to be applied. In the alternative view of the crisis, however, the solution would instead hinge on finding an effective formula to cause a series of unwinds so that the paper can be removed and a settling up takes place on the commitments and counter-commitments referencing this paper. For this to actually occur and the system to resume its efficient allocation of resources through pricing, subprime prices would need to be pushed down rather than up. The pricing should be based either on recent transactions such as the sales conducted by Merrill Lynch in September 2008 at 22¢ on the dollar, or at a percentage of par as determined through a “down-case” discounted cash flow valuation. The pricing should reflect the reality that a year-and-a-half into the crisis, sub-prime asset impairments are no longer temporary and that they apply to entire issues and trading vehicles, not merely some of their tranches.
The pricing down and the purchase of sub-prime-containing paper should be implemented through an “eminent domain” approach akin to the expropriations of individual properties that take place when a road needs to be built for the common good. Pricing and the compulsory nature of the process would need to be uniformly managed. Whether to sell or not to sell, in particular, could clearly not be left at the discretion of security holders. Only a systematic removal of sub-prime paper will permit other assets to price back to normal and avoid leaving a large asset class of uncertain value to coexist alongside the new debt incurred in fighting the crisis.
While painful, this adjustment would recognize a state of fact — that many institutions are not be able to operate independently in their current format, that a return to pre-crisis patterns of investment in sub-prime and sub-prime-related vehicles and instruments is an unrealistic expectation, and that the truly critical components of the banking system for the economy at large are their depositary and lending activities.
Source
CBO: Income inequality gap hit record high in 2006. 
Arloc Sherman of the Center for Budget and Policy Priorities writes today that “new data from the Congressional Budget Office (CBO) show that in 2006, the top 1 percent of households had a larger share of the nation’s after-tax income, and the middle and bottom fifths of households had smaller shares, than in any year since 1979, the first year the CBO data cover.” According to Sherman, this means that “the gaps in after-tax incomes between households in the top 1 percent and those in the middle and bottom fifths were the widest on record“:
Top incomes continued climbing in the 1990s, to 20.6 times higher than the middle fifth of households in 2000 and 21.3 times higher in 2005. By 2006, top incomes were 23.0 times higher than those of the middle fifth — nearly tripling the income gap between the top 1 percent and those in the middle since 1979.
The gap between the top 1 percent and the poorest fifth of Americans widened even more dramatically over this same period. In 1979, the incomes of the top 1 percent were 22.6 times higher than those of the bottom fifth. Top incomes continued climbing to 63.1 times higher in 2000 and 72.7 times higher by 2006 — more than tripling the rich-poor gap in 27 years.
Top incomes continued climbing in the 1990s, to 20.6 times higher than the middle fifth of households in 2000 and 21.3 times higher in 2005. By 2006, top incomes were 23.0 times higher than those of the middle fifth — nearly tripling the income gap between the top 1 percent and those in the middle since 1979.
The gap between the top 1 percent and the poorest fifth of Americans widened even more dramatically over this same period. In 1979, the incomes of the top 1 percent were 22.6 times higher than those of the bottom fifth. Top incomes continued climbing to 63.1 times higher in 2000 and 72.7 times higher by 2006 — more than tripling the rich-poor gap in 27 years.
Sherman adds that “taken together with prior research, the new data suggest greater income concentration at the top than at any time since 1929.”
