The Free Market in executive pay is Phoney. ONS data shows top execs pay themselves more even though the free market values them less.

"the richest are rich not because they are gaming the system but – by and large – because they’re very talented, took risks and worked their guts out."

At least, that's what an article in the Spectator magazine would have us believe.

No doubt many of the richest are very talented, take risks, and work their guts out. But 'richest' is a relative thing: to be 'richest' you have to be more rich than other rich people, who themselves have to be richer than not rich people. By correlating 'richest' with 'talent' and 'hard work' the Spectator, and they are not alone, suggests - by and large - the richest are more talented and hard working than everyone else.

So is talent and hard work the real reason - by and large - for richness? Whether the richest bankers have more talent, take greater risks and work their guts out so very much more than a professional soldier, scientist, or surgeon is open to a scrutiny we won't conduct in this particular post. 

In any case Free Marketeers, among the greatest advocates of high pay, would say none of that talent, risk and guts stuff matters. Free Marketeers would say Merit doesn't define Pay, Pay defines Merit. The Free Market, they assert, may not be infallible but it quickly corrects itself. A Free Marketeer would assert if you are regularly paid a lot over the medium term - i.e. not just a spot of luck with the National Lottery - then you must be meritorious. 

Is that actually true? Or has the Market for Pay been captured by those being paid the most to ensure they continue to be paid the most? Has the Free Market in executive pay become a Phoney Market?

Consider top executives of companies listed on the London Stock Exchange. The Free Market puts a value on their companies by pricing the shares. In a large and liquid market, such as the FTSE100, the price set is a genuine attempt by investors to make themselves richer. Driven by selfish motives these investors' valuation of companies is an honest one. 

On the other hand, the pay of the top executives in these companies is set by their Remuneration Committees. Committees which to a large degree are made up of other top executives who themselves depend on their own Remuneration Committees for their pay. According to a report by the TUC, "A Culture of Excess", there is a huge cross-dependency of top executives setting one another's pay:

"Remuneration committee members are drawn from a narrow constituency, consisting mainly of other board members. In 2014, 246 out of 383 FTSE 100 remuneration committee members (64 per cent) held at least one other position on another board. Over a third of FTSE 100 companies have an executive director from another company on their remuneration committee. Two thirds of FTSE remuneration committees share one member with another remuneration committee from the FTSE 100."

We can see how executive pay has ramped up from a report, "How to make high pay fairer", published in July 2014 by the High Pay Centre think tank. The report stated:

"Typical annual pay for a FTSE 100 CEO has risen from around £100,000-£200,000 in the early 1980s to just over £1 million at the turn of the 21st century to £4.3 million in 2012.1 This represented a leap from around 20 times the pay of the average UK worker in the 1980s to 60 times in 1998, to 160 times in 2012 (the most recent year for which full figures are available)."

Contrast this rocketing pay with the declining value placed by the Free Market on companies traded on the London Stock Exchange. The Office for National Statistics (ONS) provides some handy graphs to help us out here:

1) In nominal terms (not adjusted for inflation) the value of the FTSE All Share in 2014 (which had done better than the FTSE100) was over 13 times higher than the 1980 level, while FTSE100 CEO pay has gone up over 28 times in nominal terms:

2) However:
a) The inflation adjusted values show the total value of the market in 2014 is well below its value in 2000.
b) Compared to the UK GDP, the value of the stock market is well below what it was in the 1990s.

Comparing this with the bosses' multiple of average pay (effectively boss pay indexed to average pay), we see even as the Remuneration Committees value themselves more, the Free Market values their companies less.

Why is this important? Two of the reasons are:

1) It is said that burgeoning top pay does not hold down bottom pay. That may be true if the question is simply diversion of bottom pay into top pay packets. 
At Barclays, a favourite dartboard of high pay protesters, it wouldn't make much of a difference to it's lowly employees by taking a chunk out of top pay.

But top pay is justified by profits. And according to Gavyn Davies, economist and hedge fund manager and former chairman of the BBC, two thirds of company profits come from holding down bottom pay.


2) As those at the top, who direct the government of Britain, no longer need public services they don’t feel the pain when those  services are cut. Those who can afford private health, private education, and those who don’t live in areas that need strong policing, don’t notice when what they don’t need is not there.

And I suppose it would be churlish of me to mention the taxes of the 1% contribute to the welfare state that allows them to keep their staff on low wages knowing they will be topped-up with benefits, and keeps their staff healthy and educated enough to turn up to work without having to pay them enough to buy those services themselves. 

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60 Second Vote: Does the government cull of "Independent Expert Panels" need to be halted?

Does the Government have a policy of killing off bodies that hold government accountable? What do you think?

It's not just the badgers. All
independent monitoring panels are endangered species, when it is government that is being monitored.

October 2012: The "Badger Culling Pilots" panel was created by DEFRA "to help Ministers evaluate the effectiveness, humaneness and safety of controlled shooting".

February 2014: The panel reports that the badger culls were 'cruel' and 'ineffective'.

April 2014: Government announces the committee will not report on the next cull.

Added July 2014: University of Warwick study contradicts basis of Government badger culling policy. The Guardian reports:

“A mass cull of cattle, not badgers, is the only large-scale action that can end the scourge of tuberculosis in England’s livestock, according to new scientific research that represents a heavy blow to the government’s current policy.”

The Government has prior form, killing off those who would keep an eye on it. In August 2010, soon after winning the General Election that year, the Government announced that it would cut back the independent Audit Commission. The Audit Commission stated:

“In August 2010 the Department for Communities and Local Government (DCLG) announced plans to put in place new arrangements for auditing England’s local public bodies. Eventually our responsibilities for overseeing and commissioning local audit will stop, as will our other statutory functions, including those relating to studies into financial management and value for money. At this point the Audit Commission will be disbanded”

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Graphs at a glance: Why does top pay keep soaring? See how corporate lions and donkeys keep scrambling up the pay escalator.

Does Great Pay come with Great Performance? In our earlier post we showed evidence from Verum Financial that the link between pay and performance doesn't actually exist. 

Which explains why ordinary executives get extraordinary salaries.But that in itself doesn't explain why salaries of the top 1% have been booming away while pay for the 90% has stagnated.

Paris School of Economics http://g-mond.parisschoolofeconomics.eu/topincomes/

The Verum report also sheds light on this. Their analysis shows that pay for poor performance has a more insidious effect than simply giving extraordinary pay to ordinary people. The undeserved pay bonanza doesn't only annoy us ordinary Britons, it also annoys the real high performing executives who see the low performers getting rewarded for lowly performances.

The graph below shows that the variation in bonuses of high performing executives and the herd is much less than the variation in their performances. In plain terms the donkeys get paid not much less than the lions.

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Graphs at a glance: By lunchtime on the third working day in January the average FTSE100 director has pocketed what the average Brit earns in the whole year. Are top executives paid for performance? The evidence suggests not

[UPDATED JAN 2017: No change! High Pay Centre stats show those bosses are still obscenely overpaid. READ ON...]

According to the High Pay Centre, by lunchtime on the third working day of the year the average FTSE100 company director had earned as much as the average Briton will in the whole of 2014. At this rate of pay, the average FTSE100 boss earns in a year what an average Briton earns in a lifetime. Is s/he worth it?

Apologists for excessive pay assert that pay is set by the market, and that high pay rewards high performance. Is that true? Or is it actually a case of executives capturing the company revenue stream and diverting it into their pockets?

A report titled "An Analysis of FTSE 100 Company Director Pay" by Verum Financial Research provides evidence contradicting the 'pay for performance' assertion. The report  looks at the statistical correlation between pay and a series of executive performance measures. It finds that there is a moderate correlation between pay and two of the more manipulable (i.e. dodgy) measures: Profit After Tax and Return On Equity. The report finds that correlation with three more meaningful measures are actually negative (i.e. the worse your performance the more you get paid): Cash Return On Invested Capital (CROIC); Operating Cashflow; Cash As A Percentage Of Profit.

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Graphs at a glance: KPMG's report reveals executive pay breakdown between salary and incentives for a FTSE100 boss. For them a 'bonus sacrifice' is not much of a sacrifice.

Every now and then, generally to quell public outrage, directors give up their bonuses. 

Bankers including Stephen Hester (former CEO of RBS) and Bob Diamond (former CEO of Barclays) gave up theirs in the face of public outrage over incompetence and skullduggery. Energy boss Sam Laidlaw (CEO of Centrica) gave up his bonus because of public outrage over price hikes. His peer at NPower, Paul Massarra, refused to give up his bonus saying it was just a gimmick. 

The entire board of RBS declined their bonuses due to an £8billion loss and £3.1billion cost of legal fees and fines. Anthony Jenkins (CEO of Barclays) turned down his bonus, citing "very significant costs which have been required to address legacy litigation and conduct issues in 2013" (i.e. Barclays getting caught being very naughty indeed). 

Did Jenkins throw his own bonus under the tram to provide cover for hiking to £2.4 billion the bonuses paid to his Barclays bankers, inspite of profits falling by nearly a third? To paraphrase Saint John: "No greater love hath any man than to give up his bonus for the bonuses of his staff."

But don't get too teary for these multimillion pound sacrifices. According to a report by KPMG, for your average FTSE100 boss bonuses only form a small layer of icing on a very fat cake:

http://www.forfactssake.org/

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Is the purpose of astronomical executive pay really to avoid losing and to incentivise excellent executives?

Company executives justify their magnificent pay with the ‘global war for talent’. Like so many wars, there are two fronts, one facing the enemy and the other at home:

• Enemy: Compete against other employers to recruit and then hold on to the talent.
• Home: Compete against the employee’s innate indolence, to ensure they work hard, don’t slack, and try their very best.

Two appointments in the summer of 2012 show the futility of using pound coins as shrapnel in this ‘war for talent’:

The first is that of Ross McEwan, who was poached by Royal Bank of Scotland (RBS) from the Commonwealth Bank of Australia (CBA). McEwan took the job of Head of Retail Banking at RBS, which was the same post he held at CBA. According to a report by the Guardian, at CBA McEwan earned

• Salary A$1.25 million
• Bonus A$647,657
• Equal to £1.2million for the year

For ditching CBA and moving to RBS, McEwan was paid a ‘golden hello’ of £3.2 million on top of his undisclosed pay package. RBS claim this £3.2m is what McEwan forfeited by leaving CBA. 

So much for ‘holding on to talent’: CBA’s golden handcuffs turned out to be a very portable pair of golden cufflinks.

The second is Antony Jenkins, CEO of Barclays. We haven't managed to spot what Jenkins was paid in his previous role as Barclays’ Head of Retail Banking. According to a report in the Daily Telegraph “Barclays paid a multi-million pound sum by way of compensation” to Jenkins for not getting the seat on the executive board that had been promised when he joined from Citi, an American bank, in 2005. However his new pay package is reported by the FT to be:

“worth up to £8.6m – a base salary of £1.1m, an annual bonus of up to £2.75m, a long-term incentive plan worth up to £4.4m and a cash allowance of £363,000 in lieu of pension.”

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Liebrary: Do income tax cuts for the rich make us all richer? See the dismal evidence to the contrary

There is a predictable perversity in government policy claiming to encourage Britons to work harder. Like so much past policy the government claims that for the good of the nation it must give the rich more and give everyone else less. A carrot and stick policy that hands all the carrots to the wealthy and only swings sticks at the rest. Two current ideas being pursued by the current government's Tory dog, with its Liberal tail noticeably not wagging, are characteristic of this philosophy:

• Give the rich more money, by cutting the 50% tax rate, in case they become disincentivised slacking tax-dodgers.
  
  
• Give everyone else less money, by cutting tax credits and benefits, freezing wages, and pruning pensions, in case they are incentivised to become slacking scroungers.

The argument that giving the moneyed elite more money will make everyone wealthier manages to ignore the roaring evidence of the past.

Over the last few decades Britain has given the rich a rapidly increasing share of national wealth and national income. In the same period, the lower 90% of the nation has seen no increase in its income at all.  The data from the Paris School of Economics shows how over the 20 years up to 2010 the income of the top 1% has doubled while the income of the bottom 90% stagnated. High rewards for the top brought nothing to the majority.

Since the mid 1980s Britain has doggedly followed the USA with the top 1%’s share of national income racing away from that in other similar nations. In stark contrast to what happened in other industrialised nations the UK and USA allows the wealthiest to swill to their fill. A cash grab led by bankers and eagerly followed by top executives of other industries. A cash grab funded by rip-offs, such as Payment Protection Insurance and many others in many industries, perpetrated on ordinary people.

Even though other nations did not lose their grip on their own wealthiest 1% they were not insulated from irresponsible and rip-off commercial behaviour. The dash for the cash by the bankers of New York and the City of London brought the whole world into economic crisis. Far from ensuring national wealth, giving the rich more brought global ruin.

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Former Lloyds CEO Eric Daniels has his bonus clawed back

Chris and KJ discuss bonuses and PPI losses at Lloyds Bank

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Corporate bosses deserve their millions

The gang discuss the challenges faced by corporate bosses

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Fat cat pay rewards failure

Fee spells out to KJ why David Cameron's excessive pay plan won't work

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Why tackling high pay is in the national interest

By Deborah Hargreaves, Chair of the High Pay Commission

British business is facing a crisis. The public has lost faith in the corporate sector, which it sees as monolithic, money-grabbing and uncaring. Excessive pay for company bosses has added to the malaise. As those on middle and low incomes face a sharp squeeze in their living standards, corporate leaders are awarding themselves 49% pay rises. These bosses see little irony in then lobbying to repeal the 50p top rate of tax paid by those on £150,000 or more. These are the same leaders who are arguing for real-term cuts to the minimum wage, because, after all, aren't we all facing times of unparalleled austerity?

Directors' hypocrisy over pay reinforces the view among the public that businessmen are "in it for themselves". It is worrying that trust in big business has sunk to this extent when there is so much emphasis on the private sector leading us out of the economic crisis. In polling for the High Pay Commission, 79% of those questioned said pay and bonuses were out of control.

Our year-long inquiry has led us to believe that excessive top pay levels are not only corroding trust in business but also damaging society and the economy as a whole. In the last 30 years we have seen rewards channelled upwards. The top 0.1% of earners have pulled away from the rest at a rapid pace. In 1980, for instance, the boss of Barclays was earning 14.5 times average pay at the bank; the current boss, however, is on 75 times the average, representing a 4,899% rise over that 30 years.

During the same period average UK wages have gone up threefold and pay for a senior policeman or schoolteacher has risen sixfold. Of course, leading Barclays today is a different proposition, but the lives of a policeman and headteacher have also changed beyond recognition in that time.

Since the mid-1970s the general workforce's share of GDP has shrunk by 12%. For years, this sleight of hand went unnoticed – we all felt we were getting richer on the back of a rising housing market. But as the economic crisis has started to bite, the fact that company bosses seem to be living in a different world has become increasingly apparent.

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Neither admit nor deny wrongdoing - when nobody is responsible, anything is acceptable

One of the stellar successes of the internet has been the Massively Multiplayer Online Role-playing Games (MMORPG). Improved internet line speeds, enhanced graphics, thick clients, multiprocessors, and games like “World of Warcraft” have contributed to multiverses of fantasy and mayhem that suck millions of people and billions of productive hours out of the real world. The great attraction of these virtual worlds is that you can take on a new incarnation. You can be what you’re not, dare what you don’t, and smoke in public places. In these worlds you are Super Sized in every way – weapons, skills, appendages - and create the sort of mayhem you only see in the movies. Perhaps the greatest attraction of these virtual worlds is that you take no responsibility for what you do. You can be reckless, you can be stupid, you can be really really bad (the sort of thing even your own mum wouldn’t forgive), and there is no comeback. Burn a village or two; kick a goblin when he is down; type really rude words that you saw someone else type. You are immortal – get “killed”, and you are back in action within seconds. And when you’ve had enough for the day, you just brush your teeth (unless you’re really pumped up with adrenalised recklessness), rub on your creams, and snuggle up in bed to dream about tomorrow’s mayhem.

A world where you can get away with what you like, destroy, lie, cheat, steal, and have to take no responsibility. Who would have thought it could be possible!

“Bank of America Corp., the No. 3 U.S. bank, was fined a record $10 million by the Securities and Exchange Commission because it lied to the regulator during a probe into trading by the bank and a former employee…….[Bank of America] neither admitted nor denied wrongdoing, and neither the bank nor the SEC named the employee whose records were at issue.”

“Morgan Stanley agreed to pay $102 million to end an investigation in Massachusetts into unfair lending practices….Under the terms of the settlement, Morgan Stanley admitted to no wrongdoing.”

“JPMorgan Chase has agreed to pay US$153.6 million (£95 million) to settle civil fraud charges that it misled buyers of complex mortgage investments just as the housing market was collapsing. JP Morgan did not admit any wrongdoing.”

“Goldman Sachs to Pay Record $550 Million to Settle SEC Charges Related to Subprime Mortgage CDO…Goldman agreed to settle the SEC's charges without admitting or denying the allegations.”

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Pay for performance – Lloyds, RBS, Annual General Meetings and UK Government cowardice

The Centre for Policy Studies, a leading think tank, has proposed that the UK Government should hand its stake in Lloyds and RBS to the citizen taxpayers. If this happens then, for the first time in decades, a bank would actually be majority owned by ‘small shareholders’. The banks would only accept this if the shares were handed over without any voting rights, for fear of what would ensue at their Annual General Meetings (AGM).

AGMs are traditionally stitched up between the big financial companies who hold the bulk of one another’s shares in the pension and investment funds they manage on our behalf. Scratching one another’s backs, they follow an iron-clad policy of “no pay package left behind”. I'll vote for your package if you vote for mine.

One reason for the Government’s hurry to get rid of its shares in RBS and Lloyds is holding them is so embarrassing – showing up the fact that all its heroic talk about reining in excessive pay is nothing but hot air. No more evidence is needed than the dismal performance of UK Financial Investments Limited (UKFI), the government body that manages the shareholdings, at the RBS and the Lloyds Banking Group Annual General Meetings in the last month.

• PRESS RELEASE 18th May 2011: Statement re: Lloyds Annual General Meeting UKFI has lodged votes in favour of all resolutions at the bank’s Annual General Meeting on 18 May. 

• PRESS RELEASE 19th April 2011: Statement re: RBS Annual General Meeting UKFI has lodged votes in favour of all resolutions at the bank’s Annual General Meeting on 19 April.

If one more shareholder had voted against the Lloyds Banking Group’s executive pay proposal then there would have been a 49.11% against. As it was, the contrarians mustered just 8.11%. If one shareholder had voted against the RBS executive pay then it would have been thrown out. Who was this weighty shareholder? The UK government, with its 41% stake in Lloyds Banking Group, and its 83% in RBS bank.

“Payment for Performance” – what does it actually mean? These are the details of how performance is rated, taken from the Lloyds Banking Group’s Annual Report:

Lloyds Banking Group, allocation of bonuses in the form of share options (which allow executives to buy shares at subsidised prices):

• Options granted up to March 2001: “Lloyds Banking Group plc’s ranking based on total shareholder return (calculated by reference to both dividends and growth in share price) over the relevant period should be in the top fifty companies of the FTSE 100.” You have to come in worse than fiftieth out of a hundred to lose your bonus.
• Options granted from August 2001 to August 2004: “The performance condition was linked to the performance of Lloyds Banking Group plc’s total shareholder return… against the comparator group was required to be at least ninth.”  There were 17 companies in the comparator group.  Come in ninth out of seventeen, and you were in the money.
• Options granted in 2005: “the performance condition was linked to the performance of Lloyds Banking Group plc’s total shareholder return… If Lloyds Banking Group was ranked below the median (ninth or below) the options would lapse.”  There were 15 companies in this comparator group – so long as Lloyds was better than ninth position, they were in the money.

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Where are the CEO poachers when you need them?

Fee convinces KJ that CEOs aren't worth their huge salaries

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Who pays for the "top talent"?

The ‘tussle for talent’ is the favourite justification given by companies, bureaucracies, and parliaments for generous perks, privileges, and pay. To say the “talent” takes the credit is obvious – that is how they are identified as “talent”. However, whether they deserve all the credit they take is a matter of opinion.

The people who allocate the ‘credit’, and thereby define who the ‘talent’ is, are the bosses of organisations. A report released in October 2010 by Income Data Services demonstrates that the bosses are sure of one thing – they themselves are enormously talented, and they tussle vigorously to reward themselves. In a time when wages are generally stagnating, the bosses determination to tussle for their own talent is evident:

“FTSE-100 directors saw their total earnings boosted by an average of 55% while across the FTSE 350 as a whole total board pay went up by an average 45%, according to the latest Directors Pay Report, published by Incomes Data Services. (Year to June 2010)”

Even boosting the pay of fellow employees, by declaring how talented they are, is not always a matter of generosity or admiration – it can also be to provide a smokescreen. Massive rewards to bankers distracts attention from even more massive rewards to banking bosses. The bankers may be wolves in sheep’s clothing, but in that galloping herd of talented sheepskins there are many sheep in sheep’s clothing getting away with gratifying levels of pay and perks. The degree to which this smokescreen has worked can be seen from the fact that in the years between 1980 and 2007 the pay per worker in the financial sector – i.e. all of them, not just the “talent” – rose from about par to over 1.8 times  the average pay per worker. These figures on pay are from the US,  which the UK strives to match.

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