Should Obama regulate Wall Street pay?
Filed under: Economy
Yes, he can and yes, he should. There is no doubt in my mind that people go to Wall Street for the money. They learn the rules of the game and they play hard to get the most money in the shortest time. As Wall Street pay has grown -- the average Wall Street bonus climbed 19-fold from about $10,000 in 1985 to almost $190,000 in 2007 -- more and more of the most talented people in the world have flocked there, and away from other parts of the work world.
But the opportunity cost of taking talent from building more energy efficient vehicles or finding a cure for cancer and putting it in a hedge fund is not the biggest problem with Wall Street pay. It's that Wall Street's pay plan leads bankers to make the biggest bets in the shortest period of time so they can win the lion's share of the bonus pool. When those big deals went bad, Wall Street's bankers got to keep their money and stick the cost on taxpayers.
To avoid a repeat, President Obama is wisely thinking about changing the rules on Wall Street pay. He wants all financial institutions (FIs) -- including banks, hedge funds, and private equity firms -- to follow formal pay guidelines. While the details of these guidelines are not yet out, the most interesting part of them is that these guidelines would apply equally across Wall Street, whether a bank had taken TARP money or not. This is 100 percent guaranteed to yield shrieks of outrage from the hedge funds of Stamford to the trading floors on Broad Street.
What guidelines should Obama require FIs to follow? As I have posted over the last several years, I think Obama should require FIs to put bankers' pay in an escrow account. If after, say, three to five years, the deals that each banker originated have held up well, then the money in the escrow account can flow into the banker's hands. If those deals lose money, the escrow account goes to compensate the investors for their losses.
Why is this escrow account a better idea? Because Wall Street people will do what they need to do to get paid the most money. If their own compensation is tied to both the return and the risk of the deals that they bring in, then they will be much more careful to consider the risk side of the equation. And instead of getting $18.4 billion in bonuses in 2008 -- year when the FIs brought the global financial system to its knees -- bankers would have been watching those escrow accounts flowing to investors instead.
This will probably mean that Wall Street does fewer deals. And that would mean that Wall Street would pay less and attract fewer people. It would also mean that if bankers brought in bad deals, they would pay the price -- rather than being able to shift the losses onto taxpayers.
That sounds like a free market to me.
Peter Cohan is president of Peter S. Cohan & Associates. He also teaches management at Babson College. His eighth book is You Can't Order Change: Lessons from Jim McNerney's Turnaround at Boeing.
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Reader Comments (Page 1 of 24)
5-13-2009 @ 10:58AM
morten said...
No, if Obama regulates corporate pay, we will be living in a communist country. In fact, we will become the old Soviet Union.
This stuff has gone to far already.
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5-13-2009 @ 2:09PM
Scottilla said...
You take OUR money, you follow OUR rules.
5-13-2009 @ 4:35PM
Brian Jacobs said...
Corporations are for the most part publicly traded entities, and thus are funded by shareholders. Overcopmpensation of the executive ranks is a direct dereliction of fiduciary responsibility. If you want to overpay your executive staff, by all means, do so with private equity money. Playing the Socialism/Communism card is a bit old at this point, and dare I say, a bit childish.
5-13-2009 @ 1:04PM
silverstreak said...
He's not really regulating their pay. What he is regulating is their responsibility to see to it that they don't make risky moves they know will fail without them having to pay for the risk rather than the taxpayer. You must be one of the ones who makes these kind of deals and profits from them and makes the taxpayer back you up if you fail. I suspect you knew you would fail on a lot of them But since YOU don't take the risk, who cares?. Most other businesses would simply fire someone who lost them a bunch of money. That would work too.
5-13-2009 @ 1:11PM
stranger said...
regulating executive compensation packages translates into the nation being communist - you need to break out a dictionary bud... do you have a different viable solution to the very real problems outlined in this article ??? or are you another uninformed fool throwing around terms that engender emotion - like 'communist' - with little understanding of the issue
5-13-2009 @ 1:14PM
Analyze This said...
This is what Obama wants! Total control over your healthcare, wages and security. This is what a majority voted for wheather they knew it or not!
5-13-2009 @ 6:01PM
CLEM said...
When we are forced into the markets via the tax codes (401k) the regulation of the markets along with the compinsation of the crooks that inhabit wallstreet is needed
to bad it won't help us in the comming 18 months, we are going to see a crash like never before. think commercial notes.
5-14-2009 @ 9:03AM
EAB said...
The Lord Obama needs to read our constitution that he vowed to uphold and remember that we are a free nation and capitalists at heart. Socialism will ruin our nation and he's the elected one that will ruin the USA forever. God bless America and help us with Obama's unresponsible BS.
Remember that every great society has histroricaly fallen after 200 years or so! I think the Romans and Greeks remeber what they used to be!
5-13-2009 @ 11:03AM
gd said...
Cohan is overly simplistic. Tell me how many finance majors can cure cancer and how many biologists go into hedge fund management. The intersection of those 2 sets is less than 2% yet Cohan argues Wall Street is taking talent that could cure casncer, how patently absurd.
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5-13-2009 @ 5:12PM
Keith said...
Obama is not God. He has never run any kind of a business and for many years the government has proven to be unable to even make a profit with the monopoly, U S Postal service. Please keep the President and the congress out of corporate America.
5-13-2009 @ 11:27AM
V. CRAIN said...
That's because Cohan is always 'absurd' in his thinking process. Let OBAMA go regulate the incomes of his Hollywood friends..or the big sports stars...But that will never happen...because 90% are liberals.
5-13-2009 @ 3:36PM
HateHypocrites said...
V. CRAIN - President Obama's Hollywood friends and the big sports stars did not take billions in financial aid from the government. We are their lenders now, and as such, have a total right to dictate how they run their companies. When they pay it back, they will be free to determine their own compensation packages.
5-14-2009 @ 10:56AM
Brian said...
I was originally a Finance major and transferred into Biology. Previous to the transfer I interned with two financial companies with kudos.
I would put this out there, I am for regulation of pay, heavily, for all companies taking TARP or other bailout moneys (until all is repaid). Beyond that, if we let a small cadre of elitist political committees determine the pay and destiny of each and every man, we will blast the vitality right out of our nation. Let people think for themselves. If you take away humanities thought, you deny them the opportunity to reach their divine potential
5-13-2009 @ 7:33PM
Allie said...
HateHypocrites, did you know the NBA put in for a bail out? Maybe all those players should have THEIR pay cut. Obummer has no business telling anyone how to run their business. Yes, it's our money, but we said NO from the beginning and he did it anyway. It's Obummer's economy now, can't blame Bush any more...
5-13-2009 @ 11:17AM
gary said...
I have been in the private investment world for 20 plus years as a self employed investor and partner. I usually invest a majority of all fees in my deals. I would love Obama and his staff to figure out how we can defer compensation and work the tax consequences and IRS acceptance of deduction expenses and how to handle the bookkeeping. If he does not work with the IRS new rules create IRS nightmares.
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5-13-2009 @ 12:45PM
Kay said...
Are you kidding? Obama et al cannot even COUNT! They think if you owe $100, then go borrow $1,000,000, and that will fix it! What a bunch of morons. And we're supposed to let THEM fix things? They got us into this mess to start with. Government cannot run anything (unless it's into the ground). Grovernment is NOT SUPPOSED to be running anything. They are supposed to protect us and get out of the way. But this government wants to spend money on frogs and roads and tell companies how to be run while cutting our defense budget. That's the only thing they can think to cut? Outrageous!
5-13-2009 @ 11:04AM
Steve said...
Totally agree. Exec. compensation has become absurd and it is whether or not the co, does well. This is because the Boards of the companies consist of an old-boy network and they are hand-picked to ensure that the CEO and key execs. can do as they please. This must stop!
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5-13-2009 @ 1:22PM
TheAudacityofGovernment said...
So you're solution is to have the president of the country set pay? I mean, hey why stop there? In fact, here's an idea: I want Barack Obama to set YOUR pay? If you make more money than me, I want Barack Obama to take your pay and add it to my pay and then we'll split it. I don't care if your work more hours than me, if your work harder than me, if you have more responsibility than me, if you have more education than me. Bottom line: I want what you have. I want the same house as you, car as you, heath care as you. I want my kids to have what your kids have. Why should your family have any more than my family? Why should you have any more than I do? I want government intervention, too! Why should we stop with the CEOs? Let's continue right on to Steve. First, it the CEOs, then it's the next guy, until eventually it's you. Who will be there to protect you and your family, Steve, when "government regulation" comes for you? Get out of the "Obama-media-Hollywood-haze" and wake-up please before we turn into just another mediocre European country!
5-13-2009 @ 11:04AM
rick shirley said...
How will you react when Obama decides to determine your pay? How do people like you ever get published?! And for heaven's sake, what brainchild at Babson is letting you teach!
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5-13-2009 @ 4:05PM
Sandy said...
If Obama regulates private companies pay forget this country ever becoming profitable again without incentive we are dead in the water. FREE MARKET CAPITISM IS THE BEST PATH TO PROSPERITY FOR ALL AMERICANS NOT JUST THE RICH ONES!
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