Semi-Daily Journal Archive

The Blogspot archive of the weblog of J. Bradford DeLong, Professor of Economics and Chair of the PEIS major at U.C. Berkeley, a Research Associate of the National Bureau of Economic Research, and former Deputy Assistant Secretary of the U.S. Treasury.

Thursday, October 26, 2006

Andrew Samwick Posts More on Executive Compensation

Andrew Samwick agrees with me. Smart guy:

Vox Baby: More on Executive Compensation: Mark Thoma and Brad DeLong have picked up the theme of this earlier post on executive compensation. Brad makes three points:

First, at-the-money options do not make CEOs "long" their company as much as long the volatility of their company. It's clear that direct ownership of stock--ideally, restricted stock--is a better mechanism for aligning managers' interests with shareholders.

I agree with Brad's conclusion--restricted stock is a better method of aligning the interests of managers and shareholders.

Second, when I looked at the data I thought I saw an important difference between entrepreneurial-CEO-owners (like Bill Gates, with stock) and manager-CEO-nonowners (with options). I think there is an important difference.

True as well--there is an important difference. My point in the original post is that there are very few examples one can find in which, through options, manager-CEO-nonowners accumulated ownership stakes that were large enough so that their compensation was meaningfully different from what Jensen and Murphy were describing in the data. My issue with Krugman's column was that he was implicating J&M in the option mess--I don't think that's warranted.

Third, we do have a big organizational problem here. We need diversity of ownership--both to raise capital on the scale required for modern business organizations and to spread risk. But once you have diversified ownership, monitoring and supervising managers becomes a public good from the shareholders' perspective, and it is very hard to get market or market-like or indeed voting political mechanisms to adequately supply public goods: the difficulties of collective action by dispersed owners of corporations has been one of the institutional flaws of modern capitalism for more than a century.

The fear today is that mechanisms of corporate control and governance that used to constrain the ability of top managers to raid the corporation have broken down even more than in the past. Why and how much and indeed whether this is true is a very hard question. To say that "corporate boards are failing" to do their job is true, but leaves the questions of why they are failing and whether they are failing any more than in the past unanswered.

True again. The problems resulting from the separation of ownership and control in large corporations are the central problem in corporate finance. I did not intend to raise the two questions posed at the end of Brad's post but only to assert that corporate boards are the last line of defense against problems of corporate governance. If the recent use of options is perceived as abusive, hold the Boards that were complicit or clueless to account.


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