After the Crisis, a Reckoning

After every national trauma, there is the opportunity, indeed the urgent desire, to do things better in future.  It is a chance to redress the most grievous of society’s ills, to reset the most egregious of society’s mistakes.  And the question arises, what will society latch onto after the Corona Crisis, what will most urgently attract the national attention?

After the First World War, in which women had for the first time risen to the challenge of a major role in the national workforce – beyond, that is, the crucial but largely unlauded duties of motherhood on the one hand and domestic service on the other – it was no longer credible, and certainly no longer defensible, to deny them the status of full voting citizens.  And what followed was universal (ie gender-blind) suffrage.  After the Second World War, there was a recognition of the debt owed to the mass of the general citizenry, and what followed was a drive to establish a genuine Welfare State, including its most totemic element the National Health Service. 

What will follow the Corona Crisis?  We offer the thought that there will be a renewed attention on the value society places on different contributions to our communal welfare, a new assessment of the value of each person’s labour. 

It is all fine and grand to applaud the nation’s health-workers every Thursday evening.  It is well meant, and in many cases heartfelt.  But it raises the awkward question of how much society is prepared to value, which crudely means prepared to pay, those health-workers after the crisis.  And the answer “exactly as much (or as little) as we did before” is unlikely to be acceptable.  And while it might be difficult to do much about this in absolute amounts – ie pounds per week in the wage packet – it will we think be more possible to address relative amounts, ie the comparison to other members of society.

And some of the relativities are truly eye-watering.  The average senior professional (average, not the leaders) in the City’s major financial and legal firms earns more than 10 times the average national wage.  The average member of the executive board in the UK’s major listed companies earns more than 50 times the average care-worker.  The average Premiership footballer earns well over 100 times the average front-line NHS employee.

We wonder whether these relativities can survive, not least as the national wealth, whether measured in GDP or any other way, shrinks as a result of the Corona Crisis and the measures taken to keep the pandemic at bay.

Of all of the relativities, the one we suspect will come under most pressure is executive pay.  (Footballers, notwithstanding their extraordinary gaffe when their spokesman claimed that their pay should not be cut “because it will result in them paying less income tax to the Exchequer in these difficult times”, do appear to be a breed apart).  This is partly because it has been a running sore even before the current crisis hit – the issue of excessive pay for those running our largest companies has been debated for many years.  But so far neither society at large, nor shareholders in particular, have been able to do very much to rein it back.

In one sense this is surprising.  Pay for the executive is of crucial relevance for shareholders;  it is after all the most direct of transfers of wealth from the shareholders to their appointed agents, ie management.  But it has proved extremely difficult for shareholders to exercise any control over the burgeoning pay of those they appoint to act on their behalf in running their companies.  Attempts to make shareholder votes on executive pay binding have largely backfired – too many shareholders duck the responsibility that this implies and when faced with an actual vote with real consequences, choose the easy option of abstaining.

The most that has been achieved is a general agreement that shareholders should be offered, once every three years, a binding vote on the construction of the pay packages of their managements, and then consultation and engagement annually after the event on the financial outcomes of the agreed schemes.

But this has merely resulted in executive remuneration schemes becoming horrendously complicated.  The need to have remuneration schemes approved in advance by shareholders has spawned a genre of schemes which are so convoluted, with so many moving parts, that no-one can really work out in advance what they imply.  (Sometimes they are so complex one cannot even work out what they generate after the event).  So the poor shareholder is virtually forced to approve them blind.  And then when they do generate excessive pay, the company has the justification that “this was all put before the shareholders and approved”.

 We think that after the Crisis, there will be a drive for simpler measures and more easily applied controls.  And one such which has already been put forward is the ratio of “CEO’s pay as a multiple of median employee’s pay”, a measure that is designed to identify those executive boards who award themselves too much of the corporate pie. 

The problem though with this measure is that it fails what has been called the Goldman Sachs test:  it favours those companies where the median employee is a highly paid executive (such as, for example, Goldman Sachs), and unduly penalises those companies with a huge clerical or manual labour force (such as, to quote a topical example, the NHS).  The latter will have a very much lower median employee pay, and this distorts the ratio so that even moderately-paid CEOs look to have a high multiple, perhaps well over 100 times – whereas in Goldman Sachs’s case, the top of the bank is “only” paid some 30-50 times the median employee’s remuneration.

The search is therefore on for a measure of how skewed towards senior management in general a company’s overall pay expenditure is;  a sort of “inequality index” for a company, to indicate how unequal and biased towards the top the pay scale is. 

For countries, there is such a measure, the Gini coefficient.  This measures how unequal a country is, how skewed towards rewards for the elite.  The question is whether one can construct a Gini coefficient for a company;  if so, one then might be able to set a target for management of reducing the Gini coefficient.

At the very least it might be interesting to see how different companies fared under this measure, and it might also be a useful warning indicator for shareholders: if the Gini coefficient of their company is too high (or higher than the industry norm) then it is probable that their senior management is being too greedy.

A second measure would be a salary cap (for example a control on total remuneration as a percentage of total turnover).   This is much employed in a number of sports, but there is no real reason why it should not also have a place in the general economy.  Each industry is different (some are labour intensive and some capital intensive), so this would not be much use in comparing companies across different economic sectors, but within a given sector it could be a very powerful tool for shareholders.  Imagine a board having to respond to a shareholder who said “In our industry, remuneration is typically 70% of turnover.  In our company it is 85%.  Please explain why you are overpaying yourselves and your staff, at our expense”.

Both of these proposed measures are simple, understandable, and not capable of window-dressing and obfuscation by management, and together they get at two of the evils of current pay structures, that management take too much at the expense of the general workforce (addressed by the first measure), and that they take too much at the expense of shareholders (the second).

We would urge shareholders, and more importantly the asset management companies who these days represent them, to consider these measures as their companies recover from the Crisis.  If they do not, society may well respond with the much blunter weapon of much higher tax on the incomes and retained wealth of the elite.

There remain two types of company where shareholders will not have the final word.  The first of these is listed companies who have applied for government assistance.  Government has a duty here to make sure that it is not just bailing out management that was caught unprepared or who had no resilience when faced with the economic consequences of the Crisis.  There will be a strong desire from the general population that public money does not just sustain management in the lifestyle they have been enjoying hitherto – and nowhere will this be more keenly felt than when companies are headquartered abroad or have non-resident (and non-tax-paying) ownership.  Richard Branson, who has asked for assistance for his airline Virgin Atlantic, is perhaps the most high-profile example of this:  it would be a bold decision of government to offer him a single penny of taxpayer money.

The second type of institution who will be very much in the public eye after the Crisis is the quasi-public sector:  agencies largely funded by the state but not under the direct control of the state.  Some of these have used their quasi-autonomy to reward their senior executives lavishly, yet few of them have been genuine wealth-creators, genuine risk-takers. 

Perhaps the sector most in the firing line here is the university sector, where the average pay for vice-chancellors of even second or third tier universities has ballooned post independence from state control to two to three times what the prime minster is paid.  It is difficult to see them eliciting much public sympathy as their gravy train dries up, not least as they are almost universally forcing students to pay full fees (and in some cases full rent on top) for the “home-schooling” they are being offered in lieu of actually being able to attend their university and live in the rooms they are paying for.

After every crisis, there is a desire to do things better, to mend the faults in society that the great pressure of the national trauma has exposed.  We think that after this current Crisis, the question of executive pay will no longer be one that society can avoid.  Given the sharply reduced national cake that there will be to divide up, we expect that society will demand that for once, the elite join in the financial sacrifice that will be demanded of all.