Corporate Governance

Compensation and National Culture (Part 3)

By J Robert Brown Jr.

We have been discussing the differing approaches used by Europe and the United States in addressing the problem of excessive compensation. 

In Europe, the approach has been not to rely on the market but to instead impose caps.  The caps apply to the amount of the bonus and the percentage that can be paid in cash.  The approach arises from the belief that the market does not work and there needs to be affirmative, substantive regulation.  It also reflects a view that there is a role for the government in setting compensation levels. 

In the United States, the approach is entirely different.  Caps are seen as excessive interference in the market.  CEOs (and anyone else with unique skills) should be allowed to bargain for their services and obtain any price that they can obtain from the market.  Regulators here would no sooner limit the compensation of a CEO than they would restrict the total compensation that could be paid to an athlete like Michael Jordan.  Moreover, even for those who concede that executive compensation is out of kilter, there is a strong opposition to direct government involvement in the determination of compensation.  The Obama Administration found this out when it had to back off salary caps for executives at TARP companies (limitied to $500,000) almost as soon as the proposal was floated.   

Instead, in the US, the response is increased disclosure and improved process.  It is a recognition that in fact the market for executive compensation doesn't work but that the best approach is to fix the process rather than substantively limit compensation.

The two approaches reflect a significant cultural difference.  The US elevates the market and devalues the role of the government.  The Europeans do the reverse.  Of course, the Europeans will discover that the caps can be manipulated (for bonuses limited to a percentage of salary, the amount can be manipulated upward by increasing the base) and the US will discover that improved process is no panacea.

Full post as published by The Race to the Bottom on July 14, 2010 (boomark / email).