Golden Parachutes

This morning my wife heard the news that the now failed bank of WaMu would be making a payout of $19.5 million to its departing CEO. Her reaction was understandable -- who are we bailing out here? A normal reaction, but got me to wondering about how concerned we should be about the amount of executive pay.

First, is it unprecendented? Consider Andruw Jones, a baseball player signed by the Los Angeles Dodgers this year for $36 million (guaranteed). Here was an aging star on his downside who performed abysmally during the year. By any standard he did not earn his exhorbitant salary . . . didn't deserve to even play. So why did the Dodgers pay him $36 million? Because that is what it took to get him to come to work for them. This is a similar situation companies face hiring CEOs.

Second, whose fault is it? In the case of Jones, nobody asks the player to give up the money; they fault the boneheads who signed him. So the ones who are at fault for these companies are the boards who supposedly represent the shareholders. Those that are hiring the CEOs agree to these golden parachutes, in part, to get them to come to work. It is a market mechanism as the wage is not set necessarily on the value but on the supply and demand for the position sought.

One conclusion drawn by some (see this link to people now calling for a new New Deal) is that it is the fault of the market, because it is not impervious to things like greed and corruption. Others defend the market such as this from the Chicago Tribune. I think the bigger error is that these companies overvalue experience, overpaying for people based on what they have done in the past. Think about it: the Dodgers would have been much better off just taking a chance on a 23-year prospect, paying him well less than $1 million. Many of these companies would be better off looking at managers with less experience or slighter pedigrees. Probably, most of them reside within the company if they just develop them and give them a chance.