Wednesday, February 04, 2009

Stimulous problems

Two details related to the bailout and the proposed stimulus bill caught my attention.

The first is the proposal to limit executive pay to $500,000 at any company receiving bailout money. This is a classic illustration of something that is a great idea that is nevertheless a terrible idea to mandate. Should companies that are receiving taxpayer rescues be paying obscene compensation, flying fancy private jets, etc.? Of course not. So if it's such a bad idea to engage in such practices, why is it a bad idea to ban them in the strings tied to the money? The biggest reason is the classic law of unintended consequences.

In particular, companies today argue that if they don't pay a lot of money to their CEO, they will not be able to retain good CEO talent. They're half right about that, but not in the way that they think. They will be able to retain their lousy CEO that got them into the mess because THAT CEO has nowhere else to go in this economy. But think about what is undoubtedly the best course of action for many troubled companies: they should dump their existing overpaid CEO and bring in smart, proven turnaround talent CEOs. I suspect that good turnaround artists are in fact in high demand right now, and $500K seems like it could well be a small salary to dangle for such a high-stress and high-risk role. (Yes, turnaround CEOs should be taking equity compensation to align long-term interests, but there typically needs to be a strong salary component as well to recognize the risk). At the very least, it is an arbitrary number.

Another example: Corporate jets. A corporate jet that is used as an executive perk is obviously wasteful and not a good use of taxpayer dollars. But there are many companies that in fact use their jets for very productive purposes, and for which a corporate jet actually makes operational sense. (I think our own president provides an example of this. Do we really want the President flying commercial?) A fact of airplane economics is that the fixed costs are enormously high, so any additional flying actually lowers the overall cost-per-hour of flight, so - assuming that the company is properly compensated (i.e., reimbursed at appropriate market rates) - letting a business jet make additional flights for personal reasons can actually lower the cost of business for the company. I am not saying that many companies with corporate jets do in fact make economically sensible use of them; I'm simply saying that corporate jets are not a-priori wasteful and inappropriate.

There are more, but in general even with the best of intentions (and the intentions behind this provision are noble indeed!), government is not good at running businesses, and this is a one-size-fits-all approach that in practice will likely be one-size-fits none.

The second stimulus detail to catch my eye is the "buy American" restriction that is proposed. There's a great commentary on this in the Los Angeles Times, but this is another case of Great Idea/Bad Rule. Do I want money spent in America on American products and services? Heck, yes. But it has to be because the right products/services are here. And it is in our interests and the interests of our economy to have healthy trading partners who also prosper and become customers for American products. Protectionism has been shown time and again to reduce overall trade and raise prices, which are precisely two outcomes we do not want to have. In fact, there is a lot of evidence that the Smoot Hawley Act was a factor in prolonging, rather than relieving the depression. Why on earth would we do something that is likely to make things worse?

While I take points away from Obama for letting the whole stimulus bill get weighed down and lost, I give him credit on this one: he has signaled opposition to the Buy American provision. Good for him. As painful as it might be for stimulus money to go out of the country, that medicine is almost certainly less painful and more effective than protectionist restrictions.

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