QUESTION

Write an essay of 1200 words on the following topic:

The issue of executive remuneration has been in the news since the financial crisis began in November 2007. Many people believe top executives of Australian firms receive too much money from the standpoint of broader community interests. As a result of this controversy, the Australian Productivity Commission has been asked to conduct an enquiry into executive remuneration. This is described on their webpage at http://www.pc.gov.au/projects/inquiry/executive-remuneration

To undertake this assignment you will argue two positions:

Part A

Argue the case that there is no role for government policy in the setting of executive remuneration in corporate Australia.

Part B

Argue the case that there is a role for government policy in the setting of executive remuneration in corporate Australia. Explain what this role may be. Teaching Period 1, 2012 7

SOLUTION

1. Introduction

With the strike of the sub-prime crisis in 2007-2008, with large corporations facing massive liquidity concerns the issue of corporates and top executives receiving big pay packages has been increasingly debatable. The issue has particularly gained widespread momentum in Corporate Australia. Various views have been adopted on the corporate pay packages and role of the government in the determination of the packages has also been increasingly debated.

The paper examines both the views that there is no role for government policy in the setting of executive remuneration in corporate Australia, as well as the case that there is a role for government policy in the setting of executive remuneration in corporate Australia.

2. The Government has no role in determination of remuneration of corporate Australia

In economics the agency theory is defined as a nexus of contracts between different stakeholders parties .As the interests of the agents are not the interests of the principal organization, they impose certain agency costs upon the organization. These agency costs are compensation, budget restrictions etc. The Agency theory suggests that the incentive the primary means by which the shareholders are given incentives they have to compensate the top management and the CEO’s of the company. The corporations believe that it is their primary duty to compensate their CEO’s and the management to ensure corporate performance.( Proffitt,2000 and Senbet ,2011)

Most researchers and analysts believe that it is the personal prerogative of the firm of the firm to appropriately and adequate compensate CEO’s. As the investing periods are long there is a direct establishment of the link of pay to the long term performance. This would ensure performance for the corporation in the long term. The formal legislation introduced in the US “is the say on pay” on which there would be a shareholder vote to determine executive pay. This has caused the critics to argue that it would have a limited impact on the corporations moreover other methods need to be explored to regulate the corporate mechanisms.

(www.nytimes.com- accessed on 27/4/2012)

Considering purely economic viewpoints for the payment of salaries to the corporates firstly the payment of salaries introduces corporate efficiency in the organization. Greater corporate efficiency eventually translates into social efficiency. Secondly, it is also economically irrational and unprofitable for the corporations to pay such high rates of salaries if the corporations are unable to afford them. A corporation is only able to pay corporate salaries if it is able to afford them effortlessly to improve the financial performance of the firm.(Senbett,2011Elaurant,2008)

Over the past decades the government has played an active role of a regulator and a careful watch dog by developing institutions like the ASIC, AUASB, ATO etc. which has actively managed both interests of the corporations and the other stakeholders of the business. But the role of the government in determining corporate salaried can be regarded as a direct interference in the working of the corporations and a clear departure from a privatised efficient framework to a socialist framework. Capping the corporate salaries is not a long run solution to emerge from the crisis situation, but rather the government should consider other measures of regulating the financial markets from where the crisis actually emerged. The role of the government has particularly been emphasised in today’s globalized economy. The government has to ensure a fair and stable market which would enable then growth and development of the economy as a whole. The crisis has encouraged the role of the government in both financial and non-financial sectors and the role of the government in both corporate governance and financial regulation has expanded. But employee compensation is not an area of government expertise and should be left to the firm to decide on the link between corporate performance and compensation.

(Elaurant, 2008)

Another viewpoint are the ethical concerns that have emerged out of the crisis of 2008, As corporations have been extended several bail out packages which make direct use of public money. The corporations also have responsibility of the interests of the society and should be able to compensate appropriately by increasing corporate performance however government enforced reduction in corporate salaries is not the solution. But the corporations should mobilize resources to create efficiency in performance. The government should develop other effective regulatory mechanisms to emerge out of the crisis .The CEO salaries is a small part of the larger picture , the government should look to improve the larger picture.

3. Role for government policy in the setting of executive remuneration in corporate Australia.

Compensation decisions in the financial industry have become a subject of public debate with the augment of the financial crisis. A combination of factors led to the collapse of the financial markets globally and global large corporation which had to be bailed out using public money.  According to researchers the root cause of the problem which led to the crash in 2008 was the system of salary, stock options and bonuses which was not aligned to the business’s long-term performance, but fairly related to the short-term profits that which were to make the CEOs richer through the options and bonuses schemes. This can be illustrated with a help of an example, Let us undertake the case of Matt the CEO of Goldman Sachs whose main concern remained how to pay handsome salary cheques to the top level of management, this after the corporation has received more than $10billion in the form of federal bailout. The corporation’s indifferent attitude to resolve the crisis and place the company back on the track of financial efficiency and performance .But rather concentrate of issues of compensation has increased the public opinion in the favour of government regulation in the capping CEO salaries. Also, it is believed by many quarters as the company has received public money and it is the sole duty of the corporation to keep in mind social interests and practice austerity measures to save expense and solve the problem to some extent. (Prosser, 2009, opposingviews.com- accessed on 27/4/2012, Martin et al,2009)

There exists a widening gap between the salaries of an average worker and the jumps taken by the CEO salaries. The same applies to Australia where the gap is continuously increasing as well. According to Shield CEO pay scaled up by 564%over a 15 year period, increasing from $514,433 in 1989-90 to $3.42 million in 2004-05, On the other hand an adult workers salary increased by only 85% from $29,198 to $54,080 over the same time period. The disparity is apparent clearly and this disparity is likely to increase owning to the after effects of the economic crisis. Therefore capping CEO salaries by the government aims to reduce the economic disparity between the lowest and the highest levels of employee’s aims to create social equality in society. High corporate salaries may not be the best indicator of talent. It has often been seen that the highest paid CEO’s have led the corporation into a situation of bankruptcy as evident in the case of the financial giant Goldman Sachs in 2008 and the Australian giant Enron in 2001.The government role is solely being encouraged to increase efficiency in the corporate sector and ensure a level field for all stakeholders of business.

(www.wsws.org- accessed on 27/4/2012)

Limiting the corporate salaries at a first glance may appear as populism, rising from the corporates betrayal of society’s trust. While the others have argued that the existence of a socialist regime is essential to emerge out of the crisis. The crisis has indicated the government has a wider role in the regulation and monitoring the activities of the corporate sector and the financial crisis. Assuming this role the government can determine the corporate salaries to regulate the market and safeguard stakeholder interest (idi.org.il- accessed on 27/4/2012).

In light of the current global market conditions with nations making efforts to emerge out the financial crisis the government’s role cannot be undermined. It is the government in the first place which has to undertake steps to safeguard the economies and eventually undertake policy decisions to increase efficiency and performance of the financial markets and organizations. Thus, capping corporate salaries can looked at as an innovative measure to regulate the economy as well as a mechanism to create social equality.

4. Conclusion

The role of the government should be identified by society’s globally to emerge out of the financial crisis and the government should undertake wide variety of measures to ensure efficiency and stability of the economy. However the  role of the government in the determination of corporate salaries remains debatable.

5. References

• Proffitt, Dennis. “Agency Theory as a Basis for Business Ethics.” Christian Business Faculty Association 1.1 (2000): 1-20. Print.
• “Economic View – Should Congress Put a Cap on Executive Pay? – NYTimes.com.” NY Times Advertisement. N.p., n.d. Web. 26 Apr. 2012. <http://www.nytimes.com/2009/01/04/
• W. Senbet, Lemma. “The Rise of Equity-Based Compensation: The Bright and The Dark.” Perspectives on executive Compensation 1.1 (2011): 1-3. Print
• Elaurant, Scott . “Corporate Executive Salaries – The Argument from Economic Effi ciency.” Electronic Journal of Business Ethics and Organization Studies 13.1 (2008): 1-9. Print.
• Prosser, Thomas. “Executive compensation and the economic crisis.” United Nations Paper(ITO) 1.1 (2009): 1-26. Print.
• Reform, Americans for Financial. “Forget Housing Bubble; Soaring Executive Pay Led to Financial Crisis.” Opposing Views | Issues, Experts, Answers. N.p., n.d. Web. 26 Apr. 2012. <http://www.opposingviews.com/i/money/jobs-and-careers/forget-housing-bubble-soaring-executive-pay-led-financial-crisis>.
• Cook, Terry. “Australia: A widening gap between CEO salaries and average wages.” World Socialist Web Site. N.p., n.d. Web. 26 Apr. 2012. <http://www.wsws.org/articles/2006/feb2006/ceos-f13.shtml>.
• Yedida Z, Sterm. “Executive Salaries and the Financial Crisis.” /www.idi.org.il. N.p., n.d. Web. 27 Apr. 2012. <http://www.idi.org.il/sites/english/OpE
• Martin, Kirsten, and Michael Scotto. “Bailouts and Bonuses on Wall Street.” Business Roundtable 1.1 (2010): 1-19. Print.

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