President Obama said Wednesday that top executives at banks and other companies receiving “extraordinary” new federal bailout cash would have to cap their own cash compensation at $500,000 annually. If this government limit on salaries and bonuses convinces more people that the feds need to get out of the financial industry fast, then it will prove beneficial.

Obama’s new pay limit for bailed-out firms is actually good for the future of (relatively) free markets. It draws a clearer line between the public sector and the private sector. In government, salaries for top jobs are comparatively modest. The president himself earns $400,000 a year. The CIA director makes $172,000. Private-sector companies, by contrast, can pay their employees and executives whatever they wish—as long as they’re not expecting a federal bailout when their strategy of rewarding reckless risk with high bonuses results in insolvency. Unlike Congressman Barney Frank, who has floated the idea of a permanent pay cap for companies not receiving federal funds, the president drew a distinction between private and public: “This is America,” Obama said Wednesday. “We don’t disparage wealth. . . . But what gets people upset—and rightfully so—are executives being rewarded for failure, especially when those rewards are subsidized by U.S. taxpayers.”

Today, like it or not, Citigroup, AIG, and a few of their brethren are wards of the government. They simply wouldn’t be in business any longer if not for the hundreds of billions of dollars’ worth of cash and guarantees that Uncle Sam has provided. Now that they’ve put their hands out for extraordinary assistance, it’s only fair that they lose some latitude over how they use their resources. Over the past year, though, as the government has bailed out financial firm after financial firm, it’s made a pretense of insisting that private managers remain in charge. It’s easy to see why: Americans don’t like to admit that we’ve nationalized our financial sector, when the financial sector’s job—allocating capital—is the foundation of a market economy.

But it’s dangerous to keep pretending that we haven’t nationalized the financial industry. Today, a company like Citibank likely has no idea whom it’s supposed to please: its few remaining shareholders and private creditors, its customers, or the government that keeps it in business. For instance, the government wants Citi and other banks to increase mortgage- and credit-card lending. But private creditors and shareholders, worried about how high the unemployment rate—and more loan defaults—could go, might think that’s a bad idea. To whom should Citi defer? Letting companies like Citi and AIG flail along indefinitely, serving everyone and no one, is a recipe for a difficult economic recovery and for lower growth after we’ve recovered. Government support of bad financial firms crowds out the good banks that will have a tough time competing against Uncle Sam, both now and in the future.

The government should strive to end its direct role in the financial industry as quickly as possible, so that it can go back to being a regulator and not a guarantor. That way the government, and the public, won’t have to worry about how much pay is acceptable for the CEO of a government-guaranteed bank—an absurd question. To that end, the government should make it clear that the new goal of companies like Citi and AIG is selling off their good assets as efficiently as possible over the next few years, just as the FDIC already does with the small, failed banks it ends up owning. Sales, even at low prices, are the only way to get good assets into the hands of companies and people who didn’t screw up banks in the first place—and a necessary step toward a private-sector recovery of the industry. The companies who got us into this mess certainly aren’t going to be the ones to get us out.

Meantime, doesn’t the government have to allow these banks to keep paying their top executives high salaries to ensure that they manage the sale of these assets competently? Not necessarily. It’s not as though high pay led to such great executive performance over the last few years. Further, being a short-term conservator of a functionally bankrupt firm—let’s be honest; that’s what we’re talking about here—differs from being a long-term CEO of a growing company. And Obama’s executive-pay cap covers only the top people at each company. (In fact, much, if not most, of the $18 billion in bonuses that caused all of the recent consternation about Wall Street pay went to traders and bankers, not executives.) Finally, people take jobs for many reasons, not all of them narrowly monetary. An up-and-coming executive may realize that if he successfully winds down a failed company and unlocks the value of its good assets, he’ll be a hot commodity in the private sector a few years down the road. Or a retired banker may just want to serve his country.

If government-guaranteed banks really can’t find a few competent people to wind them down for half a million per year, then that will be a good reason to have a discussion of whether the government pays its key people enough—a legitimate question that shouldn’t be confined to finance. For example, bank regulators earn far less than the bankers they regulate in the private sector. Since they often jump ship for bank jobs after their regulatory stints are up, it’s fair to wonder if lower government pay encourages them to think more about their future jobs than about the taxpayers whom they serve. And the revolving door between the lower-paid public sector and the higher-paid echelons of the private sector—whether it’s used by retired generals working for military contractors or by retired senators working for health-care companies—presents all kinds of temptations.

But for the sake of future support of free markets, it’s probably not a good idea to start this experiment with higher government salaries in our new public-private financial industry.

Donate

City Journal is a publication of the Manhattan Institute for Policy Research (MI), a leading free-market think tank. Are you interested in supporting the magazine? As a 501(c)(3) nonprofit, donations in support of MI and City Journal are fully tax-deductible as provided by law (EIN #13-2912529).

Further Reading

Up Next