Wednesday, 27 June 2012

The Economic Harm of Incentive Pay Contracts

Professor Mihir Desai of Harvard Business School recently presented a methodical look at the impacts of high executive pay: for inequality, productivity and competitiveness as well as the detrimental implications for shareholder capitalism.  The following piece is based on an interview he gave to the HBR.

Aligning shareholder interests with CEO incentives was a sensible goal when it was envisaged; however, stock-based incentives, according to Prof Desai, have morphed into a ‘financial-incentive bubble’ of massive proportions. Much of CEO pay appreciation has occurred due to market movement or industry swings, rather than exceptional skill. What I found particularly interesting about Desai’s paper is that he shows that excessive executive pay leads to poor capital allocation due to contracts which ‘incentivise dangerous risk-taking.’ There are multiple deleterious effects of the Financial Incentive Bubble; they include:

  • increasing inequality
  • reducing productivity
  • harming competitiveness
  • undermining public trust in shareholder capitalism

None of these results is sustainable.

The logic of allowing the financial markets to evaluate performance is alluring, but is ultimately false. Desai says that ‘there's some underlying dishonesty in that set of practices. And the dishonesty stems from the fact that financial markets are not a suitable place to separate our luck and skill in the way that those contracts imply.’ Prof. Desai recommends longer-term contracts for CEOs in order to better understand whether they are actually adding value. He says, ‘As we now know, the vast majority of the alternative asset industry doesn’t add value. So we have a really large industry out there that is not adding value, not outperforming, and being paid to take on out-sized risks for no good social or economic reason.’

Incentive contracts lead to windfalls, and for Prof. Desai (and most other economists), ‘that is not OK.  And it’s not OK in large part because of the incentives that get created along the way.  So in some bigger sense, I think there are twin crises.  And both of them actually have a root in the proliferation of these contracts.’

What is so valuable about Prof. Desai’s work, I believe, is that he makes a direct link between the Financial Incentive Bubble and the larger issues of productivity and competitiveness.  The productivity of the American worker depends on the correct allocation of capital: ‘financial capital has got to go to the right place, fiscal capital has got to go to the right place, and human capital has got to go to the right place.’  Desai believes that the reasons the current incentive contracts are so destructive is that they distort all of those things: ‘they distort where financial capital goes, they distort where real capital goes. And most of all, they distort where human capital goes because there are remarkable returns that are available for no good reason. And that, I think, is really the destructive piece here, which is we have misallocations of capital on all these markets. Which in turn, is going to make the American worker less productive. Which in turn, is going to make America less competitive.'

Boards and pension funds, foundations and endowments have all been ‘happily’ complicit in inflating the financial-incentive bubble instead of restraining it.  In terms of recommendations for how to burst the bubble, Prof Desai proposes the following:

Board members must:

  • Stop outsourcing evaluation and compensation to financial markets and do the difficult work of assessing CEO performance
  • Abandon the notion that managers will do well only when the stock does well
  • Support the turn toward restricted stock and vesting based on longer-term accounting metrics.

Pension funds, foundations and endowments must:

  • Stop allowing existing assets to be repackaged as 'new' ones
  • Stop expecting alternative assets to magically cure insolvent pension plans
  • Question the appropriateness of active and outsourced investments, given the limited evidence of managerial quality
  • Re-evaluate the advisability of paying consultants to find skillful managers
  • Renegotiate incentive fees toward a significantly longer term with better performance and risk assessment.

These are significant hurdles to be overcome, though we're seeing hints of change in the shareholder spring. The risks of carrying on as normal are far too high and jeopardise the future of shareholder capitalism and ultimately the welfare of all stakeholders.

Saturday, 23 June 2012

Are we Human?

A perennial question, the answer to which seems to be more acutely needed when we’re suffering - or bored, as Arthur Schopenhauer would have said.

On display at a degree show at Camberwell today were some excellent pieces of art in the best sense: works in which one can discern thought, emotion and craft combined in visually exceptional ways. Truly spirit-lifting (and if I might add, a completely different experience to an hour spent at the Saatchi Gallery). One of the exhibits captivated me; it included some photos from Charles Darwin’s experiments in emotion recognition:

This would have intrigued me on any day of the week, but particularly today because last night I watched Ingmar Bergman’s The Sepent’s Egg. This is a film about evil, a subject not acknowledged in polite, 21st century society, given our propensity to explain such things away. The metaphor for evil is a conspiracy of poisoners in the Wiemar Republic performing covert experiments on ordinary people in Berlin, the purpose of which is to discover the level of pain, suffering or horror at which they falter in their will to live or destroy that which they perceive to be as the source of their agony.

It is remarkable the behaviour to which people can resort when they are in pain.  George Orwell was a master of this subject. He lived 5 doors down from where I lived in Hampstead when I first moved to London - unfortunately around 60 years before me. I wish I could have talked to him.

So I wonder about the source of the problem: the sinning tortured soul, the one inflicting the pain, or the one devising the means of devastation?

Tuesday, 19 June 2012

Where are you on the Spiritual Spectrum?

Ken Wilber is a proponent of integral consciousness, a branch of the new age movement which incorporates evolutionary spirituality. According to Wilber, integral theory is ‘the Big Picture view;’ i.e. the culmination of man’s spiritual history and method of seeing ultimate reality: ‘Integral theory allows us to see the patterns that connect all the various dimensions of our lives, offering the most comprehensive and fully integrated view of reality that we have ever seen.’[1]

It has also been described as post-modern and the most advanced spirituality to have evolved to date.  People who are in this ‘advanced station of life’ are ‘able to better understand, navigate and participate with all different kinds of perspective', allowing them to truly see themselves, each other and their world with 'more wisdom, openness and inquisitiveness than ever before.'

It appears that integral consciousness is theorising that there is a spiritual distribution out there and every one of us lies somewhere on it, akin to the income distribution, intelligence distribution or educational attainment distribution.  Those people who are at the far right tail are those who follow and practice integral, evolutionary spirituality.  Therefore, everyone else (80% of the world’s population) falls somewhere to the left of the spiritual elite.  Wilber says, ‘every field of human inquiry continues to move through wave upon wave of increasing accuracy, fidelity, and applicability’ so that to be behind the integral curve, as it were, would place one in a less sophisticated spiritual position.

Human beings obviously make progress in terms of knowledge in many areas, but spiritual progress up some hierarchy is a dangerously flawed idea, calling to mind ideas from Nietzsche or the Hindu caste system. 'A Brahmin,' noted a Hindu lawyer, 'is entitled to exactly five-and-twenty times as much happiness as everyone else.' [2] Ultimate reality, like happiness, isn't fungible and it doesn't change over time. In John's gospel, Peter questions Jesus about John's spiritual status and his response is that Peter mustn't compare himself to others, but to focus on his own personal relationship to Jesus (John 21:21,22).

Many people aspire to be on the inner ring of their career and among their peers.  That’s not necessarily a bad thing, but the danger is when this strategy is applied to spirituality.  It sounds as though many new age gurus appeal to the aspiration of exclusivity that the new age/integral/evolutionary consciousness promises.  The difficulty is that often when people believe they have entered that privileged club, they can move from a sense of spiritual growth to spiritual arrogance, looking down on the rest of the spectrum. 

[1] Ken Wilber, ‘A Brief History of Integral,’ Integral Life+, 8 June 2012.
[2] Deirdre N. McCloskey, ‘Happyism: the creepy new economics of pleasure,’ The New Republic, 8 June 2012

Thursday, 14 June 2012

Paradigm Shift in the New Age

There are several significant principles or truth claims which distinguish theism from monism, despite the fact that many claim that all religions lead to God or are the same at their core.  Something that I’ve thought was a rather obvious difference was that in theism, there is a grand narrative; it's a story which has a beginning, a middle and how it's all going to work out in the end.  The monotheistic worldview presents a temporal line: God creates the universe and man, Adam falls, Christ redeems, we shall be saved.

In monism, there is no such eschatology.  Instead the metaphor is one of a wheel; life is cyclical and based upon samsara and ruled by karma.  The path to enlightenment may require a person to be reincarnated or reborn many many times until they achieve nirvana and are released from the personal, material, temporal, world.

When eastern thought and practices were brought to the west and were popularised during the 1960s, the emphasis was on personal spiritual development.  Practices like meditation and yoga helped to advance that goal.  When eastern spiritual practices met popular psychology it was a marriage made in therapy heaven because it allowed people to not only focus on their self-awareness, but to actually worship themselves; it raised self-actualisation to cosmic heights.

And I think that for many advanced thinkers and practitioners in the field, this just didn’t seem to satisfy a more socially-orientated, larger goal.  So we’ve seen the emergence of a whole new emphasis in the New Age movement on a grander narrative: spiritual evolution.  Andrew Cohen is one of the leading proponents of what he calls evolutionary enlightenment.   What differentiates this form of monistic spirituality from the ‘60s version is that Cohen proposes that people bring about not only their own personal spiritual transformation but that of all human consciousness and culture.  There’s a good deal of reaching back to philosophers of the past, whether explicitly as in the case of Tielhard de Chardin or implicitly in the thinking of the neo-Platonists or Hegel.

Cohen explains that enlightenment is not "the possession of the individual, but instead becomes the ground of relationship upon which a new culture is created…the creation of this new consciousness and culture is essential for the survival of the race and that is incumbent upon those individuals who are at the leading edge of human development to take this next step."  This calls to my mind Hegel’s philosophical system which explains the unfolding of the world’s spirit – or Geist – through time.

There is no question that New Age is a large and growing movement, based on data gathered and analysed by Pew Research, the University of California at Santa Barbara and Bradley University.  The number of active participants in the New Age is enormous and growing (more than 40m Americans) making it the third largest religious denomination in America.[1]  So New Age principles and practices have already made huge headway into western culture.  I think the problem, as Cohen and other New Age leaders see it, is that it can lead to some serious problems of narcissism.

I read Cohen’s blog from time to time and he constantly gives a clarion call to participate in this evolutionary ‘impulse’ of consciousness and culture change - he's very heavy on creativity and transformation, but quite light on anything like virtue, justice, morality or the common good.  For theism, these ideas are of primary importance and have their basis in a definite distinction between good and evil, whereas in eastern philosophy, the spiritual basis is more relative.  Which can be a problem for a movement which wants to effect changes in a culture.  As a follower of the disgraced guru Muktananda described after his death in 1983, "there is no absolute assurance that enlightenment necessitates the moral virtue of a person.  There is no guarantee against the weakness of anger, lust and greed in the human soul.  The enlightened are on an equal footing with the ignorant in the struggle against their own evil."[2]

So New Age spirituality now has a grand narrative: evolution.  I think that the term is an attempt to give this new paradigm the character of being both scientific and inevitable.  But questions remain about what evolutionary spirituality really means in practice and where this is meant to lead the human race in future.

[1] Ray Yungen, A Time of Departing, Lighthouse Trails Publishing, 2006.
[2] Yungen from “Baba Beleaguered,” Yoga Journal, Issue 63, July/August 1985, p. 30. 

Wednesday, 13 June 2012

It's Complicated

The media have reported the main findings of the executive remuneration survey of the proxy advisory company Manifest and the remuneration consultancy MM&K, adding fuel to the fire in the belly of many shareholders.  The survey found that the median rise of FTSE100 chief executives rose 10% last year, the average rise being 12%.  The median CEO salary in 2011 was £3.7m for the FTSE100.  The increase was 5 times the increase in average earnings across the economy, well above inflation, while the FTSE100 index fell 5%.  Half of the FTSE100 CEOs were awarded increases of more than 10% in 2011. One quarter received increases in total remuneration awarded of 41% or more.

A fund manager, in defence of current executive pay trends said, ‘strongly performing chief executives are worth a lot of money…these people don’t just turn up for work and drink coffee.’   I can’t think of a single person who actually does that, apart from professional coffee tasters.  And I’ve no doubt that their expertise makes a vital contribution to a coffee company’s success.

Total remuneration £m

Total rem vs annual return to shareholders
HSBC Holdings
Negative return
BAE Systems
Negative return
BP plc
Negative return
Negative return
Negative return
CRH plc
Negative return
Wolesley plc
Negative return
Capita plc
Negative return
British Land Co
Negative return
Man Group
Negative return
Land Securities
Negative return
Capital Shopping Centres Group
Negative return

I attended Manifest/MM&K’s survey launch yesterday which included a review of the highlights of the report as well as a panel discussion of the remuneration problem in the UK.  There were some interesting contributions by Dr. Ruth Bender of Cranfield School of Management, Dr. Daniel Summerfield of Responsible Investment and Michael Wemms, chairman of the remuneration committee at  Much of the discussion focused on the ‘shareholder spring’ and the challenges of communication and understanding between companies and shareholders.  This was the gist of the discussion on the problem of executive pay:

  • Executive remuneration is complicated;‘the system is broken.’
  • It’s complicated for reasonable reasons.
  • It’s time consuming and difficult to understand.
  • It’s necessary for shareholders to understand a good deal about executive pay in order to responsibly execute their fiduciary responsibilities.
  • It would be helpful if executive pay were simplified and comparable.
  • On the other hand, it would also be better if it were more bespoke.
  • It will be difficult to simplify.
  • It’s complicated.


There was a noticeable level of frustration in the audience over all of this, with a few people raising the more general issue of national and global trends in inequality and a distinct sentiment of ‘why, why does it have to be this way – why does this executive pay problem keep us mired in it?’  Will the shareholder spring have any impact on the very real problems of corporate governance and inequality more generally?  Or will shareholder activism die down when the business cycle finally turns?

Tuesday, 12 June 2012

But is it Entertaining?

My daughters and I viewed Damien Hirst’s retrospective at the Tate Modern yesterday.  The one thing that we all agreed upon was that the art was provoking; for one daughter feelings of great joy and for the other great anguish, particularly over the deliberate use of live and dead creatures in a large number of the works.

In the evening, Sky Arts broadcast Tim Marlow’s interview with the artist; it was the perfect complement to our expedition.  I noticed that more often than not, Damien tended to respond to many of the questions posed to him with, ‘I don’t know....’ which we found both funny and endearing.  He came across as a quite plain-speaking chap; no deep philosophical theories of contemporary art or political protestations or social commentary.   Instead he says, ‘life and death are the biggest polar opposites there are.  I like love and I like hate…I like all those opposites.  On and off.  Happy and sad.’

He appears to be an artist of action: an idea occurs to him and despite its possible technical difficulties, he goes ahead and does it anyway.  This called to mind the ideas of Martin Heidegger and the man with the hammer.  In Damien Hirst’s case, a man with surgical saws, embalming liquids and a hanger-sized  studio.  And it also brought to mind for me the comments of the film director Lars von Trier who said that in the process of making a movie, he begins by deciding what he’d like the viewer to feel;  he then builds the scene, music, lighting, character and action around that objective  He’s deeply interested in what the viewer is seeing and feeling in every frame.  

When Hirst was asked what he hoped for in terms of the reactions of the observers of his work, he said that his only goal was that the works of art were remembered the day after they were viewed.  Not whether we liked them or not; not whether we are moved by them emotionally or stimulated by them intellectually or repulsed.  But that we just remember them. And if that's his primary goal, Hirst has succeeded in a big way - even the rooms full of pharmaceutical shelves which to our eyes could have come straight out of Boots.  Still, we’ll remember then because we saw them right after the bodiless head of a cow and live butterflies living on canvases.

There was one room which had a trio of what from the entrance looked to be stained glass windows.  When you get closer you realise that they’re made up entirely of butterflies.  Thousands of real butterflies.  They’re amazing and I’ll whisper this: they’re beautiful. 

The final piece of the exhibit is the famous diamond skull which can be seen in a glass box in small darkened room.  It’s entitled, ‘For the love of God,’ apparently because this was his mother’s response when he told her he was going to be an artist.  How cheeky and abundantly ironic.  Seeing it the flesh, it was smaller and prettier and more delicate than the photos can relate.

There’s a great deal of death in Damien Hirst’s work, but it isn’t depressing in the least.  In 2005, he said: 'There are four important things in life: religion, love, art and science.  At their best, they’re all just tools to help you find a path through the darkness.  None of them really work that well, but they help.  Of them all, science seems to be the one right now.  Like religion, it provides the glimmer of hope that maybe it will be all right in the end…’

When people comment on contemporary art I often hear them say, ‘I could have done that.’  Well keep in mind that you didn't, couldn’t have and probably never would.  Did I like Damien’s work?  Some of it yes, much of it no.  But it was certainly memorable, from the walls of diamonds to the mosaics of butterfly wings to the reservoir of cigarette butts.

Friday, 8 June 2012

The Gulf between Is and Ought to be

What’s wrong with the human race?  Why are people cruel and careless in their treatment of others?  Why are people petty, cavalier and judgmental in their thought life?

Modern day slavery is a growing problem and tragedy.  It‘s an enormous shame on the human race.  Estimates of the number of slaves in the world today range from 10 to 30 million; the ILO put a minimum estimate of 12.3m in a 2005 report.  Kevin Bales, a sociologist consulting for the UN estimated the number was 27m in his 1999 book Disposable People: New Slavery in the Global Economy.  Siddharth Kara, a fellow on trafficking at Harvard calculated the range between 24 and 32m as of 2006.  Two problems with estimating modern day slavery are that the people being counted are, by definition, hidden and that there isn’t a common definition as to what slavery is.

Nevertheless, the UN Office on Drugs and Crime estimated that human trafficking to be the third largest international crime industry as of July 2011, behind illegal drugs and arms trafficking.  Modern slavery is believed to generate profits of $32billion annually, $15.5bn of that made in industrialised countries.  According to the UN, in 54% of human trafficking cases, the recruiter is a stranger to the victim; in 46%, the recruiter was known to the victim.  According to the US State Dept, as of 2007, between 600,000 and 800,000 people were trafficked across international borders; of that number more than 70% were female and half were children.  A 2009 UN report found that around 20% of all trafficking victims are children. 

The average price of a slave has declined during the past 200 year, according to Kevin Bales. In 1809 the average price of a slave was $40,000 adjusted to today’s prices.  In 2009, the average price of a slave was $90.   

Modern day slavery is one of the more blatant manifestations of our inner problem.  It has called to mind a poem I read a few years ago by Steve Turner and an excellent interpretation of this by Steven Garber from the CS Lewis Institute:

‘My love,
she said
that when all’s
we’re only machines.

I chained
her to my
bedroom wall
for future use
and she cried.’

‘Simply believing something to be true does not make it true; that was the gist of Turner’s poem. If I believe that I am a machine, treating myself and others as a machine, then it still does not change the reality that I am in fact a human being with longings and yearnings to know and be known, to love and be loved, to touch and be touched.  If I am treated like a machine, then for awhile, maybe, I will act like a machine, but eventually I will cry—because I really am a human being, after all, and I want to be treated like a human being ought to be treated.’[1]

For further information see Tearfund, UN Gift (Global Initiative to Fight Human Trafficking), CNN FreedomProject and UKHTC.

[1] Steven Garber, ‘The Way Things Ought To Be,’ Knowing & Doing, CS Lewis Institute, Summer 2007.