The indisputable economic (and moral) fact of our time is that America’s most wealthy, from whom capitalism’s CEOs, directors, guardians and gatekeepers are drawn, not only allowed this torrent of financial chicanery and deception to occur, they profited handsomely from it.
These pages have voiced strong doubts over the years about the leadership and compensation practices that prevail at many of America’s corporations. Chief among the criticisms were that these plans provided incentives and rewards that caused companies to take improper risks which allowed CEOs to rack up huge gains in the short run while investors — and, ultimately, society — were left holding the costly bag of empty promises when reality came crashing down.
Take Bank of America, for example, which recently settled with the U.S. Justice Department by agreeing to pay a record $17 billion in penalties and restitution. In the long history of American business, there has never been anything approaching this outsized penalty. It stems from improprieties at Countrywide Financial, which B of A bought in another fit of misguided thinking, just before the onset of the Great Recession. There were also irregularities involving disclosures about its takeover of Merrill Lynch as well as with Bank of America’s own mortgage practices.
You might think that CEOs and boards are paid well for keeping companies out of trouble and avoiding these kinds of disasters. Half of that observation is certainly true. In the five years leading up to the crash of 2008 and the beginning of the worst recession since the Great Depression, B of A’s CEO Ken Lewis was paid more than $200 million. Each of the bank’s directors awarded themselves a minimum of $1.5 million in the same period. Many collected more.
When he retired in 2009, Mr. Lewis walked away with a further $83 million in retirement benefits. Others connected with B of A, such as former Merrill Lynch CEO John Thain and Countrywide Financial’s former CEO Angelo Mozilo, also made off with huge fortunes as a result of deals made with the bank under Mr. Lewis.
And for all that, one of America’s most prominent financial institutions did not walk — it ran — into the giant propeller of U.S. government in a predictable and avoidable financial collision that resulted in this staggering record payout.
Bank of America was, as we documented over the course of several years, far from alone in practicing financial acrobatics that were more suited to a travelling carnival than an iconic institution of capitalism. Yet in this mighty tsunami of boardroom wrongdoing and excess that nearly upended Main Street, barely a ripple of bother was felt among the first-class decks of Wall Street and America’s financial elites. No CEO has been sent off to jail. No director or chief executive has been forced to return any pay. As we noted in The Fallacy of Giants, in most cases when these kinds of eye-popping settlements are announced, the company’s stock shoots up. Government fines, no matter how staggering, and accusations of abuse and betrayal by top management and boards, no matter how shameful, are regarded by many business insiders and much of the market as just another cost of doing business.
The indisputable economic (and moral) fact of our time is that America’s most wealthy, from whom capitalism’s CEOs, directors, guardians and gatekeepers are drawn, not only allowed this torrent of financial chicanery and deception to occur, they profited handsomely from it. The result is that those same elites in the period between 2007 and now managed to gain an even larger choke hold on the wealth and income of America than at any time since the 1920s. This, despite the fact that were it not for the bailout provided by America’s taxpayers who largely live on Main Street, not only would this expansion of wealth not have occurred, but capitalism itself might not have survived. On that point, is it not interesting that the same voices that are generally quick to rail against government excess and demand fiscal discipline when it comes to the public purse are uncharacteristically silent when it comes to the $5 trillion the U.S. Fed paid to finance the bailout? Does that have any connection with reality, or is it just another case, like CEO compensation, for instance, where there is one set of ever accommodating rules for those at the top and another for everyone else?
What happened with Bank of America, and other prominent institutions like it, and the ease with which moral and legal improprieties can be sloughed off with little consequence for those in charge, is at the heart of the current record level of public disaffection with capitalism and those who lead it. Having spent nearly half a century working with and around capitalism and its leaders, it is hard for me to imagine that one day it may cease to exist. But the too often overlooked reality is that the fundamental currency that sustains modern capitalism is not capital at all — it is the consent of the public.
If present trends in income equality and corporate immorality continue, and its leaders fail to ensure that capitalism is governed by a set of values that is consistent with the needs and dreams of Main Street, it is hard to imagine how it will survive.
Essay by J. Richard Finlay
The blind eye which shareholders and analysts too long cast upon the abuse of excessive CEO pay is now being turned to the recent trend of monetizing ethical abuse. Who knows when the tipping point might come in the ever-widening wealth gap where capitalism is finally seen to cross the river of moral conscience and moves from being trumpeted as a source of social progress and individual incentive to one of middle class tyranny and public opprobrium.
Continuing from Part I
One of the defining features of today’s world of big business is that, too often, shareholders have been willing to turn a blind eye to any amount of pay to a CEO, no matter how disproportionate, as long as they were getting impressive returns each quarter. Never mind how many times poorly crafted compensation devices gave incentives to CEOs to artificially push up the stock when such growth could never be sustained in the long run. As I suggested to the U.S. Senate Banking Committee long before the financial meltdown that traced its roots in part to unsound compensation schemes:
The most corrosive force in modern business today is excessive CEO compensation. Such lofty sums tempt CEOs to take actions that artificially push up the price of the stock in ways that cannot be sustained, and to cash out before the inevitable fall.
Our comments on these pages and elsewhere over the years have also attempted to rebut the most common justifications frequently advanced by boards as to why CEO pay needs to be at the level to which it has skyrocketed.
But the inescapable lesson of history appears to be that no boardroom scandal or financial meltdown is so great, no gap in wealth or income is so wide, that it will deter CEO pay from its self-appointed destiny of creating the wealthiest professional class in the history of the world.
Now a view is emerging in many boardrooms and on Wall Street that appears to regard ethical and legal transgressions, even the kind that result in multi-billion dollar fines, penalties and settlements, as mere transactions. This is the case with JPMorgan Chase, whose profitability is so vast its shareholders are prepared to accept a record settlement with the U.S. justice department for $13 billion (among other penalties) as just another cost of doing business. The stock has risen 28 percent in the past 12 months. Other examples abound, including Bank of America’s $9.5 billion to settle government actions involving federally insured mortgages, $1.2 billion paid out by Toyota and $7 billion in penalties by drug makers GlaxoSmithKline, Pfizer and Abbot.
It is not as if the ethical and legal dimension of business has suddenly dropped onto the corporate landscape unexpectedly. There are more compliance officers and university think tanks on ethics than at any time in the history of business. Every publicly traded corporation has a code of ethical conduct. Company websites all make reference to being committed to the highest standards of ethics and honesty. Most CEOs will give an annual keynote speech somewhere showcasing the social responsibilities of their business. I’ve written many of them over the years myself. Enron had a stellar reputation for commitment to high ethical standards. Its CEO, Ken Lay, liked to be known as “Mr. Business Ethics.” But between the words and the actions of too many companies there falls an ethical shadow. It is much easier to simply assume a standard of ethical performance than it is to subject it to the scrutiny and testing it actually requires.
History is littered with the bleached remains of fallen giants, even of the corporate species. Nortel and BlackBerry not long ago led their industries. Today, one has vanished and the other is quickly disappearing. Some years ago another Canadian institution, Royal Trust, collapsed under the slumbering eyes of inattentive directors and stunned regulators. Livent was North America’s largest publicly traded theatrical entertainment company. But its most artistic accomplishment came in the form of the highly creative, but decidedly unlawful, accounting engaged in by its Toronto-based founders Garth Drabinsky and Myron Gottlieb, who both swapped the company’s swank Manhattan condo for sentences in a Canadian prison.
General Motors had a hammerlock on the North American auto market that was thought to be unbreakable, until it limped pathetically to the wicket of government assistance and declared bankruptcy. The “new” GM is today being rocked by the lingering effects of a culture that dismissed the risk of customer deaths from defective ignition switches as an acceptable business cost. Microsoft, once the dominant force in consumer software to the point where it actually fixed prices, has been reduced to selling software for competing Apple iPads on the rival iTunes store as consumers abandon its signature Windows software in droves. And to the pantheon of vanished business icons, Bear Stearns and Lehman Brothers are now fully inducted, as are their former leaders, Jimmy Cayne and Dick Fuld.
Like many other companies, they were lost to the all-too-common, but entirely avoidable, affliction of hyper-ego and deficient common sense. Before the crisis that claimed them, we often asked here if some of these companies actually had a real board of directors, since it seemed there was little evidence of them when they were most needed.
In situations like these, and in many others, when disaster strikes the board of directors typically professes surprise and claims to have no idea what could have caused it. Memo to board secretaries everywhere: Have a full-length mirror installed in the boardroom.
The idea that there are few outcomes that are not insurmountable when a company skates over ethical and legal boundaries, that a board can throw money at any type of egregious conduct to get past it, is fundamentally subversive to the well-being of both capitalism and society. It feeds the delusion, commonly held by many who enjoy great wealth and power, that certain companies are endowed with a financial shield so impenetrable it makes them invincible to the consequences of their actions. This same view creates a culture of moral hazard where the scale of the transgressions, and the costs necessary to remedy them, inevitably keep getting bigger and bigger until the unthinkable calamity occurs. As the lessons of the great financial crisis of recent years demonstrate, when the unthinkable does happen, the CEOs whose misjudgments caused it have long fled with their trove of stock options profitably cashed out, while ordinary shareholders, and occasionally taxpayers, are left to pick up the pieces.
Far more important than the loss of any one giant, however, is the integrity of the system of capitalism itself. Capitalism cannot survive if its leaders, guardians and gatekeepers remain willing to tolerate such costly misbehavior. Nor will society, whose support it requires, endlessly abide a system that does not convincingly demonstrate that it recognizes a sacred obligation to the public for upholding a standard of ethical conduct that goes well beyond what has been evidenced by many firms in recent years. Lest there be any doubt, twice in the past 100 years, capitalism has effectively turned to government for its very survival in what amounted to a public bailout from the epidemic of excess and misjudgments that led to massive job losses and social dislocation.
It would be the height of folly for the titans of Wall Street and elsewhere to conclude, as a result of these recent multi-billion dollar settlements, that they can simply write a cheque and continue on with business as usual whenever moral impediments stand in the way of increased profitability and outsized compensation.
Business has misjudged the reaction of society to a number of major issues over the years, from the dangers to food safety and the exploitation of child labor to threats to the environment and the need for safer cars. The results were not particularly welcomed by business nor were they predicted by it. And the business world did not exactly distinguish itself by the silence of its leaders in the early phases of the subprime meltdown or for presiding over an inadequately governed system that let America down to the point where corporate welfare through the generosity of government became capitalism’s only hope. When high profile tycoons like former GE CEO Jack Welsh and Home Depot’s billionaire co-founder Ken Langone bemoan the expressions of antipathy toward Wall Street and big business, voicing puzzlement over its cause, as they regularly do on CNBC, for instance, they betray a larger disengagement from the forces that shape the social and political dimensions of modern capitalism.
Who knows when the tipping point might come in the ever-widening wealth gap where capitalism is finally seen to cross the river of moral conscience and moves from being trumpeted as a source of social progress and individual incentive to one of middle class tyranny and public opprobrium. A firestorm of outrage may be in the waiting.
In that context, it is not unreasonable, and certainly not imprudent, to suggest that if a more fair and honest culture consistent with the core values with which America has always approached its concentrations of power, is not soon embraced, if the idea that ethical abuse can be monetized is not quickly dispelled starting with capitalism’s most valued icons, the costs to investors and to society will be measured in more than the Sagan-like billions and billions tallied thus far.
Recent Fed transcripts just another sign that those in charge too often don’t get it.
The blindness of entrenched interests to the looming forces that threaten to disrupt their legitimacy and the lives of those who depend upon it is the defining failure in the governance of major institutions today. Some work diligently to overcome that obstacle. Most do not.
This was, and in many ways remains, a principal cause of the near collapse of the world’s financial markets in 2008, the economic downturn that continues to play havoc with countless lives today and the growing economic divide that threatens both the existence of the middle class and longer term social stability. But this imperviousness to the restless arc of reality did not begin with the folly of Wall Street and the subprime mortgage fiasco nor did it end when the Dow Jones hit record heights. It is alive today in our healthcare and education systems and in the loss of privacy at the hands of over-reaching governments and corporations that alternatively demand more personal information while failing too often to protect it. Its fingerprints are found all over the institutions of democracy that are rapidly losing public respect. It taints the interactions of governments and businesses each day with young people, the elderly and ordinary working families and causes too many to feel weary and resentful at getting the short end of the deal from those who seem immune from any accountability for their actions.
And it will continue to see the world stumble from scandal to crisis until major corporate and public institutions are distinguished by governance standards and ethical values that place primacy on the dignity and worth of individuals and not the self-aggrandizing conveniences of their leaders.
Having brought the economy of the United States, and a good part of the world, to the brink of a global depression, the American banking system has now unleashed a second scandal. This one involves an epidemic of cheating and lying in court filings by those handling home repossessions. It has been happening for many years. It has worked very well for the banks. And it would have continued to do so, had a few judges not decided that, in an economy so decisively affected by what happens in the housing market, it might be a good idea if bank representatives were actually telling the truth. What a novel idea.
Evidence increasingly shows that in tens of thousands of cases, the bank employees signing foreclosure documents had no training and possessed no knowledge of the underlying facts. They were just there to sign their names in order to give a veneer of procedural fairness to the process. In one case, an employee of GMAC has admitted under oath that he typically prepared 400 foreclosures a day and that, contrary to what was attested in his sworn statements, he did not know any of the details about the cases. Once again, as with the toxic investment vehicles they created, it appears that much of the ethically challenged banking sector wasn’t really interested in either the truth or in the more far-reaching consequences of their actions. They were interested only in cutting corners and making more money. Their victims this time are not investors and bank shareholders, although many are now beginning to feel unpleasant effects as financial stocks plunge with the deepening extent of the scandal. It is past and future homeowners who are the object of the bank’s miscreancy.
In most states, bank repossessions have stopped while companies like GMAC, Bank of America, JP Morgan Chase and others, along with government regulators and the predictable cast of lawyers, look at fixing the mess that has been created. At this point, any further drag on the housing market may well prompt lawmakers and the Fed to look at another stimulus — perhaps even a second TARP — which will obviously be paid for again with taxpayer money. The previous bailout was made necessary because of widespread banking improprieties. If there is another one, it will be in no small part because the banking industry in America still has a problem with truth and accuracy. It is never a good situation when these virtues are found in short supply, especially in banks. Their absence reflects an industry that still does not get it and prefers to place immediate benefits over ethical conduct and a demand for profits and bonuses ahead of decency and common sense.
It is an industry that continues to be well deserving of the outrage of Americans.
Conrad Black is back at his (temporary) winter home in Palm Beach after being freed on bail pending the outcome of his appeal. His conservative friends in their College of Cardinals-type media conclaves appear to seek his beatification for what he has gone through. If he is found to have been wrongly convicted, as countless numbers are in Canada and the United States every year without a whisper of concern from Mr. Black’s supporters — or the tens of millions at their disposal to make that case, as Mr. Black has — he is entitled to all the redress available for one of the most terrible wrongs the state can perpetrate on a person. But, as Stephen Bainbridge points out, there is still much of the dark earth about him that stands between Mr. Black and his final elevation to sainthood.
Richard Fuld was back before another committee attesting to the fundamental strength of Lehman Brothers, which went under for every conceivable reason, except, of course, the failure of its leaders. Follow-up question: does the Financial Crisis Inquiry Commission realize that Lehman had a board of directors who might shed some light on the calamity? Fed chief Ben Bernanke was also back before the Commission, after the Fed admitted, once again, that it misread the depth of the economic downturn in recent months. A change in lyrics was also detected regarding Mr. Bernanke’s explanation as to why Lehman was not saved. The self-serving music remains the same, however. BP’s infamous blow out preventer made its way back to the surface; its corporate image is still submerged somewhere in an ocean of missteps and CEO blunders. HP’s board is back in the news, and not in a good way. It showed that you can spend tens of millions on a CEO and, for that lofty sum, still get a chief executive with a missing ethics gene. The directors’ solution? Spend tens of millions more to get rid of him in the face of the deception which the board claimed was the reason for his ousting. Go figure. Canada saw a new Governor General appointed to represent the Queen as head of state. It came on the sole recommendation of a prime minister whose Conservative Party holds a minority position in parliament. It is a throwback to a time when most Canadians could not read or write and women did not have the vote. Still, few Canadians seemed bothered by the quaint tradition. On the other hand, few parents teach the idea that any girl or boy can grow up to be GG someday.
President Obama is back to a freshly redecorated Oval Office, where he has hatched yet another stimulus package. The new soft beige seating areas will provide a calming effect when yet lower approval ratings are published. As the distancing of the President from the electorate becomes more pronounced, and the loudening canons of Republican victory signal their approach with each day, one can almost hear the mournful reprise of a love no longer to be: “We’ll always have health care.”
However timeless the Pyramids of Giza and the inscrutability of the Great Sphinx remain, they cannot for more than a few weeks distract our attention from the greater monuments of folly and misjudgment that today’s Pharaohs of business and government routinely create.
They will be pleased to know that, along with all of them, we are back, too.
Ordinary people from Athens to Little Rock have had it with a bloated system where politicians take care of themselves, along with insiders and powerful interests when they run amok, and leave the public to scrimp, sacrifice and struggle to pay more debt.
As we predicted, the stock-lifting EUporia over the European rescue plan that arrived last Monday morphed into market-pounding fear and skepticism by Friday. The Euro currency is pretty much in a shambles, too. It looks like another huge bailout plan, like the initial incarnation of the TARP that was supposed to buy up billions in toxic assets, has been widely rejected as impractical and one that cannot possibly perform as intended. European leaders and central bankers have been left scratching their heads and wondering what hit them after they emerged from their Chamberlain moment, having pronounced their version of economic peace in our time.
The problems of Europe, and indeed, other nations that have too long been on a debt joy ride to fantasyland cannot be solved by either the profligacy of more debt accretion or the draconian paternalism of the IMF. When economies need to grow, you can’t tax them and shrink them into expansion, which is what they need to pay off their debt. The formula devised for Greece, which will see paychecks decimated, pensions slashed and taxes hiked, can have only one outcome — and it is neither pleasant nor a track to the growth that is needed. Nor can you push a country into greater debt for its salvation any more than you can make an addict recover by giving freer access to the source of the substance abuse.
TARP-type bailouts have become a flashpoint not just for the markets but also for the electorate. On this Super Tuesday of U.S. primaries, look to see Washington insiders who have been connected to these massive bailouts take a big hit. By tomorrow, one-time Pennsylvania Republican Senator, turned Democrat, Arlen Specter, will have lost his chance for a sixth term. Rand Paul, who has become a darling of the Tea Party, the quintessential anti-bailout brigade, is likely to receive the Kentucky Republican nod for the Senate. Democratic Senator Blanche Lincoln will probably lose her bid for renomination in Arkansas. Last week, it was three-term Republican Senator Robert F. Bennett of Utah who was turfed out by his party. This is just the opening act for the main event that will come in November, when the full effects of what we have dubbed turbo populism will see some seismic shifts in the political landscape and in the culture of excess that has come to define it.
Ordinary people from Athens to Little Rock have had it with a bloated system where politicians take care of themselves, along with insiders and powerful interests when they run amok, while leaving the public to scrimp, sacrifice and struggle to pay more debt. They know that approach is fundamentally corrupt and cannot be sustained either by precepts of ethics or principles of economics. That is the lesson of the bailout backlash in Europe and the anti-TARP movement in America.
Those in positions of power who ignore it do so at their peril.