by Matson Boyd
Countrywide’s Angelo Mozilo, Bear Stearns’ Jimmy Cayne, Lehman Brothers’ Dick Fuld, and Merrill Lynch’s John Thain.
Greg Mankiw – the Harvard Economics professor, adviser to George W. Bush, and author of one of the most popular economics textbooks – is still at it trying to make the case that the wealthy deserve to be insanely rich. I would like to write a cogent essay in reply, but Mankiw’s argument is so philosophically ungrounded, so strewn with errors and rife with unchecked assumptions, that I don’t know where to begin a response. Many years ago the writer Robert Fisk pioneered a form of vitriolic point-by-point online writing, now known as fisking. For his piece, Mankiw deserves nothing less than such a Robert Fisk style response.
In 2012, the actor Robert Downey Jr., played the role of Tony Stark, a.k.a. Iron Man, in “The Avengers.” For his work in that single film, Mr. Downey was paid an astounding $50 million.
First of all, movie stars are a tiny tiny fraction of the rich. Do you wonder why Mankiw wants to start by talking about actors and not about the majority of the .1 percent, known collectively as Wall Street, who earned their wealth by pillaging the economy and creating a financial crisis?
Does that fact make you mad? Does his compensation strike you as a great injustice? Does it make you want to take to the streets in protest?
Yet, somehow, when I talk to people about it, most are not appalled by his income. Why? One reason seems to be that they understand how he earned it. “The Avengers” was a blockbuster with worldwide box-office receipts of more than $1.5 billion.
Philosophers have spilled great quantities of ink debating the question of what people deserve. The standard assumption is that to know what someone deserves, you have to look at what someone does, leaving out structural influences like the size of the market. And for Robert Downey Jr., his huge income is very much the result of the worldwide size of his market. Other structural factors include whether your work is protected from competition and whether your government fights to preserve your intellectual property. Downey Jr. has the world’s most powerful government fighting to preserve his right to income when people watch his movies. This defence of property and prevention of competition is a privilege that the government extends to much of the 1 % – the doctors, corporate lawyers, CEO’s, those holding patents – but denies to ordinary workers. Together the legal climate and the expanding size of the global market have made a situation where Downey now earns several times what he would have earned for the same work just a couple decades ago. Should we conclude Downey now deserves to make several times what he did then?
Consider chief executives. Without doubt, they are paid handsomely, and their pay has grown over time relative to that of the average worker. In 2012, the median pay of C.E.O.’s for companies in the Standard & Poor’s 500-stock index was nearly $10 million. Did they deserve it?
Consider that the actions of many of the CEO’s were criminal, and these CEO’s nonetheless walked away with great fortunes. In Michael Tomasky’s summation of the Institute for Policy Studies report, “Basically, two of every five of America’s highest paid CEOs behaved in a way that, if they were regular workers, would have gotten them fired, disgraced, possibly prosecuted—maybe even jailed.”
Critics sometimes suggest that this high pay reflects the failure of corporate boards to do their job. Rather than representing shareholders, this argument goes, those boards are too cozy with the chief executives and pay them more than they are really worth.
Yet this argument fails to explain the behavior of closely held corporations. A private equity group with a controlling interest in a firm does not face this supposed principal-agent problem between shareholders and boards, and yet these closely held firms also pay their chief executives similarly high compensation. In light of this, the most natural explanation of high C.E.O. pay is that the value of a good C.E.O. is extraordinarily high.
Presumably, the private equity groups are competing for executives in the same market as other companies. Why would a competent self-interested executive want to work for less for a private equity group when he can set his own pay and pilfer a “non closely held” company? And the class of C.E.O.’s now making about $10 million per year earned, in real terms, less than a tenth or twentieth of that a generation ago. Did executives become more deserving?
That is hardly a surprise. A typical chief executive is overseeing billions of dollars of shareholder wealth as well as thousands of employees. The value of making the right decisions is tremendous. Just consider the role of Steve Jobs in the rise of Apple and its path-breaking products.
A similar case is the finance industry, where many hefty compensation packages can be found. There is no doubt that this sector plays a crucial economic role. Those who work in banking, venture capital and other financial firms are in charge of allocating the economy’s investment resources. They decide, in a decentralized and competitive way, which companies and industries will shrink and which will grow. It makes sense that a nation would allocate many of its most talented and thus highly compensated individuals to the task.
I can’t say this part better than Paul Krugman: “Has Greg been living in a cave since 2006? We’re now in the seventh year of a slump brought on by Wall Street excess; we now know the wizardly job of “allocating the economy’s investment resources” consisted largely of funneling money into a real estate bubble, using fancy financial engineering to create the illusion of sound, safe investment. We also know that there is a real question whether hedge funds, in particular, actually destroy value for their investors.”
The Tax Policy Center estimates that in 2013, the top one-tenth of 1 percent of the income distribution, those earning more than $2.7 million, paid 33.8 percent of their income in federal taxes. By contrast, the middle class, defined as the middle fifth of the income distribution, paid just 12.4 percent.
So, by delivering extraordinary performances in hit films, top stars may do more than entertain millions of moviegoers and make themselves rich in the process. They may also contribute many millions in federal taxes, and other millions in state taxes. And those millions help fund schools, police departments and national defense for the rest of us.
Welfare states in most European nations are paid for by middle class taxation, the reason we can’t do that in the United States is because gains from economic growth have gone almost exclusively to the rich, and middle class incomes have been stagnant for decades.
Stephen Jay Gould once said of Einstein: “I am, somehow, less interested in the weight and convolutions of Einstein’s brain than in the near certainty that people of equal talent have lived and died in cotton fields and sweatshops.” How many people in the world, if given the chance, would have given a better performance than Robert Downey Jr.? How many would have made a better argument than Mankiw?