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Executive Compensation Update

February 4, 2009

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As soon as I finished the previous post, a news flash and some interesting analysis crossed my virtual desk.

First, as expected, the new president announced compensation limits for executives at companies that have used TARP bailout funds.

Second, someone else has been wondering if there is more here than meets the eye. “The World is Curved” author David Smick e-mailed me (and many others; I’m not exactly his BFF, although I do feel honored to be on his group-send list) this counterintuitive thought a few minutes ago:

The reason for this public campaign [against executive compensation] is that next week officials are likely to hand the banks a taxpayer-funded bailout potentially worth trillions. Therefore, what’s happening here is the necessary creation of political cover.

The important point: The Administration is offering the bankers an implicit deal. Even though senior executives from banks receiving government assistance will face limits on their salaries, the value of their personal shareholdings – where for most executives the big money is – will be potentially restored as bank stocks rise in response to the bailout. In many cases, those shareholdings are now all but worthless paper.

The Administration needs this political cover because it faces a horrible choice. The issue: The assigned price by the Treasury for the banks’ toxic assets in any bailout package that entails taxpayer funding. If officials value the toxic assets at too low a price, all bank stocks will collapse. The world would then declare the large U.S. banks insolvent. America would face financial Armageddon. On the other hand, valuing the toxic assets at an artificially high price (at the taxpayer’s expense) may save the banks but invites a political firestorm at a time when average folk are hurting. Thus the need for cover.