Thursday, 21 June 2012

Government must stop meddling and leave pay decisions to shareholders

So argues Elaine Sternberg at City AM.
Government regulation of corporate governance is not justified by envy or inequality, or by gaps between aggregated remuneration levels and averaged share performance. When unequal payouts reward unequal contributions, they are not an indication of unfairness or market failure. Similarly, reciprocal back-scratching, upward ratcheting of pay, and the capture by executives of remuneration consultancies, are not necessary features of market operations. They can be corrected by free market mechanisms. It is the shareholders’ responsibility to insist that rewards fairly reflect the corporate objective.
Shareholder own the firms, if they are happy with the remuneration of the top management then it is not the job of the government, or anyone else, to interfere with that remuneration. If the shareholders are not happy they can use one of "voice or exit" strategies. That is, they can either change the remuneration or sell their shares.
The High Pay Commission, an inquiry set up to look at executive remuneration, concluded that high pay is corrosive and unfair. But the purpose of corporations is not to promote an egalitarian society. Corporations aren’t creatures of the state, there to serve official social ends. They are the private property of their shareholders, and serve the ends designated by their owners.
This idea that firms "serve the ends designated by their owners" helps explain why there are so many types of firms, each with there own governance structure. We see for-profit firms, not-for-profits, producer cooperatives, consumers cooperatives, worker-owned firms etc and we see each of them because each is best at serving the particular ends designated by their owners. One size does not fit all in firms.
Corporate governance refers to ways of ensuring that corporate actions, agents and assets are directed at the constitutional objectives of the corporation, set by the shareholders. It should be up to the shareholders to determine the rights, responsibilities and remuneration of all their corporate agents, and to specify the kinds of accountability they require. Given the varied history, size, activity, jurisdiction and shareholder composition of corporations, one size will emphatically not fit all.
Keep in mind that regulation by the government is often counterproductive. It is by its very nature inflexible and imposes substantial costs, both in funds and freedoms: even disclosure is not costless. And regulation can make it more difficult or even prevent a firm's owners from governing their firm in their way.
The government needs to reduce obstacles to free markets and genuine owner control. Free markets elicit innovative solutions to problems as they arise, in all their real-life variety; they effectively test those solutions and disseminate best practice. In a genuine market for corporate control, companies would compete for shareholders, and investment managers would compete for funds, partly on the degree and kinds of accountability they offered to owners and investors. The best way to ensure good corporate governance would be to maximise shareholders’ freedom to govern their own corporations in their own ways.
Shareholder power, not government power, is the key issue for good governance.

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