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EXECUTIVE COMPENSATION, CAPITAL GAINS AND LABOR INCOME

June 21, 2016

EXECUTIVE COMPENSATION, CAPITAL GAINS AND LABOR INCOME

Joseph E. Stiglitz in his book Rewriting the Rules of the American Economy has added helpful ideas to his central argument against wage and wealth inequality which would help over time to correct these two  economic downers we are suffering and have suffered for some four decades.

Thus those who claim that stock options paid to executives provide desirable incentives to excel cannot prove their thesis because the opposite is true. Stock options paid to executives in fact distort incentives, especially as a misallocation of capital. Such “creative accounting” claims also distort the general economy in that outlandish corporate executive compensation drives up salaries of executives of non-profits and other institutions, thus making inequality worse.

There is a section of the internal revenue code which gives favorable tax treatment to the compensation of executives via equity compensation, particularly stock options. It should be repealed. It encourages executives to act like financial speculators. Congress should eliminate the deductibility of executive pay beyond the current $1 million deductible with a view toward effectively repealing the so-called (“performance pay”) boards allow their executives to collect over and above $1 million at the expense of shareholders (whose stock values are diluted) and other stakeholders in corporate performance such as workers, consumers, producers et al. (whose prices for the corporation’s goods and services are marginally higher as a result of such board’s largesse as consumers ultimately pay for such executive salaries, bonuses, stock options and other such forms of executive compensation).

Good corporate governance would require strong disclosure requirements and transparency in executive compensation. Every publicly-owned corporation should be required by the SEC to report the value of executive compensation in simple and understandable language rather than in some obscure footnote to its report. Good corporate governance should also require that shareholders (whose stock is subject to dilution) have a say in executive compensation, and there is good reason for this, as dilution of their equity interest in the corporation and reductions in dividend income and capital gains potential gives them every right to question executive compensation, among other such board initiatives.

Such vote on executive compensation by shareholders (the ostensible owners of the corporation) is necessary for other reasons. Typically boards of directors are stacked with friends of management who are directors (and even CEOs) of other corporations who know that their own compensation will go up if that of other firms go up. Given such a reality, so-called “outside” directors can hardly be expected to vote against exorbitant compensation to the executives of the corporation they “serve,” fiduciary duties to the contrary notwithstanding. Shareholders should have the right to protect their own interests.

In re capital gains and labor income, the preferential treatment given in the tax code for capital gains and dividends over that of labor is breathtaking. It is the richest Americans who receive virtually all of the preferential tax treatment in the code by virtue of their ownership of capital while the rest of us are called upon to pay the full tax on our labor. The rich (if they have arranged their affairs in accord with the tax code) frequently pay at a lesser rate than those who trim the bushes on their estates. Warren Buffet has publicly pointed out that he pays at a lower tax rate than his own secretary. Perhaps surprisingly, the concentration of capital income is even more extreme than that of labor income. The richest Americans (the 0.1 percent) pay a lower rate than the next wealthiest 0.9 percent!

When and since the Internal Revenue Act was passed in 1913, it has been understood that the tax was to be a progressive tax, that is, the more you make the more you pay. Unfortunately, the hireling politicians got into the act and with their various deductions and credits and decided that billionaires (after application of such deductions and credits and other tax-saving measures such as “carried interest” and other grotesque drains of the public treasury) didn’t “make” much, and therefore, didn’t owe much.

Those who would retain the present grossly unfair tax system argue that capital tax breaks spur investment. They are demonstrably wrong. Cuts in capital gain rates have instead served to reward speculation rather than work. The rest of us are stuck with the result: in 2013 the U.S. government lost $161 billion in revenue because of low capital gains rates. The CBO estimated that 90 percent of the benefits afforded by the provision went to the wealthiest of Americans and 70 percent to the top 1 percent.

Other than “campaign contributions” to those in Congress in charge of the tax code, there is no good reason why capital gains should not be taxed at the same rate as labor income. We need specific forms of productive investment to make our economy work for everyone, like labor-added production of goods and services, not an exchange of paper on Wall Street, which produces no economic good.

161 billion of dollars in revenues to our treasury in 2013 would have helped immensely in reducing the deficit and/or financing important federal initiatives (read infrastructure repair and renewal of roads, bridges, public buildings etc.), but we have apparently decided as a matter of policy that it is more important to favor the Swiss and Cayman accounts of billionaires than it is to conduct the public’s business in a fair and efficient manner. I, for one, object strenuously to such a policy, and since its continuation is certain to continue with the present lackeys/policymakers in Congress, it is clear that we need to change policymakers. Let’s do it this fall.    GERALD      E

 

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