Wednesday, May 11, 2016

COTW: The Myth of Marginal Productivity & Wages

In classical economics wages are supposedly determined by a worker's marginal productivity meaning they are set by the amount of value added to a product by the addition of one worker to the force.  From 1948 to 1973 worker's wages did grow in tandem with productivity increase. But the economic data shows this former correlation no longer accounts for the gap between productivity that has been increasing due to the use of and improvements of technology and wage scales for the middle class that have been relatively flat.  Furthermore, productivity gains cannot explain the explosion of top executive pay in the United States.  Marginal productivity of a corporate executive is practically impossible to measure objectively, and social factors such as executive pay committees comprised of their peers play a dominant role in setting executive compensation*.  In some companies the executive is allowed to award his own compensation.  Look at this chart:

source: EPI
US hedge fund managers took in $13 billion in compensation in 2015 despite low or negative returns for most funds they manage.  This incredible amount of compensation puts them well within the top 0.1% of society, a Shangri-La of private jets, luxury hotels, exclusive resorts, and multiple homes.  Needless to say these plutocrats have money left over after buying art to dispense on less wealthy politicians like Hillary Clinton, who charges six figure speaking fees, to insure the laws protect them and their capital.  A case in point: hedge fund SAC Capital Advisors plead guilty to security and wire fraud charges in 2013.  One of the most profitable funds in history was the result of illegal insider trading on an unprecedented scale.  The company paid a relatively modest fine of $1.8 billion to settle the case.  However its owner, Stephen A. Cohen escaped punishment for his company's crimes.  His current net worth is on the order of $12 billion, and he now owns a new hedge fund, Stamford Harbor Capital.  To give some perspective on the amount of compensation these captains of capital award themselves, only $1.6 billion would be enough to replace all the lead pipe in Flint, MI.  More anecdotal evidence that what 'Mericans hold dear is largely "trickle-down" fiction.

*a recent study by Betrand and Mullainhatan shows that when profits increase for external reasons over which executives have no control, executive pay rises most rapidly.  The authors call this "pay for luck".  In fact in the last thirty years the top 1% has increased its share of national income from 8% to nearly 20% or an increase roughly twice as much as in Britain and Canada and three times as much as in Australia, all technologically advanced countries. T.Piketty, Capital in the 21st Century, p.316