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Wednesday, September 16, 2015

Is America a meritocracy?

The previous post sparked a debate about the wisdom of taxing high earners, and libertarianism vs. more government control. I agreed with Donald Trump's suggestion that CEOs are overpaid, and two commenters suggested that this didn't fit with this otherwise mostly conservative blog. One also suggested that higher taxes on the wealthy is a punitive position based on false morals grounds.

I'd like to believe that people get what they do through hard work and intelligence. I'd like to believe that everyone gets what they deserve. But having worked on Wall Street for twelve years, and being a connoiseur of sociopaths, I'm unable to sustain that belief.

That leaves me a little shy of libertarian purity.

Libertarians tend to despise crony capitalism of the type they have in China, where connections to top government functionaries are a huge advantage. A libertarian will look at Russia and see, rightly, that becoming one of the oligarchs was a function of currying favor with the drunkard Boris Yeltsin, and then exploiting that connection. Libertarians look at Solyndra and see crony capitalism at its worst.

They're right about all those things.

But libertarians also tend to think that this isn't the way it's done in the West, with our free markets. But even here, business is largely about cronyism.

It would be nice to believe that America is a land where one gets ahead purely by dint of hard work and honesty and brains. But as anyone who's ever worked in a large organization knows, it's also about a lot of other things. Are you good at kissing ass? Do you go out drinking with the boss? Can you skillfully convince your coworkers that you have their backs while sticking a knife into them? Did you get assigned the best accounts? Can you convince people you're smarter than you are? Are you adroit at taking credit and sidestepping blame? And were you lucky enough to have a boss who wants to help his employees rather than use them as scapegoats?

Does all of that constitute merit?

CEO's tend to come from the ranks of those who are best at corporate gamesmanship. And the people who are best at that kind of thing are, almost by definition, sociopaths.

A lot of people will say, well, salesmanship is a big part of business, and it IS a form of merit. They're right, it is. But the best salesmen are also often sociopaths.

Every expert on sociopathy will tell you that sociopaths are vastly overrepresented among the ranks of CEO's. (And COOs, and heads of departments, etc.)

And once these sociopaths make it into the corner office, they generally stack their boards of directors with pals -- cronies -- who will rubber stamp their exorbitant pay packages. (These CEO's are not exploiting poor people, by the way; they're merely ripping off the shareholders of the company, and also the other employees.)

 Is that a meritocracy or a kleptocracy?

If you believe the former, consider the following. In 1975, the average CEO made 30 times what the average worker at his company made. Today, many make upwards of 300 times as much. Have CEO's gotten that much better? Have their IQ's gone up tenfold? Do they work ten times as hard?

Some make the case that the CEO's are worth it if the company stock goes up commensurately. Sometimes, it does work out that way. But stocks fluctuate, and in bad times CEO's don't give their previous paychecks back.

Giving a CEO all the credit when a large corporation does well is a little like giving a President credit (or blame) for a good (or bad) economy. Yes, a President can make a small difference at the margins, but mostly, economic cycles seem to have a mind of their own. Likewise with companies: the CEO is often given credit or blame, but there are limits to what one man can do, especially in a large, mature business.

For the most part, CEO's are not guys who built a better mousetrap so the world beat a path to their door. They are guys who, to use the more recent expression, faked it till they made it.

Another example: all the Senators and Congressmen who get voted out of office, then immediately go to K Street to become lobbyists and make millions. Is that merit? Or is that crony capitalism?

Before those politicians became lobbyists, how beholden were they to their large campaign contributors? Is a business which donates $30,000 to a Congressman and in return is steered a government contract worth millions succeeding on merit, or through crony capitalism?

The return on campaign contributions is something else Trump has talked about. (My recent posts seem to keep coming back to Trump, but my agreement with him is what started the argument after the previous post.) He said that he has donated to various politicians in order to get favors in turn, and that this is why the system is broken. He's right. (And he should know, being partially responsible.)

Trump also said that successful hedge fund managers are often people who just got lucky. If you look at the holdings of the largest hedge funds, you won't be stunned by their originality. Many have Apple, and Google, and a host of other recognizable names. (It doesn't take a genius to say, buy such and such a stock, especially if it's a big name.)

If you believe in efficient markets, or at least rough facsimiles thereof, most fund managers are essentially just making 50-50 bets with their clients' money. Some get lucky, others don't. The ones who are lucky become extremely rich. But if you look at most managers' long term track records, you'll see both good years and bad.

Think of your own investments. Some turned out well, others didn't. Was your IQ higher when you made the good investments, and lower when you made the bad ones? Or do you think there was an element of luck involved?

(This isn't to say that investing well is pure luck, but there is a big and undeniable element of it involved.)

Those who have consistently good records, year after year, often arouse suspicion from the SEC. For every insider trader who gets caught and convicted, there are probably many more who get away with it. (Otherwise, doing it wouldn't be so tempting.) Federal authorities were convinced for a long time that Steven A. Cohen, one of the most successful hedge funders of all time, was doing insider trading. But, they had to settle for convicting one of his underlings.

In any case, when Donald Trump, or even Bernie Sanders, talk about taxing the superrich at higher rates, I don't immediately think, how unjust -- this will move us away from the meritocracy that we are.

But I also don't see this as a punitive measure. It's that if we have a progressive tax system, it shouldn't stop progressing at an income level slightly above middle class.

The middle class are the backbone of America. People who've kept their noses clean and have worked hard their entire lives to have careers as schoolteachers, optometrists, lawyers, doctors, nurses, firemen, engineers, accountants, chiropractors, soldiers, are the ones who make America work. (And their number includes middle managers in the corporations which have sociopathic CEO's at their helms.)

Sometimes, a married couple who both work at what are essentially middle or upper middle class jobs like these can make a combined income of $464,000, which currently would put them in the highest bracket.

Should they be taxed at the same rate as CEO's who make ten million a year?

Here's the best example of whether we live in a meritocratic society: consider who gets the most prestigious job of all, President. Does that selection system reward merit? Think of the circuitous route and series of fortuitous circumstances that propelled Barack Obama into the Oval Office. Was he the smartest, hardest-working, most trustworthy man in the entire country?

Would George W. Bush ever have been considered Presidential caliber if his father hadn't been President? Was he the wisest, most articulate leader this county could produce for eight years? Was Bill Clinton the most honest, honorable man this country could come up with? Did he rise to the top by dint of his honesty and good character?

And so on.

Keep in mind, most corporate climbers don't receive a fraction as much scrutiny and vetting that a potential President does.

I admit, I've made a one-sided case here. There are certainly people, like Henry Ford, Edwin Land, and Steve Wozniak who actually did build better mousetraps, and deserved their fabulous riches.

But people like Trump who've seen how the system works up close, are more familiar with the games described above.

I'm not making the case for a larger government here. I think government should be shrunk. I just wanted to point out that the upper class -- as well as the lower class -- can have a parasitical relationship with society.


johnny said...

Once you start unraveling the principles of libertarianism, you realize the whole ideology is worthless. What pure libertarians argue for is suicidal. Your "government should be shrunk" disclaimer is simple minded and gay.

Mark Caplan said...

I'm in no sense a libertarian. I'm partial to America and the Anglosphere in general. That's what I root for. I want to see America's interests advantaged when we enter into trade agreements and security treaties. If free trade for some product is to our advantage (meaning, America is the low-cost producer), then I'm for free trade. But if America can't produce, say, a car as cheaply as India and it is desirable that America maintain an automobile manufacturing capability, then I'm not for free trade in that industry.

On tax policy, I believe in human biodiversity. Some humans are Mozarts of money accumulation. They have a preternatural gift. If everyone starts with the same level playing field, a handful of especially gifted people will in short order enslave the rest of us. Pure capitalism leads inevitably to plutocracy. A nation needs to shape its taxes and laws to artificially maintain the middle class, which would disappear without those artifices.

Taylor Leland Smith said...

I agree with you on most of what you are saying, except one major distinction: the highest earning Americans already do pay the vast majority of all taxes. In fact, only the top two quintiles of income earning Americans are actually net contributors: source: CBO

What has changed in the United States is that more an more Americans do not contribute. source: BLS

Meanwhile entitlements continue to soar: Source: BEA Source: BEA

Through the 70s, 80s, and 90s we always ranked in the top five for economic freedom. Generally, top three, behind Hong Kong and Singapore. Since 2000 we have continued to decline, with our most recent ranking at 16th place.

As for Wall Street, it is the epitome of crony capitalism. Libertarians are perfectly correct in pointing that out. Short-term thinking in "too big to fail" banks and large corporations is a result of the moral hazard that goes with bailouts and fed rescue.

John Craig said...

Johnny --

As i said in the post, I fall far short of being a pure libertarian. But you yourself have talked about the waste in a certain branch of the government in the past. There is more waste in other branches, which serve less vital functions. There are hordes and hordes of government employees whose primary function is to simply justify their own existence, and pad their own nests. Think HHS, or Education. And look at the way the VA is run -- those officials are in it to strengthen their own unions, not help the veterans. All of these public employees live on the public dime, and should be trimmed. Plus the amount of government regulation and red tape involved in getting any project started is overwhelming, and stifles enterprise.

John Craig said...

Mark --
I'm with you on all of that. As far as your first paragraph, I think that's pretty much what Trump is saying; we need to cut better deals on foreign trade, i.e., not bend over for the Chinese and so on.

And yes, we have to maintain our middle class. When people have referred to the American experiment in the past, that's effectively what they're talking about, even though they don't put it in those terms. Americans originally came from a European tradition of landed gentry and peasants, and they discarded that in favor of a theoretically classless society (slavery excepted). But the middle class has always been America's special strength, and, as you say, it has to be maintained.

johnny said...

Saying that certain parts of government are bloated an unnecessary isn't the same as saying government in general should be shrunk. In order to save western civilization from the current demographic trend, government needs to stop caring about fruity ideas like property right and individual choice.

Anonymous said...

Generally (which is an important word here) yes, America is a meritocracy. Look through the timeline of history and no other system or country has created so much wealth and prosperity for so many of various stations and ability. At the center of that system is libertarianism and freedom. Those ideas are simply some of the most important in history.

As a country adopts principles of freedom (again, generally), the larger the middle class will be, ie governments don't create middle classes. Does china have a larger middle class now, or in 1975? Is it more free or less?

The challenges the US worker faces are multivariate. Some of it is because our demographics are changing; manufacturing tends to follow lower median age countries. We're now aging and wealthier, and moving on to a service and information based economy, which puts a premium on intellectual skills. But our education system is hindered, not helped, by entrenched government interests. People could learn on the job, but there are laws that restrict internships to students, minimum wage laws that prevent young people with low skills from developing new ones, and licensing requirements limiting access to industries for beauticians, taxi drivers, and hoteliers. Some of the problems can be solved by restoring the effects of supply and demand to the labor markets and reducing government restrictions.

Some try to distort libertariansim into anarchism or something called the 'wild west' or 'pure capitalism.' The criticism extends to say that the wealthiest will become entrenched and be tyrants over the other classes. But, generally, no one gathers so much power without the government's preferential treatment. The most reasonable definition of libertarianism doesn't say that we should use no government, but only the minimum amount of government necessary that preserves the largest amount of freedom possible (versus the largest government possible while preserving the minimum freedom necessary). The smallest government possible is less susceptible to cronyism within the political sphere and with respect to rewarding favored companies.

Anonymous said...

CEO pay should only be the decision of the corporation and share holders. It simply does not affect anyone who doesn't work there or isn't a shareholder, and even they can protest by leaving their job or selling their shares. The CEO pay narrative plays on peoples ideas of fairness and makes them feel good. The government shouldn't attempt to regulate luck or the power of 'who you know' in private life. If one believes that CEO's don't deserve their pay because of a lack of merit and the influence of luck and network, then what about athletes and movie stars? Surely no one benefits from luck and networks like those two groups (which also have high rates of sociopathy). We might think that a F1 driver or TV vagabond doesn't contribute much and shouldn't be paid millions, but someone else does and they're not picking my pocket by doing so.

The progressive income tax is based on the idea that people think that the higher brackets don't 'need' the money or that they can afford it. If you make the case that they don't deserve it as well, you create a wonderful populist froth. The idea that the wealthy didn't really earn their money so it's morally ok to tax it assumes that the money isn't really theirs and the government and others have a higher claim to it. If anything, the government has even less to do with the creation of that wealth than the individual. It is reflective of the (imo, bad) idea that the government 'lets' us keep our money or that tax cuts are 'government spending. It is a wholly erroneous way to view money. In fact, it undercuts the whole idea of private property.

The slippery slope is usually an important metaphor because it identifies the application of a ineffective (or very narrowly effective) treatment based on flawed principle that has terrible implications if applied generally. Usually the only reason the slippery idea isn't applied more generally is because of the mere personal preference of the governing, which is really no restriction at all, and exacerbates the potential for cronyism. So why exacerbate the effect of the progressive tax code or government's ability to dictate how companies spend their money by going further down those roads?

Also, CEO pay doesn't seem to be hurting returns, generally. From 1930 to 1975 the sp500 returned 5%, annualzied. From 1975 to present, it returned 7%. Would you rather own the sp500 over the last 40 years, or the Japanese NIKKEI, where they have lower CEO pay ratios. And what company has gone out of business because of executive compensation? If a company's results were so hampered CEO pay, it would be ripe for a private equity takeover, where one could easily reduce compensation, increase cashflow, and reintroduce to the market. It would be the lowest of low hanging fruit.

Also, highly paid CEO's tend to get replaced quickly if they don't perform relative to low paid CEO's. They're simply seen as more responsible for failure. They don't pay their money back, but they do get fired. US turnover of CEOs is much higher than in Japan.

The central issue is whether shareholders have enough power relative to the board to effect change. If you want to fix that, fix that. Other countries make it easier for shareholders to call for such votes, but a CEO pay cap is a distraction, in my opinion.

At the end of your post you appeal to Trump's authority on CEO pay, but he's only worth 8 billion. Why not look to others who are more successful, and would therefore have even more authority, like Charles Koch ;) ? (ie, I reject Trump's authority, and even Koch's, if either has bad ideas.)

I want to reiterate that I submit these points with the gentlest, kindest intentions. You are, and have been, a very gracious blog host.


Steven said...

Excellent post.

All functions of government need to be justified- that is, there should be a convincing argument that government can provide a better service/result in the case of things like healthcare or that it is in the public interest in cases like police and military. I have no problem with progressive taxation but the tax code should be simplified. Bureaucracy should be cut and legal systems simplified. Public accounting should be improved to do away with off balance sheet liabilities. Surveillance powers should be limited. Trial by a jury of ones peers needs to be assiduously maintained. The rule of law and property rights are important to the success of our civilisation; in some ways more important than simply the right to vote for our leaders, though I think the two go together. Its self-defeating to do away with important pillars of our civilisation in order to protect our civilisation...yes, we should protect it but that can be done if the political will and public support is there.

John Craig said...

3:47 Anon --
What you say is true -- America in the 19th century was basically a big libertarian experiment (with the notable exception of slavery). And yes, that does have a lot to do with why it grew so rapidly in strength. But don't overlook the other advantages it had, such as unlimited space and natural resources for its growing population (which prevented the rise of a landed gentry) and season both sides of it which meant it was less prone to attack by hostile neighbors.

The trend in the twentieth century was away from freedom, even away from intellectual freedom, as such concepts as "hate speech" were introduced. And government regulation became overbearing, and……America is going downhill. (We're also changing demographically, and that's not unrelated to the diminishment of intellectual freedom: anyone who says America should remain majority white to keep her national character is immediately condemned as racist.)

I've also made the case to other people that libertarianism does not equal anarchy, as some would have it. And yes, more government equals more cronyism. But even without government interference, cronyism is rampant, as I tried to explain in the post.

John Craig said...

B --
Thank your for that end note (though it wasn't necessary, opposing opinions are always welcome and posted here, even if they're not always treated graciously, your kind words to the contrary).

Yes, agreed, as i said in the post, CEO's are only ripping off the shareholders and the other employees, not society at large. But that doesn't change the fact that they are overpaid, or that they're essentially thieves, even if what they do is legal.

I certainly wouldn't make the statement about all rich people that none deserve their wealth. But with CEO's in particular, there's an awful lot of chicanery involved, and there is definitely a moral element to that. And the fact that corporate rates of growth in general have thrived despite the exorbitant pay doesn't change that. And the question remains, why has CEO pay gone up so much compared to average worker pay in the last 40 years?

I agree, shareholders should have more power. they seem to send out proxies regularly asking if the shareholders approve corporate pay packages, but my feeling about that has always been, he who counts the votes controls the outcome, and the accounting firms know who hires them.

I wasn't suggesting that Trump is right because he's so rich, merely that he's knowledgeable because he's had firsthand experience with it. You can find plenty of billionaires on both sides of the aisle, and I agree, their opinions are not worth anymore than anyone else's.

John Craig said...

Steven --
Thank you.i agree on most of those things. (If by "balance sheet liabilities" you mean government debt, then yes, I agree with you on that too.)

One thing I don't agree on is surveillance powers. virtually everyone I know who's on my side of the fence on most issues this blog deals with disagrees with me -- and agrees with you -- on that issue. But in this age of terrorism, it simply doesn't bother me that much that someone somewhere is snooping on my emails. I'd rather have them do that, and thwart terrorist attacks (which they have done plenty ofttimes since 9/11) than have a bit more privacy and have more terrorist attacks. My basic feeling is, I'm not doing anything wrong, so why should I care? if some government snoop somewhere finds out that I've said something naughty to a friend via email, I honestly don't give a hoot. (I say plenty that's "naughty" on this blog anyway.)

It's the same as with the TSA. Setting aside how notoriously inefficient they are for the moment, I'd far prefer to have my shoes x-rayed and my bags checked and go through a body scan than have to worry about the plane blowing up mid-flight.

jova said...

I agree with your analysis....but not sure if there is an easy solution. The government is also being run by a lot of sociopaths and I would rather they not get the extra revenue to expand government intrusion. The wealthy always seem to figure out how to avoid paying higher taxes by paying millions to lawyers and CPAs , it seems the politicians create these loopholes for a reason, the wealthy give them the most money and often give their family members jobs etc...

it is appealing to have a higher tax rate for those earning over $5 million per year, and a higher capital gains tax on gains exceeding $10 million, and using the extra revenue to reduce the taxes on those earning under $500,00.

another option is a tax on wealth exceeding $1 billion, although the Wealthy will find ways around it, like they did with the death tax. Most multimillionaires figure a way not to pay estate taxes. Only about 400 Americans are Billionaires and a Wealth tax of 0.5% would generate about $12 billion dollars each year, and cost Warren Buffet about $225 million each year.

John Craig said...

Jova --
Good to hear from you. You've just made a great case for simplifying the tax code, though whether there's the will to do that is highly doubtful, partly for the reasons you mention.

I'd start the higher rates at $1 million a year, and then have a different rate for 2, 5, and 10 million. If you were to institute a wealth tax, a lot of people would say that that's a slippery slope, and before e you know it you'll be taxing all wealth above a million dollars. That doesn't have to be the case, of course, but that's what people will say.

Steven said...

I guess I agree that in these circumstances surveillance powers are practical but they are not ideal; they are not in principle what you would want. And in a society with no reasonable expectation of terrorism (this depends partly on demographics), they would not be needed.

'Off balance sheet liabilities'. I'm talking about things like social security and Medicare.

For one thing, the (future) costs of an ageing population should be made more clear so we can talk about how to handle it. Incidentally, I think this is one of the reasons European governments like that of Germany are so keen on immigration.

John Craig said...

Steven --
Yes, surveillance is not ideal; but we don't live in ideal times.

Ah, Social security and Medicare, yes, I should have known that. Agreed.

Anonymous said...

Here's a story of one company, and the married couple that bought it who are making a killing off it.

this company was founded by intelligent men from MIT - who developed lots of innovative product, sold it at a fair price, and treated their workforce well. they were caring compassionate men who, rightfully, got a dedicated workforce willing to sacrifice for them. The last of the founders aged and sold the business to this married couple: a woman from China and a man from India. Here's what happened:

- immediately cut salaries and benefits across the board (drastically)
- either fired or drove off most of the long term employees
- started a satellite business in Central America and outsource all manufacturing possible
- put the company in the Chinese women's name, making minority and women owned. This company does a lot of business with the government (military, space, etc.). Jack prices 500% of more over several years (while headcount declines, and overhead drops). The government doesn't care: dollars to minority / women ownership look good to the government - go ahead and rip them off.
- exploit sole source on products to certain industries where there is extremely high (essentially infinite) barrier to entry; increase prices there by 1000%.
- Adopt the most employee unfriendly, but corporate winner, policies allowed by law.
- Preferentially hire foreign born minorities. The company is ~40% foreign born worker now - in a state that is more than 90% white. (of course if white ownership did this they'd be dragged to court and destroyed there).

I could go on (and on and on).

Questions: do the owners of this company deserve the wealth they've generated? Is this a positive or negative outcome for the USA?

I am so tired of hearing that despite all the obvious, glaring problems in the US - that the US is still better than almost anywhere else in the world. The US is a mess, and the government, politicians and the laws they make are the root cause of it all.

The solutions are pretty obvious. But we can rest assured they will never happen.

- Ed

Anonymous said...


It seems that the company you mention is being favored by the government. This is the type of market distortion that progressive policy creates. It was intended to benefit a seemingly disadvantaged group, but ended up reducing total economic utility. The government's preference for minority owned companies is eliminating competitors that could offer lower priced substitutes and better remuneration for their employees.

Treating employees badly isn't an automatic winning strategy. Many companies bet on employee retention as a way to raise return to shareholders. In this case, there would be an opening for a competitor to hire away talent. The company can survive on past innovations for a while-- but if they lose their talent, they limit their long term competitiveness and go out of business. Although their government contracts make it take a lot longer than otherwise.

Whether or not the couple deserves their money, they do if they bought the company legally and freely negotiated their contracts. Every employee is working there by choice. In the tech industry it is unlikely that employees only have one option for employment. They can leave for better offers.

If the previous owners had patents, or other barriers to entry, and weren't charging high enough prices to begin with, that was their mistake. They could've rewarded their shareholders and employees even more and sold the company for a higher price.

The couple doesn't deserve their money to the extent that the government is rewarding their role in a political game.

Whether or not it's good for the US is difficult to answer. The business owners are just responding the competitive environment they live in. I believe that their decisions are more influenced by the presence of bad policy than by the absence of good policy.


Anonymous said...

"B" -

I agree with much of what you wrote.

One point you made that seems logical is the threat of losing talent. But its not as big a factor as you might think in the current environment.

This company does suffer from an extremely high turnover. In a recent year the number of employees who left the company (either through termination or resignation) was slightly greater than the total head count. And product quality and on-time delivery have taken hits at times. But overall its water off a duck's back - they lose very little business.

I started working the the 1980's and it was a different world back then. Employers had to compete for employees, and that kept things in balance. The tables have turned now and employers know that there are plenty desperate unemployed (or under-employed) just waiting to take the place of a dissatisfied employee. There are many intelligent, highly skilled workers sitting on the sidelines. Along the same lines, due to the weak economy, the opportunity for current employees to flee is limited.

Business models are now based on documenting job positions in complete detail so that the next new hire can be plunked down, read the instructions, and get to work.

I suppose you can credit the owners of this company for recognizing they are the sole source to a deep pocket customer (utility), and that the practical reality is that the industry is not going to make the investment to bring another vendor up to speed. But ultimately every utility customer foots the bill for that price gouging.

My questions above were rhetorical. In my opinion this is an ugly story and the owners of this company, and the laws that enable them, are despicable.

- Ed