Some connected capstone thoughts about various debates on the AIG bonuses and related matters:
1. It’s fair to say that I’ve been a bit flip about the continuing market value of expertise within AIG and related businesses which have received TARP funds (or, in fact, those which have not). Nevertheless, I think some pretty harsh skepticism is important, and I’m still fairly gobsmacked at the degree to which some writers take it at face value that it is vitally important to have highly experienced personnel working at AIG-F.P. and other similar enterprises and to compensate them at very high levels accordingly. Or the degree to which they trust the assurances of people inside those businesses that they possess that kind of expertise.
If there’s one thing we all can see about this crisis, it’s that people with this allegedly vital expertise are the ones who made catastrophic mistakes in the first place.
Over at Megan McArdle’s blog, one commenter objected to my devaluing of expert knowledge in AIG-F.P. by saying that it’s crucial to continue to employ people who know the value of the assets involved.
Problem: the people who are employed there didn’t know the value of the assets they were dealing with before all this happened. That’s why we’re in this mess. Even if they didn’t directly work with credit-default swaps, a lot of experts in those businesses didn’t seem any more alert to or knowledgeable about the true character of those investments before the house of cards collapsed.
When experts get things this wrong, I need to hear more from them than “I wasn’t involved” in order to believe that their expertise remains indispensible. The analogy I made at Megan’s blog was to many high-level experts in the politics and economics of the Soviet Union during the 1970s and 1980s. Very few of them, looking back, seem to have noticed or understood the dynamics that led to the eventual collapse of the Eastern Bloc and the Soviet state, even right up to beginning of those events. I can understand that. That lack of understanding didn’t seem to humble a lot of those experts, or make them rethink their general practices or methodology. I went to a conference on ethnic identity in the early 1990s where several prominent former Sovietologists were key speakers, having moved into this new field to become important prognosticators and policy advisors. They seemed to me to be just as wrong in some disastrous ways about this new field of expertise, but more importantly, not a single one seemed to have given up an ounce of the hubris with which they had previously applied to knowledge about the USSR.
So far what I see mostly among financial experts is, “Some other expert got it wrong, my knowledge is intact” or “markets just do this kind of thing every once in a while, funny old world ain’t it” or “actually I was right about everything, it’s just that the unwashed masses did a bunch of stupid things that I never thought they’d do and screwed up all my really quite correct analysis”. So I think some skepticism about the high market value of that kind of expertise remains legitimate.
This is not a skepticism that I apply only to financial expertise. Long-time readers of this blog know it’s something I worry about constantly within my own professional world.
2. I feel like there is an asymmetry in public discussions about how and when we feel obligated to think about the interactions between systems, agency and individual responsibility. I’d like to think that I care about those interactions all the time. I would certainly like to care about them all the time. However, I know I have cases where I’m more inclined to maximize individual culpability for actions and cases where I’m more inclined to stress systematic or institutional causality.
I think there are reasons why I have those inclinations. For example, I think the more social or economic power you have as an individual, the more culpable you are for how you use it. (Consider this the Spider-Man theory of society.) Because I know I have this bias, I also agree that it’s important to look at the institutional, systematic and habitual worlds around the powerful. I’ve long argued that this is one of the problems with cultural studies, cultural anthropology and social history. Those fields often act as if the social and institutional contexts of power are already well-understood or known simply because the powerful often represent themselves so forcefully through documents, texts and other expressive culture. If you’re interested in the ethnography of everyday life in a small farming village in southern Africa, you should be just as interested in forging an ethnographic understanding of neoliberal development experts in Washington DC or in the upper reaches of postcolonial bureaucracies, and in both cases, treat the subject as something that you don’t know about in advance of doing ethnographic work. (There are practical problems in studying the powerful in this way, but that’s a different problem.)
However, to flip this around, I find it disconcerting when commenters argue that we have to sensitively appreciate the systematic and institutional pressures operating within the world of someone like Jake DeSantis and then proceed to argue that underwater mortgages are very simply understood as the collective stupidity of greedy or ignorant people for which they are entirely culpable.
Conservative and libertarian writers often sneer that liberals are too obsessed with social explanations for behavior that privilege underlying or structural preconditions, but I haven’t noticed that they’re any less inclined to those explanations when they’re well-suited to their ideological priors.
3. Building off my second point, I guess I’m struck by the way the discussions of the AIG bonuses tends to reveal one’s predispositions of sympathy and trust. While a lot of loosely libertarian writers tend to believe in the wisdom of crowds as a general construct, some of them tend to view the wealthy with a tautological reasoning that if you’re wealthy, you must have done something right, and ergo, your representations about what you did right (or what you didn’t do wrong) are trustworthy until proven otherwise. If you’re just an ordinary schlub earning an average salary, that makes your representations of why you’re in the situation that you’re in somewhat untrustworthy: you must have done something wrong at some point.
It’s a kind of Calvinist libertarianism: you don’t have to prove that your work has produced wealth because you’re talented; if you’re wealthy, you must have been so. The elect know they’re going to heaven because they’re the elect: what they do in life matters not so much.
I really do think that some people get ahead in the world because of talent, insight, drive, skill and so on. And if I can be really simplistic for a moment, I think in an ideal world that’s the way it should be. But clearly also there are people earning a great deal who are in that situation because of dumb luck or pedigree or because their industry has locked in structural advantages that overflow their coffers with so much cash that they can’t help but dole it out in buckets to every employee. Or because they’ve effectively stolen those earnings from other people through legal, institutional, economic or social chicanery.
I’m not saying that there should be some great redistributionist crusade until we’ve limited wealth to the “deserving rich”. All complex social systems generate parasitic as well as constructive niches. I am saying that we shouldn’t just trust that everyone who is earning $750,000 after taxes did work or contributed expertise that has that actual value to a free-market economy. You could call that the Catholic branch of libertarian or free-market thought: not only prove that you are indeed doing good (value-creating) deeds in the world, but be anxiously humble and vaguely guilt-ridden about whether your proof is adequate to that challenge, be concerned about your sins and shortcomings. This is why a lot of the talk about “going Galt” and other extreme Randian flavors of libertarianism seems so utterly silly to me: the people who talk that way come off as so utterly certain of their own membership in the elect, their own superiority. If they’re not rich yet, they’re sure that’s because society or government is keeping them down.
4. Just an observation from studying games. Players may accept and tolerate a rule that puts them at a disadvantage as long as they think that adapting to that rule is possible and open in theory to any player. However, there is nothing more likely to absolutely enrage the players in a game than a late change in the rules engineered by a player who previously benefitted from the earlier ruleset but is now being harmed by it. This is especially true if it’s felt that the earlier beneficiaries were cheating, or something close to it.
I think as far as risk and consequence in free-market economies go, this is precisely what’s happening right now. This is why I do think it’s absolutely right to be infuriated by post-bailout compensation at TARP-receipient companies even if it’s not right to come up with complicated clawback mechanisms. In this sense, there is nothing minor about the way in which the players who took the biggest risks now want to change the rules so that people who avoided risks get stuck with the consequences.
In short, for anyone who wants financial capitalism to continue to exist in some form similar to what is has been, this is an important moment to lose this round of the game by the rules that you previously argued legitimated your victories. If the reason why you were entitled to huge gains in the last twenty years was because you took the big risks, now’s the time to accept that the pain coming your way should be exactly proportionate to the gains of the past.
If you want a very real-life example, the computer game Diablo 2 was a wildly popular multiplayer game when it first came out. The game’s creator, Blizzard, was indifferent to the proliferation of cheating and exploitative behavior. The result: eventually people either cheated or left. Many people chose the latter. This left the cheaters with each other, and an ecosystem that is all wolves, no sheep, tends to dwindle down to a small number of permanently famished wolves. (This is one reason Blizzard is now so intensely vigilant about cheats and exploits in their current flagship product, World of Warcraft.)
5. I think we’re all afflicted with some really messy, unresolved views of the moral and rational meaning of contract, obligation and negotiation.
There was a story a while back about a University of Florida professor who has a 1/1 teaching load with some administrative responsibilities who was fighting pressure from her administration to teach an additional course because she was hired with an explicit contractual agreement that her teaching load would be 1/1. I suspect that most of the people who rained down outrage upon her and called upon the university to break that contract by whatever means necessary might be the same people arguing that AIG and the federal government have to make good on their contract to Jake DeSantis and pay what they agreed to pay. The reverse is probably equally true, however.
In both cases, some of those who argued that contract is legally sacrosanct also agreed that the contract in question was unwise, foolish or morally reprehensible. I think that’s actually a fine combination of arguments: that contracts should stand, but that we can continue to talk about how unwise or problematic they are, perhaps in order to discourage such contracts in the future. What makes a contract unwise or immoral, however, tends to be something that most of us tend to have contradictory thoughts about.
In any case, where this gets even messier is when we come to believe that the consequences of an existing contract are so disastrous or unwise that efforts should be made to convince the parties to such a contract to renegotiate its terms. I actually felt that the University of Florida professor in question should really step back and think about the harm that her contract does her own institution and her larger profession, and that this should condition a willingness to add an additional course. But for the same reason, I’d say it’s perfectly legitimate to argue strenuously to AIG-F.P.’s remaining staff who are owed large retention bonuses that accepting those bonuses not only harms their own company but the society as a whole. Making those arguments strongly while staying clear of any implied threat to compel parties to contract to do the right thing is clearly a tricky business.
Tim,
Two points.
First, a piece of this that gets lost in the shuffle is that the expertise of the AIG execs isn’t all that hard to come by. You could train up a whole lot of unemployed history PHDs in 3 months to do the work of these executives, maybe less. The difference between the PhDs and the AIG execs is the PhDs often didn’t want to work in an office culture that valued lots of hours in office, corporate drinking/socializing, conspicuious consumption. The PhDs I know who jumped into the corporate world have been successful, but surprised at how many “work hours” you have to put in, even if you finish your work. The corporate world tends to overvalue time (from their perspective) in the pursuit of profits. Many of these contracts weren’t time sensitive but the need to “get them done now” (as if they were futures coming due) seemed to create importance and value that they didn’t really have. Working long hours seemed to validate obscene salary structures, and obscene salaries seemed to necessitate ever longer hours. The knowledge base to do this work isn’t hard, . But few people want to work those hours. But, working all those hours were probably hurt long term decision making and seemed to justify outrageous risks.
Second,
The sub-prime mortgage crisis was fueled by a similar phenomenon that happened with junk bonds. Analysts noted that sub-prime mortgages tended to default less than they should according to the models. People like me and my wife were able to buy houses with liars’ loans (or more pleasantly – no docs) and the refinance after we developed a stable work history. There were certain populations who could pull this off, folks just finishing med school, or people who had some family money or an inheritance and were just starting their working lives,. recent immigrants who had a fair amount of cash on hand but no credit histories and so on. Rather than figuring out what factors made some sub-prime loans pay off when others didn’t, the modelers figured that wider implementation of liars loans would carry over with the same results. This is similar to what happened when people started intentionally issuing junk bonds on the theory that junk bonds tended to pay off as investments (but those were unintentionally junk). In both cases a tendency was picked up and acted on as if that tendency would continue to apply even if the circumstances that produced it changed. This seems a basic mistake that Wall Street makes over and over.
for Western Dave:
The basic mistake wall steet makes over and over is taking more from the past than is warranted for predicting the future. As a result, rarely are the same sins repeated twice, but also, the ability for all parties to admit what they know about the future is limited to the factors they looked at.
In your example, you bring up a lot of good data points on factors you would look for Alt-A and subprime mortgages. The real answer was a single factor – US housing prices have never gone down nationwide, since the Great Depression. As a mortgage lendor in California in 2004, you really didn’t care if the borrower paid you back or not – house price appreciation more than covered your foreclosure costs. California, Florida, Nevada and Arizona had strong immigration further driving above national-average price appreciation for +20 years.
So in 2004-2006, what were the chances that housing prices would go done by more than 10% nationwide in the next 3 years? 1:500? Or California, Nevada, Arizona, and FLorida would be down +30%? 1:300?That is what AIG was charging for some sub-prime insurance protection.
If you want the big bet for the next 20 years, focus on commodities. After going down for almost 20 years, prices increased dramatically, peaking with what looks like a bubble in oil last year. Oil is at 50 – what are the chances it breaks 200 in the next 3 years? We can come back here in 3 years, and with hindsight, will know what factors of course led to its price of 75 WCU (world currency units, which replaced the dollar in 2011). The “just so” arguments that Tim rails against are quite often the basis of all investment decisions, whether swarthmore’s endowment, public pension plans, or folks saving for college tuition.
To your fifth point about contracts, I think that at some point even legally valid contracts should not be honored, if the service provided or obligation incurred by rither party is ethicly unjustifiable. This is not to say that the AIG “retention bonuses” are an example of ethicly unjustifiable contract that should be voided.
I agree that the tax response from congress not the correct one. The legislature is trying to correct its mistake of not requiring control of AIG in return for assistance in saving AIG from bankruptcy proceedings with another mistake. Much blame lands on the legislature in regard to “retention bonus” issue.
Reading DeSantis’s letter, I thought I caught a whiff of something else. I might need to reread it more closely, but here it is: a feeling that there was something radically wrong about the political (in the narrow sense of Washington party-political and talk-show posturing) nature of what was happening to him.
A wildly speculative working hypothesis: bonuses, for people like DeSantis, are a crucial component of self-worth. It’s not just, or primarily, about the money as such- that’s what the gesture of donating it to charity indicates. So what this feels like is an illegitimate and radical invasion by the (narrowly) political that violates the integrity of the self.
I’m not offering that as a justification. Obviously, the old rules got thrown out the moment the government bailed AIG out. But I’m interested in, descriptively, getting at what exactly is going on in the divergent emotional responses to this letter.
I’ll read all of this in a bit, but want to make sure you don’t miss out on Matt Taibi’s response, which is here. Atrios, Hilzoy and LG&M have all quoted the choicest bit (the paragraph with “Boo-Fucking-Hoo”) but the rest is quite good, as Taibi usually is.
So, the consensus here seems to be, that, given the chance to run AIG, you would
1.) deny the people who’ve been working there for the last year what is in effect if not in letter deferred pay;
2.) swiftly replace these people by workers who are cheaper and less qualified, and
3.) base this decision on your confidence (not your experience, for you have none) that you can train the replacements in a few months to work at executive level.
Setting aside the question whether you have the skills to run a financial company: What exactly is it that makes you morally more competent that the guys who ran AIG into the ground in the first place?
Bad:
Part of the point here is to ask why those three points do not apply in this particular case when they’re close to the standard operating practice of most U.S. companies over the last twenty years: restrict or revoke expensive obligations when your company desperately needs to operate on a leaner basis; replace people who are cheaper if less qualified if the difference to the end product is negligible; don’t worry too much about the loss of human capital in more senior ranks if that loss saves you big money on the bottom line.
We’ve heard repeated defenses of this kind of approach in industry after industry. So suddenly we’re being told that AIG-FP is a special case. At the very least, I think that requires some special justification. At the most, I think it ought to occasion some regretful reconsideration of the norms of corporate management over the last two decades or so.
Timothy:
given the massive commitment entered recently by you the taxpayer with much less consideration, I doubt that AIG currently is a case of a company desperately needing to operate on a leaner basis. Liquidity of the company is not an issue, and neither is your ability to pay. You the taxpayer simply don’t want to make these payments.
Apart from that: What’s different about the AIG-FP case is that you are the boss. What’s also different is that you are the boss because you bought the shop. If one of your untested plans blows up in your face — say, if one of your graduates turned financial executives enters a trade that takes the company even deeper into the red because they had no idea the market could turn against them six months from now — you can’t simply step down and resurface as chairman as some board or other. You’ll still be stuck with the thing.
As an executive, you currently don’t really have a lot going for you. You came into ownership without much knowledge how the company works, and your continued talk of cheap graduate labor makes me think that you don’t even know how much you don’t know. This is not really your fault, but if you want to be taken seriously as owner-manager, you must bring at least something besides your money to the table.
But in the present discussion, I don’t see much difference between you and the outgoing management team of Corporate America. They came in firing people and implementing unproven methods and now you are proposing the same, only you know even less about the business you’ve taken over.
In other words, you need to come up with better ideas than the gentlemen who ran Corporate America since 1980. If you cannot do this, you need to hire someone. And if you’re wise you don’t skimp on their pay.