Wednesday, October 14, 2009
Fair distribution of profits
A man finds a map on which a hidden treasure is marked. He'd like to lift that treasure, but the land on which the treasure is burried belongs to somebody else. Also our treasure hunter hasn't got a shovel, and he has a bad back and doesn't feel up to digging himself. So he gets several people together: Himself, the landowner, a guy lending the shovel, and a digger. The venture is a success, and they find a treasure chest with 1,000 old gold coins. How should these gold coins be fairly distributed between the 4 people involved?
Of course this is a trick question. The 4 people represent the 4 classic pillars of capitalism: enterprise, land, capital, and labor. And in several centuries of economics no one has come up yet with a system where everybody agrees that the distribution of profits from a venture is completely fair.
Furthermore there are some trends, and changes in what is generally accepted practice, so typical distributions change over centuries and are different between countries and industries. For example landowners used to get the biggest piece of the pie, centuries ago when agriculture was still the predominant business. After the industrialization, land became less and less important, and nowadays it is usually considered just part of the capital.
The smallest part of the pie usually goes to the workers, especially if they can easily be replaced. On the other hand workers sometimes do better than the other participants when times are bad. In our treasure hunt example the digger might well have gotten paid even if the treasure chest had proven to be empty.
But while what a fair distribution is remains disputed, a lot of people can spot extremely unfair distributions. The Wall Street Journal today posted an interesting table of payments to bankers compared to revenues. Translated to our treasure hunt, if the digger had worked for one of these banks, he would have received more than half of the gold found, on average, with in one extreme case the bonus payments being 4 times higher than revenues. Notice that this are revenues, not profits, we are talking here. The average S&P 500 company this year had half a million dollar of revenue per employee. I think it is safe to say that the average employee of an S&P 500 company didn't get paid $250,000 this year.
Now the argument of bankers is that they need these high bonus payments to attract the best talent. This first of all assumes that profits of banks are proportional to the talent of their employees, which is not undisputed. And then of course the big question is why the same would not be true for many other professions: People like surgeons or engineers certainly have good salaries, but way lower than bankers. Why would investing money need much more talent than a bypass operation or building a bridge?
But what really makes many people angry is that while bankers get so much more money than other employees, a lot of other people actually lost a lot of money to the banks. If you bought bank shares in early 2007, you probably lost most if not all of your investment. And then many banks got propped up with taxpayer money. That all looks like paying somebody else to play in a casino for you, with him keeping a good part of the winnings if he wins, and you still having to pay him a lot if he loses.
So while there is a lot to be said against the state dictating how much people should earn, I do think that both minimum wages and maximum wages have some justification as long as they aren't too restrictive, and are just designed to prevent the worst cases of excess.