Pearlstein: Carrots-and-sticks approach for Wall Street isn't working

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Steven Pearlstein
Washington Post Columnist
Wednesday, March 10, 2010; 11:00 AM

Washington Post business columnist Steven Pearlstein was online Wednesday, March 10 at 11:00 a.m. ET to discuss Daniel H. Pink's new book, "Drive," which says that a carrot-and-stick approach does little to elicit strong job performance or job satisfaction. In his Wednesday column, Pearlstein examines this notion and how it relates to the big bonuses given to Wall Street-types that have been the source of so much controversy after the bailout.

Read today's column: News flash to Wall Street: Money isn't everything.

Pearlstein won a Pulitzer Prize in 2008 and is co-moderator of the On Leadership discussion site.

A transcript follows.

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Laurel, Md.: In many fields of endeavor, the satisfaction at having made the world a better place by doing a good job can be a primary motivator. But one of the reasons (I've read) that attorneys have the lowest job satisfaction among similar professions is that they don't feel they're necessarily doing the right thing.

If your job is just, right or wrong, to make money for your company, are there any other psychological rewards that matter?

Steven Pearlstein: It's important to remember that people take satisfaction from doing a good job at what they do no matter what the activity, and that a "higher purpose" can be something as simple as providing people with good, healthy food or hauling away trash so that an alley remains clean and neat, or bulding a house that will be somebody's home. I take a lot of satisfaction, for example, in maintaining a relationship with readers who enjoy and respect my writing. And lawyers can take lots of satisfaction in helping people and businesses think through and work through problems, or helping them win cases they deserve to win. Obviously, when lawyers have to defend people who's cause is not just, that's not as satisfying, even though it is just as renumerative, and over time I suspect that really does undermine job satisfaction. Older lawyers these days are not a happy bunch, I find.

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Freising, Germany: In the past, I've read that the high Wall Street bonuses were a result of firms having to pay a competitive premium for the best people; paying them more than the competition next door.

I'm reminded of the concept of university education where certain colleges attract the brightest students and hence have the best output after graduation, even if the lecturers and professors are teaching duds compared to those at smaller, unknown colleges.

In other words, if you put quality into the meat grinder, you're likely to have quality as a product.

But the controlled experiments that Pink cites, where those who were not offered the monetary reward performed better, on average, than those who were, are interesting. Perhaps the results have something to do with how the test subjects were chosen.

Steven Pearlstein: You are right to point out that much of the increase in pay on Wall Street is the result of an arms race among firms to attract and retain the "best" talent. It sounds logical, but in fact the race is stupid, because they really aren't chasing after the best talent, just the talent that had the best results last year. So they are paying a lot more to attract people who are, at best, only marginally superior to other potential hires. This faulty analysis leads them to overpay.

This is a common feature in any industry in which relative position is more important than absolute results. It's why people overpay for Ivy League educations, and the best doctors, and the "best" investment banks. It's a hard cycle to break because its seemingly rational behavior based on a fundamentally flawed premise.

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Aitkin, Minn.: Where does all the money come from to give all these bonuses? Doesn't it mean someone is getting ripped off?

Steven Pearlstein: Yes, in a word. The original sin here is that much of the financial industry earns above-average profits -- rents, in the economic jargon--because the industry is imperfectly competitive. And the reason it is imperfectly competitive is because entry is difficult. Entry is difficult because most big investors and corporations don't want to risk dealing with second-tier firms -- its the old syndrome of IT managers playing it safe by buying IBM. So competition is limited to a handful of top tier investment banks and hedge funds that are smart enough to compete against each other in every way other than price. It's called an oligopoly, and what we observe is oligopoly pricing which generates oligopoly profits, which are only slightly below monopoly prices and monopoly profits. Once earned, its not hard to understand why the people who run these firms find ways to keep those above-average profits for themselves and their colleagues rather than distribute them to shareholders, whom they hold in contempt.

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Greece and CDS: Steven,

we read much about speculators using CDS in connection with Greek debt. Who wrote this "insurance" in the first place? Is there another AIG out there recklessly entering into contracts with other market participants? If not, then how are these speculators planning on getting paid? Who are the counter-parties?

Steven Pearlstein: The insurance is written by -- well, we don't know, do we, since this is a totally unregulated market. I presume it is mostly hedge funds, along with some investment banks. I think you want to distiguish two sets of people. One set is someone who owns a Greek bond and wants to hedge, and finds somebody to take the other side of that bet. The counterparty there you might call a speculator -- I prefer to use the term insurer, and seek to make sure that insurer is properly regulated and has sufficient reserves. Now there is a second set of people, those who want to bet that Greek bonds will not default and those who want to bet that they will, neither of whom owns a bond but both of whom want to gamble. And they can enter into exactly the same type of arrangement, which is called a "naked" swap. And that, it seems to me, serves no useful economic or social purpose and may, indeed, have a negative affect on the "real" market for Greek bonds. That's where the Germans and others are looking to put restrictions.

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East Brunswick, N.J.: Hello: Nice article. The conclusion you write regarding Pink's thesis of the most powerful emotional motivators being desire for autonomy, the satisfaction that comes from mastering a skill or a task, and the need to serve some larger social purpose is something I believe many people now feel at the conscious and unconscious level. Of the latter, they may not know it, it's that nagging "there's got to be more to life" or "what's it all about" sensation.

From a larger perspective, it is a sign of the final "evolution" of the capitalist system that Marcuse foretold when the capitalist society "advances" beyond the consumer levels and the populace realizes that the real needs of our lives - the things Pink appears to be talking about - (I haven't read the book) can no longer be bought and sold, or are available from consumer society. At that point, we are ready for the next wave, a positive one I hope.

What are your thoughts?

Steven Pearlstein: I'm a bit disappointed, I guess, that so little seems to have been learned from the two decades of crises, in terms of how businesses are managed and how income is distributed. The forces in support of the status quo have proven to be very strong, and I think its going to take some sort of mini-revolution in American politics and thinking and culture to defeat them. The irony is that the people supporting the anti-government, anti-regulatory conservatives are the biggest losers from the status quo, but they are so wedded to their ideology they can't see it.

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Las Vegas, Nev.: Yes, the book has a lot of thoughts about motivation, but still promotes the idea that the great majority of employees respond similarly. The best motivator is still the person who gets to know the individual and figures out their unique interests and desires in the workplace. Even though the author has been discredited, the leader who practices "Management by Walking Around" will succeed more often than not. That leader not only finds out about what's actually happening but also learns about individuals. It's much like teaching -- every worker/student is an individual with their own interests and agenda. One size really doesn't fit all.

Steven Pearlstein: Thanks for that observation.

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Washington, D.C.: Hello, Steve Pearlstein - I think this "intrinsic incentive" concept also applies to education. What about you?

Specifically, Obama's Race to the Top plan includes carrot-stick incentives for teachers (e.g., merit pay, based to some extent on student achievement). Teachers themselves, in a recent Gates-Scholastic study, said they did not want. Instead, teachers are looking for support from their administration and more collaboration among teachers - that is, intrinsic incentives.

Steven Pearlstein: I asked Dan Pink about that yesterday but couldn't find a way to work it into the piece. He says he used to believe in merit pay for teachers but no longer does. One big reason is that it's hard to come up with a metric to measure performance. Just using test scores results in turning schools into test preparation machines, which in fact encourages just the kind of narrow thinking that isn't really prized in the new economy. He'd prefer paying all teachers more but then making it much easier to fire the 15 percent that underperform, using a whole set of objective and subjective criteria. And indeed I think that is where the politics is going as well, as evidence by some recent proposals out of the American Federation of Teachers.

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Laurel, Md.: Steven, As always, a thought provoking column.

You mention something in the last paragraph that addressed something I thought of throughout the piece, the addiction comment. The best boss I ever had taught me the smartest thing any organization could do is to incentivize the behavior you want; unfortunately, few ever do.

By providing increasingly large, solely financial bonuses, Wall Street ensures they retain people who care only about money. This is evident from the lack of social responsibility they show even today, after bringing the greater economy to its knees and needing to be bailed out by those they derided.

I don't suppose there's any way to avoid this by statute, but can you think of a way to get them to change this mindset? (It will be hard, because those at the top of the pyramid got there by thinking "money first.")

Steven Pearlstein: I don't think the answer to this is a lot of direct regulation of pay. But there are indirect things we can do. One, of course, is to attack the root cause and make sure that there is more price competition in the industry. Another is to put some rules on investment intermediaries -- the pension funds primarily -- so that they don't overpay for financial services with OUR money. And then I think we need to work informally on a cultural change, which means social ostracization of Wall Street types and withholding donations to business schools that send their graduates to Wall Street and blackballing Wall Street people for government jobs and membership in social clubs and stuff, and discouraging our children from even thinking about working on Wall Street. That, in the end, is the only thing that will eventually get to them, the idea that they are viewed as social pariahs. They actually care a lot about that, which is why they are so active in charitable stuff. They're not bad people, they just are trapped in a bad system that they themselves refuse to reform.

One final thing: we could tax them more, and we should.

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Reston, Va.: Traditionally, conservatives have valued commercial success: eg. big bonuses were probably deserved for valuable services, skills and insights, don't punish success, etc. I understand much of the Tea Party ire stems from the fact that the government bailed out failing corporations, but there does seem to be a growing undercurrent of ire towards the rich (specifically rich bankers and CEO's who receive massive bonuses, but I think the list of "villains" is growing.) Do you think the anti-rich/big business attitude will last among some conservatives, or will it fade once we're past the current recovery?

Steven Pearlstein: I haven't seen much of the anger at big business and Wall Street coming from the conservative populist crowd. They occassionally talk a good game about opposing bailouts, but then when it comes to actually doing something about that in terms of financial regulation, they're against it because they are blinded by their dislike and distrust of government.

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Mt. Lebanon, Pa.: Pink has written other books. Was there anything in his recent effort to convince you that it's all hopeless - Wall Street's a hopeless jungle where the greedy go to dine fat and explode?

Or perhaps, there's a way through the eye of the needle.

Betting on supernovae from the Hamptons..

Thanks much. HLB

Steven Pearlstein: No, I don't think anything is hopeless.

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New York: Having spent most of my adult working life in careers that don't pay all that well, I can tell you that what motivated me and those I worked with was the possibility of moving on to more challenging jobs and assignments. If the boss thought highly enough of you to trust you with a project that was important to the company, or to put you in charge of others, that was as desirable as the accompanying raise. I wouldn't have wanted the extra work without the raise, but nor would I have feel good about getting a raise simply for showing up every day and doing the status quo. I think this is the big difference between the person whose job is to manipulate money and the one whose job is to make a product or offer a service.

Steven Pearlstein: Good point.

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Washington, D.C.: "Entry is difficult because most big investors and corporations don't want to risk dealing with second-tier firms -- its the old syndrome of IT managers playing it safe by buying IBM."

Big law firms work the same way.

Steven Pearlstein: They do indeed, which is why they earn rents and can pay partners $1 million a year for doing not particularly difficult or stellar or socially useful work.

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East Brunswick, N.J.: Thank you for a wonderful, thoughtful and honest answer.

Steven Pearlstein: You're welcome.

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New York: If these big bonuses and pay packages were seen to be hurting the bottom line in some way, they'd be gone in a minute. But Wall St. is doing very well, and has never really accepted that its pay structure has been anything but a reasonable consequence of working in a highly profitable business. Compare that to the excessive salaries negotiated by major TV news anchors, whose companies are laying off workers by the dozens. It's all relative.

Steven Pearlstein: There are superstar salaries in a number of industries, including the top of the journalism industry. But on Wall Street, the excessive pay goes down much farther in the organization. There is a difference there.

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Washington, D.C.: It just occurred to me that this payment (well, -overpayment-) for basically doing not much or not much that might be considered "good" is just another form of the old welfare story. Experience has demonstrated, however, that welfare to corporations and their executive minions is acceptable.

There's a guy I know in NYC who's a "wealth manager" who angstfully yelled at me in 2008 right before the election: "Do you know how difficult it is to live on $500,000.00 a year????!!!!"

I asked him for the melody so I could sing along. I certainly know how to live on much, much less.

Steven Pearlstein: You know, living an upper middle class life in New York and the surrounding area probably does require $500,000 a year. The problem is not with people on Wall Street making $500,000, Its the fact that so many of them make $5 million or more.

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Prescott, Ariz.: I read this morning that Barney Frank is proposing televising the conference committee that will reconcile the differences between the House and Senate financial regulation bills, because he says it will put people (Republicans, fake Democrats) on record as preferring the more toothless regulations. Any chance this happens, given how much Republicans have flogged the "put the negotiations on CNN" horse lately?

Steven Pearlstein: Good for Barney. But, of course, there probably won't be a conference committee, as we normally understand that. They'll work it out behind closed doors or have to do some parliamentary two step because Senate Republicans will block appointment of conferees.

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Princeton, N.J.: I think it is an error to restrict to financial services. All business executives in all industries (with a very few exceptions) earn too much.

In 1946 - 73, CEOs earned about 50 times what the average worker in their company earned. It's about 500 times today. In that period the percentage of income going to the richest 1%, 0.1% or 0.01% was relatively constant. Since 1973 and especially since 1980, these figures have gone up at an ever increasing rate (except during the Clinton administration).

1946 - 1973 is characterized by marginal rates between 70% and 93%.

Steven Pearlstein: This isn't about CEO pay, which is a variation on this problem. Again, the problem of Wall Street pay goes very deep, to thousands and thousands of traders and investment bankers.

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The board's role in bonuses: Steven, isn't one of the biggest problems in bonus payouts the role (or lack thereof) of the company's board of directors? If the board failed to make the bonus payment, tried to limit it or failed to include one in the initial contract, doesn't that reflect a failure of performance by the executive, who was hired by the board? In other words, the best way for the board to prove their performance is to award big bonuses to executives, regardless of the actual performance of the people involved?

Steven Pearlstein: The boards are massively complicit. But they don't have the backbone, collectively, to do something about it. Boards are basically social clubs and nobody wants to be the skunk at the party by suggesting that their company break from the pack and do it differently and take the consequences. The board members are now paid so much they are essentially bribed to go along. And since shareholders have no power over boards, thanks to the US Chamber of Commerce and other defenders of the plutocracy, there is no check. The world of corporate directorships is a world of self-pertuating privilege in which people with different ideas are never, ever invited to participate.

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Bethesda, Md.: Steven; What can we as customer do to minimize contributing to the bonuses that the addicts of Wall Street are taling. For example, is opening an account with a community small bank a step towards it?

Steven Pearlstein: Yes, that is a small way to begin changing things. Don't deal with the big banks and urge your friends to do the same. As much as possible, just ignore the bastards. That's my view.

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Philadelphia, Pa.: I think I'm going to get "Drive" to help with child rearing as well. As much as I try, it's easy to slip to bribing kids to do stuff. Far better is to develop that intrinsic motivation to do the right thing.

Steven Pearlstein: Actually, Dan deals with that. He says it's wrong to pay kids, for example, to take out the garbage or do other chores. And wrong to use monetary if-then rewards in terms of school performance.

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East Brunswick, N.J.: I would submit to the comment from New York regarding Wall Street pay being a "reasonable consequence of working in a highly profitable business" that in the latest crisis, the system incentivized the very risk taking that would have brought the whole "highly profitable business" to complete collapse if the government hadn't stepped in.

My point is: the products, the risk taking, and the way those products were accounted for were all the structural pillars of the system.

Steven Pearlstein: Indeed.

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South Range, Wis.: Why is increased taxing of the bonuses given so little consideration? It is sad when the Goldman-Sachs bonus pool for one year could rebuild the entire infrastructure of quake-ravaged Haiti and still leave money left over.

Steven Pearlstein: I don't think you can have higher taxes on bonuses on Wall Street than bonuses on Main Street. But there are a lot of tax loopholes that Wall Street takes advantage of that can be closed. And we could, and should, impose a small transaction tax on every financial trade, as the Europeans have urged, to cut down on some of the more speculative short term trading.

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I don't think you can have higher taxes on bonuses on Wall Street than bonuses on Main Street.: But what is Main Street? If Bill McGuire of United Health Care could get $150,000,000 for 2006, and then get a golden handshake of $1,500,000,000 after being forced to retire because of financial malfeasance, doesn't that show we could use high taxes on all executives with outsized compensation?

Steven Pearlstein: You don't deal with this problem by taxing everyone with incomes over $1 million at 90 percent. Sorry. You deal with it by providing some oversight on bonuses by boards of directors who are subject to being thrown out by shareholders in open, fair elections. It's amazing that the US Chamber of Commerce considers this idea a socialist plot. But I guess since the Chamber is not a democratic organization itself, but one run by and for the senior staff, then it is just trying to spread its particular brand of oligarchy to the rest of the economy.

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Atlanta, Ga.: Despite all the hand-wringing about these bonuses, there are many professions where the compensation is completely out of whack with the employees' actual contribution to society (see our professional sports leagues). If we're so shocked by these salaries, why not establish an additional tax bracket for incredibly high salaries (say, more than $20 million a year)? Why should bankers take all the abuse?

Steven Pearlstein: Because when a Bill Gates earns $20 million, he has created lots of economic and social value and we certainly don't want to discourage that.

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I don't think you can have higher taxes on bonuses : Sure you can. Just call it a Windfall Profits Tax. As Monihan used to say: We tax it because that's where the money is.

Why insist on a foolish non-existent consistency?

The world runs on power and money. And a very, very few have far too much of both.

Steven Pearlstein: Just taxing bonuses in one industry is not a good idea. It may be we need to raise tax rates on top earners everywhere, or raise taxes on capital gains for everyone, or insist that ordinary income is not taxed at the lower caital gains rate for private equity wise guys -- all that is reasonable. But a special windfall profits tax on Wall Street is not the way to go. Sorry.

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Steven Pearlstein: That's it for today folks. "See" you next week.

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