DEMANDS for government intervention to limit executive pay are misguided. As the WPP vote against Sir Martin Sorrell’s pay and other AGMs this spring showed, shareholders can act – corporate governance is their responsibility. The only way that governments can improve corporate governance is by removing obstacles to shareholder action.
Government regulation of corporate governance is not justified by envy or inequality, or by gaps between aggregated remuneration levels and averaged share performance. When unequal payouts reward unequal contributions, they are not an indication of unfairness or market failure. Similarly, reciprocal back-scratching, upward ratcheting of pay, and the capture by executives of remuneration consultancies, are not necessary features of market operations. They can be corrected by free market mechanisms. It is the shareholders’ responsibility to insist that rewards fairly reflect the corporate objective.
The High Pay Commission, an inquiry set up to look at executive remuneration, concluded that high pay is corrosive and unfair. But the purpose of corporations is not to promote an egalitarian society. Corporations aren’t creatures of the state, there to serve official social ends. They are the private property of their shareholders, and serve the ends designated by their owners.
Corporate governance refers to ways of ensuring that corporate actions, agents and assets are directed at the constitutional objectives of the corporation, set by the shareholders. It should be up to the shareholders to determine the rights, responsibilities and remuneration of all their corporate agents, and to specify the kinds of accountability they require. Given the varied history, size, activity, jurisdiction and shareholder composition of corporations, one size will emphatically not fit all.
Regulation is counterproductive. It is inflexible and imposes substantial costs, both in funds and freedoms: even disclosure is not costless. The High Pay Commission programme would increase intervention, impede corporate governance, and damage business. In demanding detailed disclosure, greater diversity, inexperienced directors, claw-back provisions, and binding votes, the High Pay Commission’s suggestions would further constrain shareholders from governing their corporations in their own ways.
The government needs to reduce obstacles to free markets and genuine owner control. Free markets elicit innovative solutions to problems as they arise, in all their real-life variety; they effectively test those solutions and disseminate best practice. In a genuine market for corporate control, companies would compete for shareholders, and investment managers would compete for funds, partly on the degree and kinds of accountability they offered to owners and investors. The best way to ensure good corporate governance would be to maximise shareholders’ freedom to govern their own corporations in their own ways.
Dr Elaine Sternberg is author of Mind Your Business, published today by the Adam Smith Institute.