The bank crisis has reignited a debate over executive pay in Germany. Public pressure and board oversight can curb excesses but rules on salary caps and bans on golden parachutes are less effective, say experts.
Germany is debating capping the salaries of its widely perceived overpaid bank executives
A heated debate in Germany about curbing executive pay and holding managers personally liable for huge losses at banks in the wake of the global financial turmoil came to a head this week with a number of German bankers being asked to return their bonuses.
The former chief executive of the bankrupt mortgage lender IKB now has to return last year’s 805,000 Euro remuneration to his ex-employer. Stefan Ortseifen was charged for making the private bank Germany’s first victim of the sub-prime crisis, according to the Thursday edition of Sueddeutsche Zeitung.
Four other top managers were also similarly charged, and one of them even voluntarily returned the 558,000 euros that IKB claimed he didn’t deserve, according to Germany's mass circulation Bild newpaper.
When IKB collapsed last year, heralding the arrival of the banking crisis from across the Atlantic, European leaders had already started calling for the heads of overpaid corporate bosses responsible for driving their companies into the ground. Now they’re taking action.
Golden parachutes and the Fat Cat Tax
In the next few months, France’s President Nicolas Sarkozy wants to enact legislation to ban such “golden parachutes” that guarantee generous severance payouts to parting executives who mismanage the companies they run.
Dutch finance minster wants "fat cat tax" on bountiful bonuses
Dutch Finance minister Wouter Bos, leader of the Dutch Labour Party, has proposed a draft law to impose a 30 percent “fat cat tax” increase on high bonuses and golden parachutes.
Earlier this week, German Chancellor Angela Merkel’s cabinet hammered out a deal to limit executive salaries to 500,000 Euros ($666,000) as part of a half-trillion Euro emergency bank bailout. Whether managers would have to forego bonuses and dividend payouts however is unclear.
German government sets salary caps
Experts agree with politicians on the need to rein in management excesses, but are divided over whether governments ought to be the ones setting caps on executive compensation.
Marcus Lutter, a law professor at the University of Bonn and a member of the German government’s commission on corporate governance, finds the cap “absolutely fine.”
“As long as these banks are indebted to the state and the German taxpayer is bearing the cost of their mistakes, there has to be this upper limit,” said Lutter.
IKB bankwas Germany's first victim of the sub-prime crisis
Putting a ceiling on executive pay is a political response to public pressure, according to Joachim Schwalbach, professor of international management at Berlin’s Humboldt University.
“This is a populist tactic to show ordinary people that the government is in control,” he said.
“It shouldn’t be up to the German Parliament to set the arbitrary pay caps, that’s the job of corporate supervisory boards”, he added.
Executive compensation expert Klaus-Stefan Hohenstatt, a senior partner at the global law firm Freshfields Bruckhaus Deringer, pointed out that the problem with the proposed 500,000-euro cap is that it is simply too low to attract the top talent needed to reform deeply troubled banks.
The average remuneration for managers at German blue chip companies listed on the DAX is roughly three million euros, with chief executives earning two or three times more than their board colleagues.
But Hohenstatt, who characterised the cap as a “guideline, not a strict rule” said he expected the government to be very flexible about upping the limits if the need arose.
Porsche executive got more than 60 million Euros
Besides, said Hohenstatt, there is nothing wrong with big pay packages for top executives who are worth their weight in gold, such as Porsche’s Wendelin Wiedeking who walked away with at least 60 million euros last year.
Porsche CEO Wiedeking is Germany's highest paid executive
“As long as executives are not drawing big bonuses while the company is being downsized and shareholder value is dropping, the public is not so upset,” he said.
“Porsche had brilliant results, so everyone down to the assembly line worker gets generous year end bonuses and the shareholders get their fat dividend. Everyone’s happy,” he added.
Marcus Lutter disagrees. “Regardless of how spectacular a manager’s performance is, are his achievements worth over 60 million Euros? This is an outrageous sum,” he said, pointing out that Angela Merkel’s annual salary is only 261,500 Euros.
“Is it fair for bankers to be making double the amount of our chancellor?” he asked.
German pay scales between US and Japan
Humboldt University’s Schwalbach said that what is viewed as excessive compensation is in part a cultural matter. In Japan, Prime Minister Taro Aso’s salary is comparable to Merkel’s, but also on par with that of his corporate cousins.
“Take Toyota. Although it is one of the most profitable automakers in the world, the CEO gets a very small portion of what top managers earn in America, so executive pay has nothing to do with company performance,” he said, adding that Germany falls between the Japan and the US, where executive remuneration in salary and stock options is by far the highest in the world.
Board manager earns 52 times more than average worker
Over the past twenty years though, the pay gap between Germany’s top DAX managers and the average workers has widened considerably. Last year the average board manager earned 52 times more than the average worker, according to Schwalbach’s survey.
Public outrage over golden parachutes
It is this widening differential at a time when companies announce massive job cuts that has fuelled public outrage over fat cats in the boardroom, who wind up being rewarded with golden parachutes in spite of a poor track record.
Freshfields’ Hohenstatt says that part of the problem is that it’s not easy to fire an executive, whose contract typically extends for five years in Germany.
“He would have had to act in clearly criminal way or fail in the business sense in the absolute extreme. These high payments kick in when there is no legal ground for termination and when there plenty of time left on the contract,” he said.
Marcus Lutter puts the onus on the supervisory board to keep tabs on managers who step out of line.
“A law banning golden parachutes wouldn’t be nearly as effective as boards doing a vigilant job of monitoring compensation issues as well as the performance of their hand-picked chief executives,” he said.
Public outrage helps too, to keep the pressure on the supervisory board, he added.