Were 80% of Bailout Firm Bonuses Unmerited?

The Obama administration's Special Master of Executive Compensation Kenneth Feinberg released a new report (.pdf) today on bailout firm bonuses. To summarize, $2.3 billion in bonus money was paid by 419 bailout recipients from late 2008 through early 2009, of which about 74% exceeded the $500,000 limit that went into effect shortly thereafter. But Feinberg doesn't feel it's in the public's interest to claw any of it back. Instead, he recommends that, going forward, bonuses are awarded with greater attention to future performance.

A New York Times article says that Feinberg's findings mean these 74% of awards were "unmerited." That, however, is not really what he's saying. What he really thinks is clearer through this quote, via the Wall Street Journal:

The payments "were ill advised, they were troublesome. But I do not believe it is fair to declare...that the payments were 'contrary to the public interest,'" he said. In fact, Mr. Feinberg said he undertook the compensation review, which was required by the 2009 stimulus law, with "some reluctance."

"This is arm-chair quarterbacking," he said.

In essence, he's saying that he wouldn't have paid these guys that much, but he does not believe the bonuses should be given back. Even though there might be some populist outrage due to the pay czar finding compensation "ill advised" but taking no action, Feinberg makes the right decision here. He appears to understand that the public interest would ultimately be worse off if he tried to claw back this money.

In the competitive market landscape, Wall Street firms have certain pay threshold that they must maintain, even in bad times. If gigantic 2008-2009 bonuses were provided to employees who created huge losses for their firm, then it's rather likely that Feinberg, and anyone else, would think that such bonuses were "contrary to the public interest." But instead, most of the executives who collected these big paychecks weren't a part of the problem, but a part of the solution. They were working in a division that was profitable, and their talent was needed to keep the firm afloat.

Moreover, almost all of the firms who paid out such bonuses were the big ones that have managed to pay back the bailout. So in this case, taxpayers didn't ultimately pay those bonuses. Indeed, they made a profit on the portion of the bailout these firms were provided. While it might be argued that insolvent firms shouldn't be paying anyone big bonuses, most of these firms weren't ultimately insolvent. They had some trouble for several months due to a market panic, but regained their footing once stability resumed.

So instead of clawing those bonuses back, Feinberg recommends (but has no power to insist) that these firms adopt compensation schemes that take into account future performance. That way, the employees who made firms a lot of money through taking big risks won't ultimately be paid a lot if their bets go bad in future years. Feinberg isn't the only one recommending that future performance be included as a pay consideration: the Federal Reserve intends to release new guidelines sometime next year which will likely reflect this view.