Sentences to ponder

You people do like to comment on A.I.G. bonuses, don't you?  That's exactly my worry about the whole debate.  If my last post on the topic had elicited only five comments I would feel much better about what is going on.

In any case, this sentence, by John Carney (via Felix Salmon) caught my eye:

I don't see anything about voiding the contracts on the grounds of public policy as violating the sanctity of contracts.

In any case, the best way to prove me wrong is for you to never think about this entire topic, ever again.  In the meantime, beware your intuitions about vindication and payback, I would say.

Ruth Marcus makes good points.  Read Jim Manzi tooSteven Pearlstein says they could have, when the bailout started, preemptively based on the bonuses on minimizing taxpayer liabilities.  They didn't.


Ok Tyler - time for a change of pace - what would be your economic rationale for this - certainly the differences are statistically significant - but I am not certain I have sorted out causality :-)

"I don't see anything about voiding the contracts on the grounds of public policy as violating the sanctity of contracts."

Except for the pesky fact that the purported "public policy" has to exist prior to the formation of the contract. See generally, "due process of law."

And I still have yet to hear from any self-appointed expert on contract law the following two words: quantum meruit.

The key to understanding the AIG bonus issue is that AIG would be bankrupt and in the process of a court supervised liquidation but for the extraordinary government action that has kept the company afloat. If not for the government bailout, the contracts would be worthless because the employees would be unsecured creditors in a company worth less than zero.

There's simply no reason that a bailout meant to support the company because of systemic risk from failure must also mean that other aspects of AIG's operations cannot be treated as if the company actually were broke. We're in undiscovered territory here, it's true.

Actually we are not, employees can get retention bonuses when the company is declared bankrupt. See Conseco.

Bruce's link will be the most interesting comment.

Can anyone suggest a country to flee to if this populism gets out of hand? Maybe Singapore?

"In any case, the best way to prove me wrong is for you to never think about this entire topic, ever again. In the meantime, beware your intuitions about vindication and payback, I would say."

The issue of AIG bonuses as such is piddling. The idea that Congress can or ought to go around rewriting or abrogating contracts is not (See also: mortgage cramdown). That's the real issue, not the relatively tiny amount of money involved.

No one mentioned quantum meruit because: (1) we don't do that kind of pleading anymore; and (2) this would not be a quantum meruit case because there is a written contract. Quantum meruit is for cases where one party is enriched at the expense of the other, but no actual contract was formed (or maybe the recipient breached after conferring a benefit on the other party). Since the recipients (we assume) did not breach the contracts, and there are no apparent defenses to formation, the proper cause of action would be a straight contract suit for expectation damages.

Or to put it another way, if I can't get positive returns after 12 years of very conservate savings/investing and the people running large Wall Street firms apparently can't be paid less than millions a year regardless of who they actually perform, why not let the economy collapse and see if we can't build a better system?

Recently, many have worried about the moral hazard of bailing out failing businesses. In this case, taking away the bonuses will not create a bad precedent, but a good one: in the future, agents will be less confident that they can act againt the interests of their principals, despite arranging for contractual protections.

As for the sanctity of contracts, consider bankruptcy. The government regularly modifies contracts when a company is bankrupt. (In addition, courts regularly decline to enforce contractual provisions for a number of policy reasons.) AIG is a special case where the company went bankrupt, but for important public policy reasons, the government chose to give AIG the funds to meet obligations it otherwise could not (in effect, bailing out the parties it contracted with). In this special case, it is quite consistent and appropriate for the government to decide not to honor those obligations of AIG that are not in the public interest.

This story demonstrates that Tyler Cowen's previously expressed ideas concerning executive pay---"It's become increasingly hard to deny top producers what they, in economic terms, are worth"---are flawed. Maybe cognitive dissonance makes Mr. Cowen reluctant to think about this topic.

Tyler, I would suggest that you discuss this issue with some people who feel strongly but are (semi-)rational (I'm sure there are *some* at your university.)

In my view, what you are *not perceiving* and the commentator Vanya keeps stating is this viewpoint:
"Bailing out a company is one thing. Giving very large (by typical American standards) bonuses to the EXACT people who nearly DESTROYED the financial system (and did effectively DESTROY their company; as in 80% government ownership) seems, to be blunt, just *evil*."

And, FYI, the whole "voiding contracts would be a moral outrage and is just never done!" argument appears to be false - see this link:

I'm glad conservatives and libertarians care about ridiculous wallstreet pay when everyone else pays for it with taxes. When its coming out of everyone else' pocket by lower returns to one's 401k by leveraged arbitrage gains by wallstreet, oh, who cares.

Sorry Mark, but that professor's opinion piece is very, very short on actual legal reasoning.

For example, most states have enacted the Uniform Fraudulent Tranfer Act and paying a contractual retention bonus in the ordinary course of A.I.G.'s business would not be a voidable transfer.

Bankruptcy is a risk that is known in any contract when going in, and if A.I.G. were in bankruptcy and were being run under that statutory scheme, I don't think anyone would have a problem with it. The problem with A.I.G., insolvent banks (and GM for that matter) is that they are NOT in bankruptcy, where we could find out whether these businesses were economically failed or financially failed.

If Congress and the administration would just sit back and say: "we already have laws to deal with this in the bankruptcy code; these companies need to reorganize," there would be a lot fewer problems because we wouldn't be making up the rules as we go along (badly and without forethought).

Mark -- You should focus on the last paragraph of Prof. Cunningham's opinion piece: "Without reading the contracts, understanding their background and learning about employee performance, one cannot say whether A.I.G. is legally bound to pay or legally excused from paying these bonuses."

He is arguing that there may be legal bases for not paying the bonuses or clawing them back. Doing so would remain within the law. That's very different from tossing out the law because of one or another public policy.

a) Everyone seems to believe that if a number is negative, it cannot be the maximum. If AIG is in bankruptcy so the profits are negative, they seem to be saying, it must be that the managers could be replaced by the doormen (sorry, the doorpersons), and profits would necessarily go up, cause you know, negative profits cannot really be the best we can do at any time.

b) Everyone seems to believe that the purpose of a bonus is to share the profits, so with nonpositive profits there should be no bonuses. In fact, this is not the rationale of the bonus for most of managers (perhaps excluding a handful at the very top). It is very impractical, and it would probably create no or even perverse incentives to tie the bonus of low level managers to the whole firm's profitability. Better incentives are created if the bonus is linked to some achievable, easy to measure metric, one which the manager has the ability to affect more directly: division sales, customer satisfaction, etc.

c) Obama has no clue about economics. We knew that, no surprises there (and to be fair, McCain doesn't know any economics either.) It surprises me greatly that he has no clue about law. How could he expect companies to unilaterally declare contracts with their labor providers void in the absence of filling for bankruptcy? How could he expect to pass a law that would target one specific part of a single company's worker compensation with a 100% tax?

d) I loved Larry Summers comment about how the administration will get creative about the AIG bonuses. You know, you'd expect these people to still behave like economists after they are appointed in the administration. Otherwise, what is the point of having an economist there? He should know that "creativity" is the last thing the business need. On the other hand, he might be aware of that, and that's his public service announcement: we will get creative for years from now on, get out while you can.

e) What's the over/under for the time to reach a majority of people nostalgic for Bushitler's administration?

Billare has discovered one of the great truths of American life, which is that poor black people are treated like kings, while wealthy white financiers must face the harshest prejudice.

When this all started, AIG was only supposed to have a liquidity crisis, not be utterly bankrupt. How little we knew.

Great post!

We're covering this as well on COMMON CENTS...

I wonder if the Two Minutes Hate directed towards the bonus payments wasn't orchestrated as a deliberate distraction, to keep people from asking too many questions about why US taxpayers' regular periodic contributions are going straight out the door to external counterparties.

Billare and Barbar only confirm my biases about the true nature of lots of so called enlightened economic conservatives. What a joke. We're debating whether or not the taxpayers should take back million+ dollar bonuses given out by a company that had spent the previous year going bankrupt, and which is know owned by said taxpayers. Note the debate is whether these guys get to KEEP their fraudulent bonuses. It's not whether they should be choosing between life without parole and 20+years, with their only hope at 20+ years a publicly underpaid, overworked lawyer...

mulp: "Now a teacher who does their job and does what a teacher does doesn't get a bonus of even a thousand dollars." Yeah, and whose fault is that? You guessed right, mulp, it is the union leaders' fault! Oh, you said Bush's? No, sorry, it is the union who does not want performance pay for teachers. I mean, come on, everybody knows that.

The banks have failed and it was their own managements fault. Many like CITI have been nationalized to keep them from defaulting. The question isn’t whether to nationalize, it is how to unnationalize. Has anyone figured out a way to do that other than have the government take them over, clean them up and reprivitize? Please site examples of this being done if you know of any.

It's a new world, bud.

Cowen, and Manzi, and the other bailout apologists are thinking in a framework of laws and contracts and voluntary exchanges, where you have to honor agreements with people like AIG execs, regardless of how undeserving they are personally. They're working in the mindset that we give a damn about protecting AIG's value, or about respecting contracts with unappealing people. They think the law is impartial. They assume that we care more about keeping the edifice standing than pushing the villains off the roof.

That was a nice world while we had it, but it's over. I do think it made people freer and richer; it gave us the Constitution and rock & roll; but it's not going to be here forever. You know, you have to be aware of that. "In every generation" and all that jazz.

Now the law is that public enemies should suffer. The law is vengeance.

I'm weirdly content with that. I'm content, strangely enough, with an end to what we know as capitalism. (Not an end to markets, of course; those spring up everywhere; but an end to any nominal commitment on the part of the government to leaving markets alone.) You know, I could easily wind up as a modest bureaucrat, and it wouldn't necessarily be bad for me, even if is bad for other people. Somehow the prospect seems ... peaceful. Less choice, less to do, less money, less to think about. I tend to keep my head down too much to be in any danger of getting in trouble. I'd adapt. Maybe a lot of us would.

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