California, along with a handful of other states, has the
reputation of being a state that is against free market policies and in favor
of central planning. The business
climate in California is particularly hostile, as more businessmen consider
moving to more business-friendly states such as Florida and Texas.
Just when you think the government of California wouldn’t
possibly risk enhancing its reputation as an anti-business state, now there is
a bill in the legislature that does just that.
SB 1372 is a proposed bill that would have varying tax rates
for companies based on the compensation ratio of the CEO. Right now, the tax rate is just under 9
percent for corporations in California.
If this proposed bill passes, then rates would vary anywhere between 7
percent and 13 percent, depending on the compensation ratio.
The compensation ratio is determined by taking the top company
salary and dividing it by the median salary of the company. If the ratio were under 25, then the
applicable tax rate would be “only” 7 percent. There is a sliding scale all the way up to a ratio of
400. If a company’s compensation
ratio were over 400, then the tax rate would be 13%.
From a free market perspective, there are so many things
wrong with this bill that it is hard to know where to begin.
First is the moral aspect, which is really about property
rights. A company should be able
to pay its employees whatever it wants.
Nobody is forcing anyone to work for a particular company. Nobody is forcing anyone to buy from a
particularly company. Nobody is
forcing anyone to own stock in a particular company. So if a company wants to pay some executive 400 times the
median salary, that should be a decision for the Board of Directors and the
shareholders. This bill would be a
complete infringement on property rights.
The second question to ask is how the writers of this bill
came up with these numbers. Why is
the top tax rate 13% if the compensation ratio is over 400? Why is the tax rate 9% if the
compensation ratio is between 100 and 150? Who came up with these arbitrary numbers? Why not just tax every company at 20%
that pays its executives more than twice the median salary? Why don’t we have complete “fairness”
and have companies pay everyone the same amount?
A third thing to ask is what the unintended consequences
will be of such a bill. It seems
that whenever government (at any level) passes legislation with a certain
stated intention, it ends up resulting in the exact opposite of the stated
purpose. In this case, it will
somehow lead to executives making even more and most workers making less.
Companies will find loopholes in some way. We can’t be certain of what they will
be for this particular legislation.
Maybe companies will find a way to offer certain benefits that don’t get
counted in the so-called compensation ratio. Maybe executives will end up retiring with bigger multi-million
dollar pensions. Maybe they will
end up with bigger stock options and ownership opportunities. Maybe employees will be offered higher
salaries and have benefits taken away.
Another thing we have to look at here is why this is
supposedly a problem in the first place.
In almost any society, there is a big gap between rich and poor. While the more socialist countries are
supposed to even things out more, it tends to be the opposite. There actually tends to be a greater
gap between rich and poor in an economy that is centrally planned to a great
degree. The overall population
also tends to be poorer.
There will always be major gaps between rich and poor and
between wages. But this is
actually more exaggerated because of government policies. The central bank tends to favor the
rich at the expense of the poor.
Government regulations tend to favor big companies over little
companies, as bigger companies can afford to abide by the regulations. Big companies often push for more
regulation to keep competition out by raising the barriers to entry.
I completely understand the sentiment that some people feel
against highly paid executives. Many
middle class workers are working hard and generally not seeing increasing
wages. They see that the rich are getting
richer. But the problem here is
the Federal Reserve and government policies. They are making the middle class poorer, while protecting
the rich. We saw this in the
bailouts of 2008.
The answer isn’t to punish companies who pay their CEO or
executives an extraordinarily high salary. Some executives actually deserve it. It isn’t just a matter of attending a
few meetings and collecting a huge paycheck. There are vital decisions made at the top that can make or
break a company.
There certainly are some CEOs and other executives who are
total duds. Their expertise and
decision-making are worthless. In
fact, some of them manage to drive their company into the ground. The problem here is that either the
companies are getting bailed out by government or they are being protected from
competition by the government. In
a true free market, the executives of a failing company would go down with the
company and they probably would not be sought after by other companies in the
If this California bill passes, it is going to cause all
different kinds of distortions. It
is also going to encourage more people and businesses to leave California. The socialists in California may get
what they want. They will get rid
of highly paid executives and they will get rid of businesses that want to be