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May 17, 2019

UK report into inequality puts shareholding culture in the firing line

Rules of financial game rigged, warns Professor Sir Angus Deaton

A new report into inequality in the UK from London-based think tank the Institute for Fiscal Studies (IFS) and organized by Nobel Laureate Professor Sir Angus Deaton puts shareholding culture in the firing line.

At the launch of the ‘IFS Deaton Review: Inequalities in the 21st century’, Deaton says the rules of the game are rigged: ‘If working people are losing out because corporate governance is set up to favor shareholders over workers, or because the decline in unions has favored capital over labor and is undermining the wages of workers at the expense of shareholders and corporate executives, then we need to change the rules.’

Report authors Robert Joyce and Xiaowei Xu take this on, dissecting what they view as misuses of shareholding and failures of corporate governance, with the report citing a 2013 Economic Policy Institute study by Josh Bivens and Lawrence Mishel. Joyce and Xu observe that ‘pay-setting institutions for top executives may have allowed them to extract a higher share of the surplus companies generate. A large part of executive pay comes from bonuses and exercised stock options, institutions that have existed for a long time but really took off with force in the last few decades.’

In turn, the report cites a 2001 study by Marianne Bertrand and Sendhil Mullainathan of the University of Chicago Booth School of Business, which states that stock options can be constructed to reward CEOs for luck as well as performance, especially in companies with weak governance.

And the use of compensation consultants and ‘peer groups’ to benchmark top executive salaries is meant to guard against excessive pay but – in reality, says the report – may be skewed to justify inflated salaries, citing a 2011 study by John Bizjak, Michael Lemmon and Thanh Nguyen.

The report goes on to point to the risk of the UK following the US, where wages for non-college-educated men have not risen for five decades and where rising mortality for less-educated white men and women in middle age has caused average life expectancy in America to fall for the last three years – something that has not happened for a century.

Deaton says: ‘I think people getting rich is a good thing, especially when it brings prosperity to others. But the other kind of getting rich – ‘taking’ rather than ‘making’, rent-seeking rather than creating, enriching the few at the expense of the many, taking the free out of free markets – is making a mockery of democracy. In that world, inequality and misery are intimate companions.’

The report also notes that the share of income going to the 1 percent richest households has nearly tripled in the last four decades, from 3 percent in the late 1970s to around 8 percent today.

Paul Johnson, director of the IFS, says in a statement: ‘I can’t think of anything more important than understanding what drives the inequalities we see today and working out what we might do to influence them. Everything from early childhood education to the regulation of ‘big tech’, from the design of the benefit system to the effects of globalization, from the role of men and women in the home to the design of corporate governance, matters for producing the outcomes we see. We will be examining them all.’

The IFS Deaton Review is part of a five-year project, initiated by the IFS and funded by the Nuffield Foundation.