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Class Warfare

"Class warfare" is being thrown around a lot these days, almost as much as "job creator." Let's apply a little Tennessee common sense to "class warfare."

We're told that when the 99% of working folks at the bottom of the economy suggest that the 1% at the top should pay its fair share, the 99% is engaging in "class warfare." We're told that the top 1% is the "productive class." We're told that they're "job creators." The not so subtle suggestion is that the rest of us aren't productive, that we're lazy. Some clever media types call us the "moocher class."

Okay. Fine. Let's talk about the members of the "job creating" "productive class" called CEOs (chief executive officers). Back in the 1990s a lot of hard working folks were shocked by the amount of money these guys were paying themselves from corporate coffers. In an attempt to reign in executive pay, Congress decided that a company could only deduct an executive's "salary" from its taxes up to an amount of one million dollars a year.

About that time, company spokespeople started saying that companies ought to tie executive pay to company performance, that doing so would be good for companies and for the rest of us. Of course, performance-based pay wasn't covered under Congress's rule for company deductions, so companies could deduct the full amount of this "performance based" pay. Companies started paying their CEOs enormous bonuses tied to stock price increases: bonuses that dwarfed executives' official million-dollar-a-year salaries. Even better: company boards often leave executive pay and benefits up to the CEO's discretion. (Wouldn't you like to determine your own level of pay? Too bad: "outside" of the corporate world, only Congress has this power.)

At first, the explosion in "performance based" pay was probably just a way to bring CEO compensation back to what it had been before Congress had acted: a way around the million dollar limit so that companies could keep deducting outsized executive paychecks, a way Congress was nice enough to leave open. But through this innovation, CEOs were soon making salaries that dwarfed the CEO compensation of the 80s and early 90s. Nowadays CEOs make about four hundred times the salaries of rank-and-file workers. It is not uncommon for CEOs to leave a company after a few years with going-away compensation packages worth hundreds of millions of dollars.

On this model, the CEO's pay is tied to stock price. And stock price is sometimes a good rough-and-ready way to judge a company's performance. But what actually drives stock price? For one, corporate earnings statements drive stock price. These statements come out quarterly and yearly. If a company does better than analysts predicted in a quarter or in a year, then generally its stock price goes up, because people think the stock is worth owning and buy it. When that happens, the CEO gets a bonus.

At first blush, this makes "good business sense." After all, when a company is responsible for technological innovations and new products or for finding a more efficient way to make a product, it might be reflected on its earnings statements and this might bump the value of its stock. And in these circumstances, we might expect the gal steering the company to get something extra for her wise leadership.

But innovation and robust company value and efficiency gains are tough to realize and slow to be reflected in earnings statements. A second way to improve earnings numbers is to cut expenditures by laying-off workers and closing plants, by cutting pay and benefits or by moving all of a company's operations to a country where folks will work for a couple of bucks a week. Moving operations out of the U.S. has another "advantage": so long as a CEO keeps company profits and assets away from our shores (where they might do our economy some good), the company can avoid paying taxes too, thanks to another loophole: this leads to bigger bonuses for the CEO.

A third way for a CEO to improve the numbers in the earnings statements is to use creative accounting, sometimes legal (think Lehman Brothers) and sometimes not (think Enron). One legal creative accounting method employed by practically every large U.S. company today is to finance the company's day-to-day activities through ultra-low-interest ultra-short-term company-to-company loans that aren't reported (called "repos" in the corporate world). If the term of a loan is short enough, it doesn't show up as a liability on earnings statements like more standard bank loan financing does. In effect, it's like a company credit card that never gets paid off: instead, when the "card" comes due, the company rolls the liability onto a new "card." (When Lehman Brothers went down it had about $50 billion in repos; the immediate cause of its failure was that the other companies didn't want to give it $50 billion in new repos to finance the next day's company activity.)

Did you ever wonder why, when the housing market crashed and Lehman Brothers, Merrill Lynch and AIG failed no one at Treasury, the Fed, the SEC or even at Goldman Sachs could answer the question, "How deep does this hole go?" Part of the answer was that these repos tied the whole corporate world together on one big happy (unpaid) credit card, and no one knew what the card balance actually was. Forty years ago, companies used cash, assets and reported loans to fund day-to-day operations. But that wise policy that many of us employ in our own homes is no longer the norm on Wall Street.

Layoffs, benefits cuts and legal and illegal accounting tricks are much easier for a CEO to engineer than improving a company's fundamentals by coming up with a new product or improving an old one, and because of accounting and disclosure rules these things affect earnings statements more quickly.

Ever wonder why the stock market's doing better but jobs aren't recovering (producing a so-called "jobless recovery")?

Ever wonder why whenever a company fires people and closes plants its stock price usually goes up rather than down?

Ever wonder why AIG paid out huge benefits to its own executives after accepting billions in tax-payer bailouts?

Now you know; accounting rules make liabilities look like gains and CEOs receive "performance based" pay. That AIG failed is irrelevant. AIG's stock price was high. In fact, accounting tricks, employee benefits cuts and lay-offs have been driving earnings and stock price in our economy for some time: for at least thirty years.

Let's get back to CEOs. Jane is the CEO of a paperclip manufacturer. She's coming up on the end of a fiscal year, and she realizes that the company is going to fail to meet earnings expectations (or it will meet but not exceed them). There's no chance that the company will become unprofitable or close its doors or anything like that. People love their paperclips; the company is making a nice profit.

But we know that the key to the company's stock price isn't making a profit or avoiding a loss and we know that the key to its stock price isn't found in the aggregate amount of money the company makes. The key is exceeding stock analyst expectations and increasing profit and profitability. E.g., if the profit was 25% last year, it had better be 30% this year. If the company's earnings statement puts the company's performance at or below expectations the stock price will stay the same or go down, and Jane will only get paid a million bucks.

Worse yet, the shareholders might get frisky if the stock price goes down, causing them to go to the board and demand Jane's head on a platter. But Jane likes this CEO gig with its mahogany desks and corporate jets. She doesn't want to take just one million dollars and go home. What can she do?

She could develop a better paperclip (if she knew anything about paperclips). Or she could go out and hire the guy who will make the better paperclip. But developing a new paperclip is hard, and it could be risky: success is uncertain.

Jane could do the easy thing: she could fire a bunch of folks and put out a statement saying that the company "regrets" the decision but that it "has to lay off" a thousand workers to "stay competitive" in the market. We've all heard these press releases before. (The language these "job creating" CEOs use to justify firing people is shockingly similar across the board.) Too many of us have been on the receiving end of these "regrets."

Okay. Jane fires a thousand workers and puts out a heart-felt press release. Because of various accounting rules, this has a near instantaneous effect on earnings: in plenty of time to affect the year-end earnings statement. Once she does this, the pension liabilities of the laid-off workers are no longer increasing against the amount of money sitting in the company pension fund, their health coverage liabilities diminish and what they would've been paid stays in the corporate coffers. All of these changes are reflected as earnings improvements according to accounting and reporting rules. The paperclip company exceeds analysts' earnings statement expectations, and the stock price soars. For her hard work, Jane gets a bonus of 25 million dollars in either cash or options or some kind of deferred compensation (this is not an outrageous figure given CEO performance-based pay in the real world).

But wait. The mean yearly income of our thousand paper-clip making workers was high: $50,000 each. By firing them, Jane effectively transferred half of the $50,000 yearly salaries of a thousand people into her own pocket. On paper, it represents a net "savings" of at least $25 million to the company which has the same effect on statements as $25 million in earnings generated by selling more paperclips. On paper, it's actually a larger "savings" if the employees had pensions and health benefits. If Jane's a "clever" CEO, she managed to select people to fire whose pensions had not yet vested. Her bonus-receiving "human resources" executive can help her do the math. Now the shareholders are ecstatic.

If Jane took half the livelihoods of a thousand people with a gun, she'd be on "America's Most Wanted," and then she'd be on "Cops" right before the cops put her in jail. (Actually, as rich as she is, she'd probably avoid jail, but at least we'd be upset with her if she used a gun.) But in the country we live in today, if a CEO improves her company's stock price, no matter how she does it, we declare her CEO of the year and put her on magazine covers and on all the talk shows as a proud example of a "job creating" member of the "productive" class.

But Jane doesn't even know how to make a paper clip; she's management. She didn't invent the paper clip or make the paper clip better or find a way to support people who did. She doesn't produce anything. Somehow, though, she's in the "productive class" and all the people she fired, with the actual knowledge and skills: the people who actually produced the paperclips that are the cause of all the company's profits, they're in the "moocher class" and not in the "productive class."

So why isn't this sort of behavior by CEOs, so common over the past few decades, class warfare?

It's a fact: over the last 30 years, money made because of the work done by us has been transferred, by hook and by crook, to the top 1%.

But when we demand reforms in executive pay and the accounting rules that make layoffs the best way to exceed earnings estimates, we're engaging in class warfare?

We're in the "moocher class"?

They want us to forget that Jane, who never produced a paperclip in her life, who knows nothing about paperclips, took the livelihoods of a thousand people who once produced many of the paperclips that are the ultimate source of her pay and was rewarded handsomely for doing it. They want us to forget that she never created one job but instead eliminated a thousand.

If what Jane did isn't class warfare, then using the vote to hold accountable her and people like her and the folks in Washington, D.C., who make her scheme possible, isn't class warfare either. And when we lose our jobs and benefits and take to the streets to complain, it isn't class warfare.

But I happen to think that Jane is engaging in class warfare, along with her friends in Washington. I think she's been doing it for a long time and she's winning. If so, then maybe demanding our money and our voices and our votes back is class warfare too. But if it is "class war," then people like Jane started it, and I say it's time we finish it and vote out the ones who made it possible.