Friday 13 July 2012

CEOs and Superstars




As part of an article about about bankers this morning The Buttonwood Columnist from The Economist purported that;

"The laws of supply and demand do not apply. When food producers compete to supply a supermarket, the retailer has the luxury of selecting the lowest bidder. But when it comes to investment banking, wages are very high even though the number of applicants is vastly greater than the number of posts. If the same was true of, say, hospital cleaning, wages would be slashed"

While it is easy to argue that the demand and supply pricing mechanism doesn't apply to bankers it doesn't mean that it is the correct argument. Rather then throwing these economic models out the window I am more inclined to explain this phenomena with them.

The CEO market is akin to a superstar market where there is a myriad of potential actors that will attempt to make the big screen, but only a select few will make it. What drives these actors to make the top is the massive payoff. In the banking world potential CEOs will work extremely long hours and put them selves through higher education to achieve CEO equivalent wages. Similarly, only a few will make it to these positions, hence the wage must compensate the potential candidates for the risk of not achieving the top job.

On the demand side an investment in a super star needs to generate blockbuster sales for it to be a viable business decision.  Just as Brad Pitt's talents aligned with, lets say, Inglorious Bastards, a CEO's skill set must align with the objectives of a specific bank for it to be a viable decision. The end result is an extremely exclusive labour market characterised by high demand, low supply and high wages that compensate both the CEO and yield a positive investment for the bank.

However, just like a movie a bank can either flop or be a success depending on what CEO is chosen. But, who is going to take the risk of not employing the best CEO or face loosing them to another bank because they were not offered enough.


Friday 6 July 2012

What about Estonia?


Since my last entry which looked at Greece's debt woes and the problems with severe austerity there has been a lot of talk about Balkan nations, in particular Estonia, that has achieved robust growth after austerity. Yes Estonia has performed better relative to the rest of Europe, but not due to the hard, fast austerity measures that their incumbent government is 'talking up'. Krugman and commentators from The Economist have been quick to point this out for a number of reasons. 

Firstly, the marginal cost of labor and per capita wealth within Estonia is much lower then other European nations, this has allowed them to produce competitively priced exports and subsequently sustain growth during the unfolding euro crisis. Countries like Greece do not have this luxury because they are 'stuck' with; high wages and a fixed currency, meaning they cannot be competitive, and cannot not export themselves out of the recession, or at least with out external fiscal assistance.

Secondly, as illustrated below Estonia had a much lower volume of public spending.


(Krugman, 2012)
The corollary being that relative to many of Germany's neighbours that required a large quantum of debt to sustain public spending, Estonia required much less and in-fact carried a current account surplus. Hence, the level of austerity required within Estonia did not need to be as severe and the subsequent adverse impacts were less. 


However, something that the prominent commentators have failed to consider was why there was considerably less public spending within Estonia. Well I put this down to two first reasons. The former being that Estonia needed to sustain healthy balance sheets to meet the criteria that ultimately would allow them to adopt the Euro currency. This meant being fiscally conservative and keeping sovereign debt levels low. In regards to the latter, the cost of debt was too high to seriously consider any public investment. Many of the countries that binged on credit and public investment did this because the investment decision was sound due to the extremely low cost and high availability of credit.

In summary, the reason for strong growth in Estonia is not due to hard fast austerity or their post recession brinksmanship. Estonia has had to work hard to get their economy in shape pre rescission.  Their incentive - EMU membership and adoption of the EU. The structural changes they made before the recession, which encompassed; low public spending and debt, plus the benefit of having a cheap labor market has allowed Estonia to weather the storm.