Yet over a year later, the story of America’s current economy is one of institutional continuity. Sustained by taxpayer aid, independent firm Goldman Sachs continues to issue stratospheric bonuses, while major automaker GM emerges from bankruptcy less debt-laden but not necessarily more nimble. Consensus regulatory reforms, whether regarding shareholder influence on executive pay or constraints placed on banks , retain a great deal of deference towards financial institutions’ instincts for self-interest. Calls for the Federal Reserve to take a more activist role are rebuffed by experts who emphasize its traditional institutional function, that of overseeing monetary policy. And the mantra of “green jobs” comes in for criticism as mere economic window-dressing, an example of political interests promoting an agenda that cannot be institutionally sustained within the economy.

Meanwhile, whether the economic crisis has redefined the role of our home institution – Harvard University – in the financial system remains unresolved. We sent fewer graduates to Wall Street last year than in previous ones, but opportunities to enter finance were also scarcer. And we cannot yet know whether history will view our many professors-turned-policymakers in Washington as bold innovators, or as modest stabilizers.

The question, of course, is whether the government was so quick to tie achieving economic recovery to protecting institutions that it missed the opportunity for “challenging current conceptions,” as Shaw put it, about how the economy ought to function. On the one hand, “creative destruction” of companies and financial structures sounds more appealing before it throws lives into chaos. On the other hand, as the stock market rebounds but unemployment enters double digits, many Americans are left wondering what we have missed. In a society preoccupied both with its own stability and its sense of progress, such dueling concerns are not easily reconciled.

Boring is Best in Financial Reform

The most famous story of Wall Street is of an out-of-town visitor brought to Lower Manhattan and shown the dazzling boats of the bankers and brokers. “But where are the customers’ yachts?” the visitor inquires. The perception of Wall Street as the embodiment of rapacious waste continues to haunt the American psyche. Amidst the deepest recession since World War II, politicians from Andrew Cuomo to Ron Paul have found finance an easy target; yet their sharp critiques have gone mostly unheeded. While President Obama speaks of the need to reform the financial sector, Democratic legislation does not suggest drastic changes. Nonetheless, many of the proposed reforms will still prove ineffective or implausible, meaning true financial reform will rely upon boring, yet effective, capital requirements.

A Revised History of the Crisis

Even before the United States emerged from the 2008 credit crunch, popular perception already attributed much of the blame to the unregulated financial sector. This narrative is simple, succinct, and misleading. As the Heritage Foundation’s David John told the HPR, “There is no simple answer that includes a significant portion of the 2008 crisis.” John described factors from massive foreign surpluses of investment capital, to homeowners expecting endless double-digit returns as far more integral to the credit crunch than any government policy.

Some experts nonetheless contend that regulatory failure exacerbated the downturn. Speaking to the HPR, Doug Elliott of the Brookings Institution claimed that, “The government did make some serious mistakes…and better regulation would have reduced the level of damage.” As Elliot explained, commercial banks had long been limited to borrowing up to 16 times their capital, and investment banks somewhat more. Yet in 2004, the Securities and Exchange Commission permitted investment banks to leverage up to 40 times their asset base. Meanwhile, commercial banks discovered new ways to leverage, notably with Structured Investment Vehicles. The effect was to make banks both more profitable and more exposed to a downturn; a three percent loss, for instance, bankrupts a 40 times leveraged position. Yet short of banning SIVs altogether, regulating them would have proven difficult because their existence relied on being outside the regulatory structure. Elliott thus sees leveraging and SIVs as symptoms of a fundamental problem, arguing, “We had twenty good years in the markets. Individuals and investors learned that risk wasn’t scary and that taking risks was a lucrative thing to do. … The problem was that people assumed that it would continue forever.”

Taming the Finance Beast

In hopes of dampening the next era of complacency, the White House has called for the creation of a Consumer Financial Protection Agency designed to prohibit certain financial products, such as subprime loan prepayments. Proponents like Harvard Law Professor Elizabeth Warren argue that the CFPA would benefit financial institutions and consumers by limiting the mortgages and material with which Wall Street self-destructed. Yet George Mason Law Professor Todd Ziwiki disagrees, telling the HPR that, “Consumer protection did not cause the [2008] crisis and it won’t stop the next crisis.” Even if consumer protection does not equate to financial protection, however, it has occupied a significant fraction of congressional action on the issue. David John attributed this incongruity to the fact that, “Congress as a mechanism reacts to pressure from constituents. Constituents don’t understand capital requirements, but focus on the fact that they signed something, and something unpleasant happened.” Thus, additional mortgage disclosure requirements substitute for substantive financial regulations.

Washington’s responses to the crisis beyond the CFPA are an equally mixed bag. Most prominently, Federal Reserve Chairman Ben Bernanke has argued for a “super-regulator” over the financial sector to end the practice of multiple agencies imposing differing regulations on the same jurisdiction. Bob Litan of the Kauffman Foundation, an organization promoting entrepreneurship, explained to the HPR that, “Before, financial institutions were able to play one agency off of each other. AIG, for example, went to the Office of Thrift Supervision, and was able to go berserk.” The super-regulator would end the practice of ‘regulatory shopping,’ searching for the most lax regulator. Bernanke’s proposal has nonetheless drawn opposition, not least from the heads of the current regulatory agencies, who fear a diminution of their power. As Litan put it, “The CFPA is a backlash against the Fed and a super-regulator.”

More acceptable to all stakeholders may be House Banking Committee Chairman Barney Frank’s proposal for a systematic risk regulator to monitor general levels of risk in the economy. Litan agrees that, “It can’t hurt to have a systemic risk monitor, someone to warn people that there are bubbles being formed. …I prefer adjustment in loan to value ratios when you see bubbles being formed, but I worry you could have a regulator criticized for taking away the punch bowl at the party.”

Party’s Over

Indeed, Litan’s worry that investors will scorn regulation that curtails markets reflects larger concerns about the political implications of reform. It would have been an unpopular bureaucrat who proposed to halt the rising tide of the housing market in 2005, and the calls would likely have gone unheeded. Moreover, even if regulators have the will to sanction, they might lack the ability to distinguish. As Ziwiki pointed out, Washington has a poor history of regulating financial firms; according to him, “The SEC doesn’t work is because its regulators get captured.” In other words, the competent regulators get hired to work for the industries they were regulating, while the second-tier people remain behind.

Thus the most effective reforms may paradoxically be the easiest to apply. Increasing capital requirements may seem far less innovative than overseeing all levels of risk in the economy, yet the simplicity of the measure is its greatest appeal. More capital might not have saved insolvent firms, but it would certainly have nudged them toward fewer risks. Indeed, as John pointed out, “It makes perfect sense to try to deal with too-big-to-fail [companies] through capital standards,” thereby sidestepping questions of regulating the complex securities that neither regulators nor bank CEOs truly grasp. In Litan’s words, “I feel that the market does a reasonable job when you give it the right incentive, and capital requirements are a good signal.”

Wall Street and Washington have long been intertwined, dating back to at least 1912. Again and again, financial crisis has prompted new and diverse approaches to regulation, yet America is no closer now to ending boom and bust than when the regulatory climate first shifted. Because many of the administration’s current regulation proposals will ultimately prove ineffective or politically infeasible, increasing capital requirements may be the best option of a bad lot. This simple regulation won’t guarantee the customers their own yachts, but perhaps capital requirements may still save their 401(k)’s.

Will the new GM ever be another General Motors?

Throughout the 1980s General Motors controlled almost half of the American automobile market, and since then that share has diminished to less than 20 percent. In the past decade, as GM struggled to convince its investors that it had a viable business model, its stock steadily declined. The economic crisis, and an accompanying collapse in car sales, was the final nail in the coffin. As GM suffered through this degenerative process in which the company became too large to manage given its reduced market share, structural barriers and a corporate culture of complacency prevented it from downsizing without government intervention. Yet while government-assisted bankruptcy has allowed the company to unload debts and reduce its break-even point, the gain in viability does not equate to a gain in competitiveness going forward.

A Lame Duck Company

As William Holstein, author of Why GM Matters: Inside the Race to Transform an American Icon, explained to the HPR, “GM followed business models and manufacturing models that were many decades old, and when the Japanese came in, American auto makers were at a competitive disadvantage.” Over the years, GM had grown into a complex operation with many different brands, an excessive number of dealerships, an inefficient manufacturing system, and a large number of legacy costs. Through its recent bankruptcy, GM overcame legal and structural barriers to downsizing and sold off all but its four core brands. Holstein added that the bankruptcy allowed GM to “justify consolidating its factory footprint and allowed it to get around state franchise laws protecting excess of dealerships and accelerate the process of closing unnecessary ones.” Billions of dollars in GM’s debt were left with the old GM, renamed “Motors Liquidation Company,” which will remain in bankruptcy. Additionally, GM transferred responsibility for the health benefits of retirees to a trust in the control of the Union of Auto Workers. All these changes have reduced GM’s fixed costs, creating a lower break-even point for the company.

However, critics believe that GM could have downsized without bankruptcy had it not ignored its lingering problems and declining market share for decades. Clifford Winston of the Brookings Institute told the HPR that the company “never seemed to address decline in performance and couldn’t really define what went wrong.” The former head of Obama’s Auto Task Force, Steve Rattner, bolstered this claim when he recently revealed to the media his surprise upon encountering GM’s slow-moving culture. Tom Wilkinson, Director of GM News Relations, told the HPR that while Rattner had valid points, “he was harder on GM people than we thought was fair.” When GM begged for financial assistance from the government, the Auto Task Force rejected its February 2009 restructuring plan on the grounds that the company remained too optimistic about the recovery of auto sales; GM had to adopt a more aggressive plan, which reduced its expectations for auto sales, and set a lower break-even point, in order to obtain government assistance.

No Reigning King

Yet while the downsizing of GM has made the company more viable, viability is not competitiveness. In terms of viability, restructuring means that GM is less likely to lose large sums of money. As Wilkinson explained, “the goal of GM in resizing the business is to be able to break even during the worst down turns. Traditionally, GM was structured to make a lot of money in the up years, and lost a lot of money in the down years.” Now, since GM’s overall costs are lower, it will require less revenue to avoid losing money. Whether it will actually turn a profit, however, remains to be seen. GM’s profits are dependent on its number of car sales, and car sales have shown great vulnerability to fuel prices. The plan GM submitted to the government predicted gas to be at $4 per gallon by 2014, and for industry auto sales to return to the all-time highs of 2005-2006 by 2014. Holstein insisted, however, that, “We will never see auto sales going that high for a long time.” The market for the auto industry is difficult to predict, and there is thus no guarantee of GM’s profitability.

Furthermore, GM does not have the auto industry to itself. The company struggles to compete with some of its foreign rivals, such as Toyota. According to Winston, “GM has been playing catch-up with a moving target.” GM has only now reached the most basic level of competitiveness by nearly matching the cost structure of “transplants,” foreign auto company factories located in the United States. But Winston sees nothing remarkably different in the new GM that will produce a more competitive company. When the American government funded the recent Cash for Clunkers program, which temporarily boosted auto sales, Holstein noted that, “Toyota was the greatest beneficiary of the program.” In the consumer’s mind, GM is far from being the frontrunner.

Winston pointed out that the “industry has been evolving for a long time in a way that has been shrinking these companies.” As domestic automakers face more competition from foreign competitors from Japan, Korea, and eventually China and India, GM’s market share is likely to continue to decline. The only way to reverse this trend will be to introduce new, innovative, and affordable vehicles that consumers want to buy. But given the large number of players in the industry, it is unlikely that one company will dominate. This development is bad for GM, but good for consumers; over the last three decades, increased competition has produced more reliable, higher quality, and diverse cars.

The debate about whether or not the government should have bailed out GM is likely to continue. Winston believes that “there should have just been a sell-off,” while Wilkinson argued that “the auto industry employs too many workers to allow it to go under.” The decision to bail out GM should have rested on a cost-benefit analysis, Winston insisted, without being “wrapped up in the politics.” In such an analysis, the cost to the taxpayers of bailing out the company ought to be less than the sum of the benefit to consumers in terms of affordable cars, and the economic gain of keeping GM’s workforce employed. In the future, as GM becomes even smaller, and as foreign automakers employ more workers within the United States, it is unlikely that this cost-benefit analysis will favor GM.

Congress’s plan for giving investors a voice

The eternal optimist can take heart that Wall Street’s near-meltdown over the past year has at least pushed financial services reform to the top of Congress’ agenda. Though some proposals, such as creating a Consumer Financial Protection Agency and beefing up the Federal Reserve’s regulatory authority, have attracted significant debate, a plan to grant shareholders an advisory vote on executive compensation has flown under the radar. Yet the idea deserves attention, as it represents a sensible path towards curbing excessive CEO pay without shifting too much power to activist investors.

Linking Pay to Performance

On July 31, the House passed the Corporate and Financial Institution Compensation Fairness Act. The bill would grant shareholders in public corporations an annual, nonbinding vote on senior management‘s pay packages, and would impose new rules regarding compensation committees; similar legislation is under debate in the Senate. According to its supporters, the legislation would more closely tie executive remuneration to job performance. The bill targets executives such as Stan O’Neal, a former CEO of Merrill Lynch who received $160 million upon his departure even as the bank announced record losses.

How do such excesses occur in an ostensibly efficient market? Clark McKinley, an information officer at CalPERS, the nation’s largest public pension fund, told the HPR that this imbalance is partially attributable to the common practice of directors serving on one another’s boards. In some cases, McKinley continued, an “old boys’ network” allows directors to “approve egregious pay packages while expecting their own pay to be raised in return.” Furthermore, outside consultants hired to serve on pay committees are often biased in that they work for large firms that provide other services to corporations; often, consultants recommend munificent pay packages to bolster other business relationships with their client. These practices contribute greatly to the disparity between pay and performance

Power to the Shareholders?

But the bill does not enjoy universal support. Some executives think it will allow shareholders to micromanage companies and politicize business decisions, arguing that investors value short-term returns to the detriment of future earnings. If true, these factors could drive top executives to private corporations. However, these objections incorrectly conflate the formulation of executive pay packages with day-to-day corporate operations, as the latter would remain under the Board of Directors’ purview.

There is also concern that mere advisory votes on compensation are ineffectual, and should be made binding. To support this claim, one can point to trends in the United Kingdom, which enacted advisory “say on pay” in 2002 but has seen few executive pay proposals voted down. In an interview with the HPR, Harvard Business School professor Jay Lorsch suggested that the high rate of “yes” votes could reflect most boards’ unwillingness to propose unjustifiable compensation packages. Last May, however, Royal Dutch Shell’s shareholders did reject management’s executive pay proposal, only to see the Board of Directors approve it anyway.

The Reformer’s Middle Way

Ultimately, “say on pay” will probably lead to more subtle changes in corporate governance than most observers expect. Though Robert Kaplan, a Harvard Business School professor, doubts that the policy will significantly lower compensation levels, he believes it will increase shareholder scrutiny. As he explained to the HPR, although managers could pass an unpopular pay package over shareholders’ objections, the company would risk embarrassment and negative media attention, such as occurred in the case of Royal Dutch Shell. According to Kaplan, an advisory vote would “further encourage Boards of Directors to ensure they have a sound process for formulating executive pay.” This should increase the correlation between CEO pay and company performance.

Famed investor Carl Icahn said, “In life and business, there are two cardinal sins. The first is to act precipitously without thought, and the second is not to act at all.” Advisory “say on pay,” in keeping with Icahn’s maxim, counters an undesirable status quo without upending the shareholder-manager balance. Though the fight for lasting change on Wall Street will be contentious, this bill could represent an early victory for reformers.

Will Harvard’s graduates still flock to finance?

From those already interning as summer analysts to those with an active disdain for such work, no Harvard student can help but notice the scores of campus recruiting visits made by financial institutions. Indeed, “I-banking,” consulting and other jobs in the finance industry are among the most popular career choices for Harvard students. Finance attracts these graduates for an array of reasons, ranging from cultural influences to economic incentives. In the wake of the economic crisis, however, the number of graduates going into finance has dropped significantly, raising questions — yet unanswered — as to whether this change represents a temporary reduction in finance opportunities, or a more lasting reassessment by undergraduates of the professional and social purposes to which their education should propel them.

Attraction and Repulsion

At least at Harvard, careers in finance boast a psychological appeal. Jarell Lee ’10 commented to the HPR that students pursue finance because “there are clear cut steps that you know from upperclassmen, and they just pass it on to you. And because the pay is so high, the job is seen as prestigious and as one of the best accomplishments you can have as a young Harvard [graduate].” Indeed, much of finance’s attractiveness to Harvard students lies in the peer validation and prestige associated with the field. But candidates are also drawn to the financial stability that even entry-level jobs in consulting or finance provide. As Luke Long ’03, who worked for the Blackwell Group after graduation, told the HPR, “If you’re coming out of college … you can go out, learn for two years, pay off debt or save up money.” The benefits of working at a financial institution thus range from experience — which can be extremely beneficial to those pursuing MBAs — to financial peace of mind.

Yet the economic downturn has reshaped the career decisions of Harvard’s most recent graduates. The Harvard Crimson reported that the total percentage of students entering finance and consulting has decreased from 40 percent in 2007 to 20 percent in 2009; f the Class of 2009, only 11.5 percent of seniors entered the financial sector. Given that the economic crisis began in the financial sector and has caused a number of firms to downsize or disappear, many financial institutions are simply not recruiting as much as before. In the long term, however, the question is whether students will return to finance once the recession has passed, or if disillusioned by economic fallout, they will pursue other avenues of interest.

The Role of the University 

Harvard President Drew Faust sees both factors at play. As she told the HPR, “A lot depends on how [the] financial services industry evolves and whether some of these jobs return … Secondly, I think we’ve been through a year that was very politically engaged and [people are] very interested in serving the public good.” President Faust has received attention nationwide for her preoccupation with the vocational direction of today’s college graduates. Her September article for the New York Times, “Crossroads: The University’s Crisis of Purpose,” focused on the disproportionate number of students — at Harvard and at other universities — who enter finance and business instead of jobs in public service. When asked how universities could encourage students to enter other professions, President Faust responded, “First, to develop paths of recruitment and job placement in other areas so students can see other paths clearly marked … [Another] part is trying to identify careers and make them visible.”

While business can certainly serve as a platform to positively transform the world, President Faust clearly believes that universities in general, and Harvard in particular, would better improve society and promote truth if more recent graduates pursued non-finance careers. Last year’s data gives her cause to hope; for example, according to The Harvard Crimson, the Class of 2009 showed a five percent increase in students entering the field of education, with 14 percent of the class applying to Teach for America. Perhaps these developments represent a fundamental shift in the attitude of graduating seniors, and even a generational affinity for service. Or perhaps finance’s clear path, prestige, and financial incentives are as attractive as ever to the typical graduate, but are temporarily inaccessible. Either way, only the career choices of current and future undergraduates will reveal which explanation rings more true.

With the spotlight on the Federal Reserve in the wake of the financial crisis, the Obama administration and Congress have begun debating the Fed’s role in overseeing and regulating the financial sector. Among President Obama’s July recommendations for reform was an expanded role for the Fed, including oversight and expansive regulatory power over giant financial firms and systemic risk. Fed Chairman Ben Bernanke, in his Oct. 1 testimony to the House Financial Services Committee, echoed the White House’s desire for a broader regulatory mandate for the Federal Reserve. Yet while Congress agrees on the need for enhanced oversight and regulation in the financial sector, its concern with a perceived lack of transparency and accountability at the Fed has made it wary of expanding its powers.

Indeed, while there seems to be a remarkable consensus within Washington about the changes needed to fix the current regulatory system, experts and various branches of government differ on how best to achieve these reforms, and what role the Fed should play. In this debate, the ongoing disputes between Congress and the Fed over transparency and accountability are distracting from what experts see as the larger concern: ensuring that the Federal Reserve maintain its independence and focus on monetary policy.

New Roles for the Fed

The Fed plays an important role in times of crisis. Vincent Reinhart, former director of the Federal Reserve Board’s Division of Monetary Affairs, believes the Fed is uniquely situated to act quickly under these conditions. “There are many situations with no possibility for immediate action by Treasury or Congress, so it is appropriate for the Fed to act,” he explained to the HPR. However, the Fed’s involvement must be time-limited so as not to undermine its primary long-term goal of executing sound monetary policy. Reinhart argued that the Fed should only hold a loan on its balance sheet for a short while, perhaps a month or two, and then should transfer liability to the Treasury. Furthermore, Reinhart continued, Treasury should hold the loans because it is ultimately responsible to Congress, and Congress alone should have the power to determine whether to put taxpayer dollars at risk. Concerned about expansive Fed lending capabilities with little oversight, he maintained that, “Congress needs to be brought back into the deal.”

While these concerns over power and accountability dominate the current debate about the future of the Fed, a larger concern looms: whether expanded powers for the Fed would undermine its ability to carry out its monetary policy responsibilities. Alice Rivlin, the first director of the Congressional Budget Office and a former Federal Reserve Governor, insisted to the HPR that, “The main job of the Federal Reserve is, and should be, monetary policy.” While she believes the Fed is well equipped to look for systemic risks, and could successfully take on an expanded role, she is thus wary of giving it new tasks as a consolidated regulator.

Putting Monetary Policy First

Jon Faust, an economist at Johns Hopkins University, thinks along similar lines. He recognizes the importance of the Federal Reserve in times of crisis, but noted to the HPR that, “Most of the time, we need the Fed to run sound monetary policy. History has shown that can be a politically sensitive job, so the most important thing in any reform is to make sure we don’t threaten the independence of the Fed to conduct normal monetary policy during non-crisis times.” Reinhart concurred, worrying that, “Monetary policy is too important to risk trading off to other goals, and if you give the Fed too many functions, it, Congress, and the public will be confused about how it should balance them.”

So, while the debate in Washington about the future of the Federal Reserve centers on questions of blame for the financial meltdown, concern over a lack of Congressional oversight, and political jockeying for power between the branches of government, the key issue remains underappreciated. Lawmakers and government officials would do well to focus more on ensuring that the proposed reforms protect the Fed’s ability to set sound monetary policy, and do not sacrifice its main purpose for secondary roles of consumer protection and the regulation and oversight of financial institutions. With a ballooning deficit and real concerns about inflation, the Fed needs to be able to focus on fulfilling its principal duty.

Few people caught in the throes of last year’s financial crisis would have predicted that only one year after the fall of Lehman Brother, top Wall Street firms would be raking in record-breaking profits—and, more pointedly, doling out record-breaking bonuses. Yet October’s earning reports confirm this to be the case. In the third quarter alone, Goldman Sachs, at the top of the Wall Street heap, made more than $3 billion in profits and will set aside $5.35 billion, almost a full half of its revenue, for end-of-year executive compensation. The public relations challenge is clear: while unemployment reaches double digits due to a recession caused by the financial sector, Goldman Sachs will reward itself with an expected $20 billion in bonuses.

Goldman’s stellar earning reports are good news for the economy, of course, because a healthy banking system is vital for economic growth. But the bonuses constitute a reminder of how little has changed in an area central to the financial crisis: the nature of banker’s compensation. The financial sector did not crash because bankers were being paid too much money, but instead because they were paid for doing the wrong things. That Goldman’s bonuses are so lavish, only a year after the unprecedented failure of the financial sector, indicates that the incentives behind Wall Street pay are still not properly aligned. Aligning them will take nothing less than a large-scale shift in the culture of compensation and integrity on Wall Street.

Bonus Questions: How? And Why?

There are two important arguments to be made in defense of Goldman’s bonuses. First, the bonuses simply reflect Goldman’s superior performance in the market, which should be applauded rather than maligned. While it is true that Goldman is good at what it does, it is also true that the company’s earnings were largely the result of the actions of the U.S. government. At each stage in the rescue, policymakers gave Goldman key support: from the $10 billion it received in TARP money, to the government’s allowing Lehman Brothers to collapse, thus giving Goldman access to huge new shares of the fixed-income market, to the government’s singular guarantee that Goldman would not be allowed to fail. In all these ways, American taxpayers underwrote Goldman’s profits.

The second argument to be made in defense of Goldman is that bonuses reflect the social function that banks perform. According to this line of reasoning, the bailout of the financial system was an essential measure to keep the credit markets functioning—to keep banks like Goldman providing loans to worthy recipients. Yet the vast majority of Goldman’s profits do not come from the lending sector. In fact, most of Goldman’s profits come from its “proprietary trading” units, which act as speculators, buying stocks and bonds and selling them back as prices vary. Unlike lending, speculation benefits only the successful speculator, thus providing almost no social value.

Short-Term Profit, Long-Term Risk

Every dollar that goes into Goldman bonuses is a dollar not going to their shareholders, the credit market, or recapitalization in anticipation of another crisis. Yet Goldman can proceed in paying out nearly 50 percent of its revenue in compensation because, unlike other industries, it has a government guarantee against its bankruptcy. For these reasons, Goldman is a case study for understanding Wall Street’s compensation problems. Not just fairness is at issue, what is at stake is instead the long-term health of the financial sector as a whole. Bonuses reward immediate gains and risk-taking, and ignore long-term losses, instability, and social costs. By attaching pay to short-term gain regardless of long-term loss, compensation packages jeopardize the growth and stability of the financial sector, and threaten to induce behavior that brought the system down last fall.

Punishing Poor Performance

In October, the Obama administration’s “pay czar,” Kenneth Feinberg, announced an aggressive plan to attack the excesses of executive compensation. For the seven firms that received exceptional support from taxpayers, the administration will slash the total compensation of the 25 highest-earning executives by nearly 50 percent. Accompanying this plan, the Federal Reserve’s guidelines for future regulatory efforts call for “balanced risk” in pay, whereby, between two traders making the same amount of money, the trader who took less risk will be paid higher. The guidelines also stipulate deferred payment of bonuses and a “claw back” clause, so that if investments later turn sour, some compensation would be returned.

While these efforts are commendable, government intervention cannot resolve the problem absent a major shift in Wall Street’s attitude towards pay. After all, the current compensation regime itself began as a flawed attempt at government intervention. As UCLA professor Lynn Stout told the HPR, problems with run-away compensation began with a 1992 law that mandated that executives attach the majority of their compensation to “objective” ex ante performance measures, like stock options or revenue streams. The goal was to make pay more rational, yet the law had the opposite effect. “In the old days,” Stout says, “an executive’s performance was determined after the fact, just as everyone else’s salary is determined: at the end of the year, the corporate board would review the executive’s performance and make a judgment to either maintain his salary, give him a bonus, or fire him.” Now, ex ante pay structures create massive incentives for executives to game the system by focusing on whichever single statistic most determines their compensation.

Thus the Feinberg plan, Stout argues, may be most significant as a return to the old notion of compensation as a reflection of one’s performance broadly understood, whereby long term stability and social value are taken into account in subjective, yearly reviews. The plan can send a simple signal that poor performance will be punished, and that compensation should be grounded in a sense of fair pay for good performance. In terms of its quantitative impact on executive pay, “Feinberg’s plan is less important than headlines would have you believe,” Ben Heineman, Senior Fellow at the Harvard Kennedy School and former Senior Vice President at GE, told the HPR. As he noted, “Companies need to create long term economic value, with sound risk management and high integrity. The question is: can we fix those things through government regulation?” The key to fixing how bankers are paid on Wall Street will ultimately come down to a change in the culture of compensation. The Goldman bonuses symbolize the current culture—not only its excesses, but also its dangers, for the financial sector and for the country.

The difficulty of green job promotion

Since its inception, the environmental movement has largely defined itself against corporate exploitation, and supported ecological integrity even in the face of economic opposition. Nowhere has more been at stake in this historical confrontation between environmental and economic interests than in the politics of energy and global climate change. The overwhelming scientific consensus is that carbon emissions must be drastically curtailed to avoid catastrophic warming, but the economic costs of the transition, especially in an economic downturn, are substantial enough to present significant political obstacles to action.

Over the last year and a half, environmental advocates have shifted their rhetoric away from regulation as a necessary medicine towards a new, omnipresent term: “green jobs.” The rhetoric of the green economy has saturated political dialogue for good reason. The argument made by proponents of green jobs is a win-win-win: fix unemployment, protect the environment, and establish American competitiveness in a rapidly growing international market. Even in a time of economic crisis, who can disagree with such a proposal? Yet the evidence suggests that “green jobs” has become a hollow political catchphrase, a supposedly economic and environmental boon that could end up as neither. Unless legislation is carefully crafted, its overly optimistic proponents could provoke a backlash against the larger environmental movement and complicate efforts to tackle climate change.

Shades of Green (Jobs)

Of course, effective green job promotion can bring substantial benefits. In an interview with the HPR, Dr. Benjamin Sovacool, a professor at the National University of Singapore, pointed out that renewable energy deployment saves money. It eliminates pollution, reduces dependence on foreign sources of energy, and diversifies the energy mix, which shields the economy against oil and natural gas price fluctuations. Once clean energy systems are in place, they offer innumerable benefits.

Transitioning to a green economy, however, requires more than just wind turbines. Problems with building transmission lines can delay projects for years, making it difficult for clean energy projects to operate within the short timeframe demanded by a stimulus package. As Chris Cooper, former Executive Director of the Network for New Energy Choices, lamented to the HPR, the “regulatory morass” surrounding the permitting process, driven by intractable state-federal power struggles over jurisdiction, is the “greatest enemy of renewable energy” and often matters more than the existence of subsidies.

These difficulties highlight the need for specific, context-dependent policy. Efficiency projects, such as weatherization (retrofitting buildings to save energy), net an economic return of about “seven dollars for every one dollar invested,” according to Sovacool, but the benefits of other green job strategies are more difficult to measure. Even Robert Pollin of the Political Economy Research Institute — one of the most committed defenders of green job promotion — conceded to the HPR that, “For the next five years, most of the investments in clean energy should be efficiency measures.” Government legislation must find some way to account for distinctions among green jobs, since their quality is far more important than their quantity.

Green, but Economically Efficient?

The reality, unfortunately, is that most green jobs are ambiguous: they can consist of anything from insulating homes to save energy to research and development for the next generation of solar panels. The breadth of the category complicates government intervention, since defining green jobs becomes entangled in political interests. When asked by the HPR to define green jobs, Benjamin Lieberman, a senior policy analyst at the conservative Heritage Foundation, said they were “best described as politically correct jobs.” While President Obama’s stimulus package, passed in February, included about $68 billion for clean energy, it has had difficulty creating new green jobs and achieving immediate, tangible results.

Green jobs are economically ambiguous as well. According to Robert Michaels, economics professor at CSU Fullerton and a senior fellow at the Institute for Energy Research, the debate over green jobs underscores the “desperate need for journalists to get some basic training in economics.” Michaels explained to the HPR that doling out stimulus dollars is particularly tricky because jobs are fungible. Since the unemployment market is transient and heterogeneous, new government-created jobs can easily end up being given to already-employed workers who switch over from the private sector, which would leave unemployment rates unaffected.

Michael’s analysis mirrors Leiberman’s research for the Heritage Foundation, which found that a green government stimulus would have a net “adverse impact on jobs.” One of the few empirical studies of green job promotion in Spain, conducted by Dr. Gabriel Calzada, an economics professor at Juan Carlos University in Madrid, discovered that every one green job created came at the cost of 2.2 other jobs. More optimistic studies on green jobs, Lieberman argued, tend to forget that they are created with taxpayer dollars and at the expense of private capital that is “siphoned off from the rest of the economy.”

Furthermore, since no alternative energy source can yet compete with conventional energy generation on an open market, government-led green job creation involves prioritizing certain technologies over others, an approach which risks wasting tax dollars on ineffective solutions. In the words of Michaels, the government has always been “absolutely lousy” at picking winners, and “there’s no reason to expect” that future legislation will be any different. Immediate green job creation can even stifle renewable energy innovation by artificially locking in technologies that are more efficient today, such as wind energy, but have less future potential.

Getting Back to Basics

Significantly, all of the experts seem aware of the absence of any consensus over green jobs or energy policy. Contradicting interests — environmentalists, fossil fuel companies, nuclear providers, NGOs, green technology businesses — make directly conflicting studies almost inevitable. As Sovacool concluded, energy policy is “one of the most highly politicized areas”; waiting for everyone to agree on a policy will only ensure inaction. For this reason, as professor Robert Stavins, director of the Harvard Environmental Economics Program, explained to the HPR, a green stimulus is at its heart a “symbolic policy,” rather than a substantial response to global warming.

The economics of green jobs remains mired in ambiguity, but environmentalists should not treat that uncertainty as a devastating blow to their agenda. Indeed, the green movement cannot take a chance with global warming legislation by framing it as a solution to economic woes as well as environmental ones. To do so and fail would merely give more ammunition to those who already oppose climate regulation. Especially with pivotal climate talks in Copenhagen in December, environmental activists should stick to what they know best, the widely agreed-upon science and consequences of climate change, rather than dabbling in murky questions of economics. Green jobs can serve as a potential spin-off of climate policy, but never as its central justification, which must remain fundamentally environmental.

Image Credit: Greenforall.org (Flickr)