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Home Publications Blogs Beat the Press Inequality By Design: It's Not Just Talent and Hard Work

Inequality By Design: It's Not Just Talent and Hard Work

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Saturday, 15 February 2014 14:54

Greg Mankiw is out there defending the 1 percent again. He put forward the argument that the big bucks are simply their just desserts; the rewards for exceptional skill and hard work.

His opening act is Robert Downey Jr. who apparently got $50 million for his starring role in a single movie. This is a great place to start. There's no doubt that Robert Downey is an extremely talented actor, but of course there have been many actors over the years who have put in great performances for much less money. How is it that Downey could earn so much more than a great actor from the 50s, 60s, or 70s?

We could give a simple answer and say something like globalization and technology, but that would be at best half right. Certainly many more people will be able to see the films that Downey acts in than would have had the opportunity to see the stars from a half century ago, but that doesn't mean that Downey would get money from the broader exposure. In fact, a big part of the reason that Downey can collect huge paychecks is the extension and strengthening of copyrights. The United States has lengthened the period of copyrights from 28 years, with an option for a 28 year renewal, to 75 years in the 1976, and then to 95 years in 1998. 

It also has stepped up copyright enforcement, imposing stiff fines on people who use the Internet to make unauthorized copies of copyrighted material. This is important, since the technology itself would let everyone quickly see Robert Downey Jr.'s new movies at no cost. It is only because of government intervention in the form of copyright monopolies that he is able to collect $50 million.

It is also worth noting that this intervention also has an indirect effect. If there was a large amount of high quality and recent material that everyone could obtain for free on the web (and show in theaters if they like), then no one would be willing to pay big bucks to see Downey's latest feature. So is Downey worth his $50 million, perhaps given the structure we have, but we could easily have a different structure which could quite possibly be a more efficient way to support and distribute creative work. (Here's my scheme.) FWIW, a similar story would apply to the writers and athletes in Mankiw's 1 percent defense.

Then we get to the CEOs who Mankiw tells us get high pay because of what they contribute to their companies and the economy. If this is the case, how do we explain CEO's of companies like Lehman, Bear Stearns, and AIG walking away with hundreds of millions of dollars even though they drove their firms into bankruptcy? When the CEO of Exxon-Mobil gets hundreds of millions because soaring worldwide oil prices sent Exxon's profits through the roof, do we really think the pay is a function of hard work? How do we explain the fact that CEOs of incredibly successful companies in Europe, Japan, and South Korea make on average around a tenth as much as our crew does?

That one doesn't seem to fit the just desserts story. The more likely explanation is the Pay Pals story, where the company's board of directors are paid off by CEOs to look the other way as they pilfer the company.  (See CEPR's new Director Watch, which will feature your favorite directors in the months and years ahead.) Unlike the case in Europe, Japan, and South Korea, there is no force to effectively limit the CEO's pay. Needless to say, the directors never ask if they could get a comparably skilled CEO for less money from Germany, Japan, or China.

And then there is the financial sector where Mankiw tells us that the extraordinary pay is compensation for the volatility of paychecks. That's interesting, except the vast majority of comparably talented and hardworking people would be happy to get the pay the finance folks get in the bad years. Much of the big money on Wall Street stems from highly leveraged bets that beat the market by seconds or even milliseconds. This provides as much value to the economy as insider trading, which it in fact resembles closely.

It would be interesting to see what would happen to the big fortunes in the financial sector if it had to pay a small transaction fee, effectively subjecting it to the same sort of sales tax that is paid in almost every other sector of the economy. It would also be interesting to see what would happen to the private equity folks if they lost the opportunity for the tax gaming that is their bread and butter.

I could go on (read my non-copyright protected book on the topic), but the point should be clear. If the 1 percent are able to extract vast sums from the economy it is because we have structured the economy for this purpose. It could easily be structured differently, but the 1 percent and its defenders aren't interested in changing things. And the 1 percent and its defenders have a great deal of influence on the direction of economic policy.

 

Comments (29)Add Comment
Plenty of free entertainment available but people chose to buy
written by AndrewDover, February 15, 2014 5:44
Visit your local library which has plenty of movies.
Or Kennedy center millennium stage, MIT Open courseware, etc.

I guess people made their own choice to go see Iron Man, which grossed over 1/2 billion worldwide.

...
written by bobs, February 15, 2014 5:58
This is an excellent point that bears repeating.

Nitpick: it's "deserts" and not "desserts"
..., Low-rated comment [Show]
Mankiw assumes the CEOs have mobility.
written by John Wright, February 15, 2014 7:13
In the case of high profile sports athletes and movie actors, there is mobility to their tasks. An athlete can ply his trade at another team and an actor can work on a different film. They have other opportunities.

But CEO's mobility (aka "Skill Transferability") is not the same as a sports star to judge from recent research.

Per Charles Elson and Craig Ferrere in "Executive Superstars, Peer Groups and Over-Compensation -- Cause, Effect and Solution"

http://sites.udel.edu/wccg/files/2012/10/Executive-Superstars-Peer-Groups-and-Over-Compensation-10-10.pdf

"The external benchmarking of executive compensation has contributed significantly to the problem of high and rising pay in the United States. It is increasingly apparent that the pay awarded to chief executives is
becoming profoundly detached from not just the pay of the average worker, but also from the companies they run. Offsetting the external focus, which is so heavily relied upon today, with internal metrics and internal
benchmarking may help to curb the persistent escalation. We hope that if directors are no longer constrained by notions of competitive pay, which are driven by the false belief that CEOs are interchangeable, they may
have the space to rationalize the upward spiraling pay ratchet and deliver what is more shareholder acceptable compensation. This proposal may well result in more reasoned executive compensation schemes, more effective board oversight, and, most importantly, a healthier, more competitive corporation."

A shareholder value maximizing executive class should look at their own salaries and target the minimum compensation package it would take to retain a valued executive, as the money spent on excess executive compensation is money pulled from R&D, capital investments and possible additional compensation/hiring of lower paid workers.

The executives should be handled exactly as other suppliers to the corporation, they should paid as little as possible to assure a quality product (their labor).

If executives are paid in excess of this, it is an affront to the "increase shareholder value" concept that the executive class seems to hold sacrosanct. 
...
written by watermelonpunch, February 15, 2014 8:13

Before anyone can have a discussion about who deserves the most delicious "deserts"... I think we need to discuss what our priorities are as individual citizens, and as a society.

I really enjoy Colin Firth movies. I like Neil Degrasse Tyson's documentaries even more.
And I highly value Dean Baker's "free books".

But sorry, they just don't come up in priorities before having clean running water, a working & clean toilet, and having my garbage (& my neighbor's garbage) taken away so it doesn't stack up around my house in a pile of filth, not to mention nutritious food.

Let's face it, if people were paid their worth to human survival & comfort... trash collectors, farmers, and people who clean toilets, would be paid a bit more than they are I should think!
....provincial economics strikes again!
written by indiana protectionist, February 15, 2014 8:14
economists often like to think of themselves as cosmopolitan.....

....the truth is that US based neoclassicals tend to be very provincial. their analysis typically falls apart as soon as one considers practices outside of the US

this is another great example of the intellectual foibles of provincial American economics......

the jet set either never leaves the US or they wear ear plugs and eye patches whenever they visit Europe and Asia.
Mankiw: apologist for the 1%
written by President Costanza, February 15, 2014 11:24
Mankiw uses a logical fallacy that appears so much in the mainstream media that it's absolutely sickening: "the everyone agrees with x" argument. The truth is that a lot of people disagree with x, but Mankiw uses it as a way of taking some ideas off the table.

Also, he claims the CEOs have "earned" their huge paychecks, but have they really. German CEOs, whose corporations tend to be more successful by many measures, make much less than US CEOs. Of course, German Corporate governance laws are much different than ours and have the effect of discouraging massive inequality (workers elect half the directors to German corporations). Given that corporations are creations of the government, there is no reason we couldn't structure corporations in a way so that CEOs couldn't game the system. As it stands now corporate directors are usually CEOs of other companies and, as a result, have no problem with giving huge pay packages.

Also, excellent point about copyright laws. One reason TPP needs to be rejected is that it seeks to write those protections in stone.

Mankiw is simply another apologist for the 1%. Of course, that's not surprising given that type of commentary is quite lucrative.
If only there were some way voters could hear of such good public policies
written by jaaaaayceeeee, February 15, 2014 11:41
Along with full employment policy and all the tried-and-true, good public policies DC abandoned, reversed, or ignores.

Brad DeLong sometimes laments, why can't we have a better press corp? That's not the right question, when most voters have given up on getting either honest, germane, news or representation.
...
written by Brett, February 16, 2014 1:11
The Avengers made a ton of money in box office theaters worldwide, even in places where bootleg copies of new movies are a dime a dozen. Downey would have made a ton of money either way, especially since in the absence of copyright he might charge more upfront money for his continued participation.

He's an interesting example, though, of how wage levels really come down to "how much can the company/person employing you afford to have you walk away from the job?". Downey Jr.'s the biggest star in the Avengers, and that means they're willing to pay tens of millions to keep him from going off and doing other stuff. Most people aren't that lucky - I could probably be replaced within a few weeks at my job, although it would then take them a few months to get them up to speed and replace my institutional knowledge.
short or high risk careers
written by Cheryl, February 16, 2014 4:47
The reason that some actors and athletes earn a lot of money is because they factor in their high risk of having to retire early due to injury or audience indifference or age. Only some women and men are allowed to age - Jack Nicholson and Michael Caine for example but not Ryan O'Neal or Demi Moore. There have been some tragic sport injuries at the Olympics and some of those athletes will never earn enough to compensate, whereas professional athletes make different financial deals. What CEOs have gotten away with is fraud under a plutocratic system.
Downey's $50 million is the problem public policy needs to solve.
written by fairleft, February 16, 2014 6:01
An actually democratic society would understand that Downey is over-compensated and then figure out (or use tried and tested) ways to solve that problem. Whatever gets the job done is 'good' social policy.
...
written by Christiaan, February 16, 2014 6:25
I am not sure what Mankiw and the right is trying to say. Is he saying that people should be payed proportional to how hard they work? Or should it be determined by the amount of money involved in the work they do? In this piece Mankiw seems to say the second. the problem is tat quite often when people, correctly, point out that this really is not fair, they switch over to how hard they work (people in the financial industries make very long hours.) that's the usual bait and switch story.
Without Copyright Protection Downey's Films Would Show in Theaters That Pay Him Nothing
written by Dean, February 16, 2014 6:34
Sorry Brett -- Downey needs copyright monopolies to get rich. Without them, no one would pay him to be in the movies because they couldn't get back the money.
...
written by Mark Jamison, February 16, 2014 6:52
There is another aspect to this that Dr. Baker doesn't mention, at least specifically. Much of the entertainment industry and certainly all of professional athletics garner huge amounts of money from advertising and corporate sponsorships. Our tax system and corporate enabling statutes set up circumstances where the money that supports these endeavors comes not from ticket buyers or those interested in the event but from the broader public.
An athlete making $50 million often plays in an arena that was built with public money. In many cases movie companies receive tax preferences from localities. Tax treatment of these earnings and accounting in sports and entertainment offer special constructions designed to benefit those with high returns. And advertising and product placement costs are ultimately born by the greater public.
Mankiw is totally disingenuous in failing to discuss the structure of a system that is weighted towards these sorts of extremely high returns.
Everyone Needs an Economic Telescope Designed by Mankiw to Explain the 1%
written by Last Mover, February 16, 2014 8:09

Mankiw turns the economic telescope around, looks through it backwards at the wrong end and declares the 1% earns what they are worth in terms of "risk taken" combined with "talent" and "compensation" necessary to deal with those risks in a "decentralized and competitive way".

Mankiw never asks the obvious question. Would the same work be done by the same players or other players for less, absent obvious entry barriers? To the extent the "work" in question is not adding economic value, only monopoly economic rent?

Mankiw further embarrasses himself by citing consumers willingness to pay the price to see for example, Robert Downey in action, for whom the $50M received for one movie is justified at only 3% of total box office take.

Mankiw confuses concentrated leverage of political and market power by the 1% - with leverage of true productivity that provides added value.

Let's take Mankiw at his word, shall we? Whatever someone earns according to others' willingness to pay, represents by definition what the earner is worth in terms of added value.

Likewise, if little or nothing is earned by the 99% when compared to the 1%, especially the unemployed and underemployed, demonstrated by how the 1% confiscated 95% of productivity gains since 2008, that obviously confirms the dominance of low talent, risk aversion and a justified life of near or outright poverty for the occupational career of 99 out of 100 Americans doesn't it.

There, that should take care of it. Case closed. You see, it's not those few obscene earners at the top that are the problem is it, the "winners" who are actually producing most of the added value.

No sireee. The problem is America is cursed with so many losers below the top 1%, the entire 99% in fact, milling around in their incentive-dulling counterproductive unearned "entitlements", to the point they now act like the monopolist Bill Gates, who won't stop to pick up a hundred dollar bill on the sidewalk because it's not worth his time.

Thanks for the explanation Greg Mankiw, of exactly what degree of inequality is necessary to keep a country like America going with added value by the real makers, to avoid falling flat on its economic face otherwise. Who would have known?
I think Brett has a point.
written by LSTB, February 16, 2014 10:13
Yes, copyrights have been extended and enforced better, but I fail to see how those two changes caused Downey, Jr.'s, earnings to go stratospheric compared to his peers' a few decades ago.

Sure, but-for the copyright he wouldn't make any money, but no one's going to care about Iron Man II even 20 years from now, so it's hard to believe his earnings are related to copyright extensions and enforcement.
...
written by AlanInAZ, February 16, 2014 10:22
Downey needs copyright monopolies to get rich. Without them, no one would pay him to be in the movies because they couldn't get back the money


That's true - but then there would also be no movies beyond home movies requiring no capital investment.
Presumptuous on a good day, blasphemous on a bad one.
written by Davis X. Machina, February 16, 2014 11:04
If the 1 percent are able to extract vast sums from the economy it is because we have structured the economy for this purpose. It could easily be structured differently, but the 1 percent and its defenders aren't interested in changing things.


To 'structure things differently' would be to question how He has chosen to distribute the good things of His creation to those He has chosen from the beginning of all time, as outward signs of His election. It would substitute our sinful human intellects and their fallible judgements for His judgements, which are true and righteous altogether.

When you look at a Jamie Dimon, and wonder about why he has so much, when others have so little, just say Deus lo vult and get back to your plow, and reflect that envy is one of the Seven Deadly Sins.
...
written by Doly, February 16, 2014 12:58
To be fair with Mankiw, his main point isn't so much that the rich deserve their money, but that people tend to be OK when actors, athletes and such get incredibly rich, and they aren't OK with CEOs being massively rich. Of course, some people are bothered by both. And let's face it, most people can imagine in their dreams how they could become themselves a famous actor, writer or athlete, even if they know it isn't really going to happen, but they would be hard pressed to imagine realistically how they could become a CEO. So it isn't so much that most people think very rich celebrities deserve their money... it's more like they want to imagine they could also become rich, and they're willing to forgive those people that seem to show an easier path to quick riches, and still being popular among most people as well to boot.
...
written by Brett, February 16, 2014 1:32
Sorry Brett -- Downey needs copyright monopolies to get rich. Without them, no one would pay him to be in the movies because they couldn't get back the money.


Most movies these days don't make back their entire budget from the theater box office, but Avengers was one of the ones which probably did. That means Downey still gets paid a ton, especially if he just demands more upfront money to make up for the loss of residual earnings from content sales later on.

That's why I specifically pointed to its success in theaters in places where foreign copyright protection is a joke and bootleg DVDs are on sale everywhere. As long as that happens, the studio makes money, and Downey gets paid - just like how actors get paid before any form of video recording existed outside of theater movies.
Nope -- if Copyright protection is a joke, then theaters pay Downey zero, zip, nada
written by Dean, February 16, 2014 1:38
Brett,

think this one through for a moment. If you insist that there are countries where copyright protection is a joke, then why are theaters paying Downey to show his movie. They would just show the movie, charge people to come through the door and not pay any money to the producers of the film. The fact that they do make payments can only be due to the fact that copyright protection is not a joke. They presumably few being fined and/or arrested if they were to show unauthorized copies of Downey's film.
Replacement cost
written by RRaccoon, February 16, 2014 3:58
The value of something is determined by its cost of replacement. If a no name actor could do it for 5 million, that'd what the production company would choose. It's his star power and ability to get people into the theaters that's makes him get paid so much.

Copyright laws are out if control and extending their life beyond normal time periods of before is silly. I think the profit on these blockbusters is made right away not because of copyright extension.

If someone writes a movie a book a play etc it should be protected. Now should there be a tax system that allows someone to be taxed at 50M the same as someone who earns. 50K? I don't think so.
...
written by Procopius, February 16, 2014 8:41
AlanInAZ, February 16, 2014 10:22 writes: "...but then there would also be no movies beyond home movies requiring no capital investment."

That's an interesting idea, but I think it's wrong. Here in Thailand about twenty-five years ago our two giant entertainment complexes were in despair. At the time music was generally sold on tape cassettes, and pirates were copying the cassettes and selling them for twenty baht (roughly one dollar). The legitimate companies were asking two hundred baht. One day someone had the bright idea of lowering the price. So the companies started selling their tapes for twenty-five baht. After all, they pay the performers peanuts because the performers make their money at live concerts and wanted to make the tapes to get wider exposure and name recognition. With a difference of only five baht, it turned out the public preferred to pay slightly more to get a legal, legitimate product. I think iTunes found something similar in the U.S.
...
written by Bud Meyers, February 16, 2014 10:27
According to the Social Security Administration, last about 95% of all wage earners paid Social Security taxes on 100% of their income (up to the $113,700 cap). There is no Social Security tax on capital gains, which were taxed at 23.8% last year—which is less than someone would pay on income in regular wages over $36,250.

And they pay cash for homes and cars and avoid paying interest on mortgages and auto loans.

Not to mention, I greater share (proportion) of our income is spend on basic necessities, inhibiting saving and investing.

http://www.ssa.gov/cgi-bin/netcomp.cgi?year=2012
...
written by Yury, February 17, 2014 12:24
Very much in line with "Schumpeterian model of top income inequality" by Jones and Kim -- inequality as a result of interplay between creative destruction and easiness to expand one's market share and retain it.
Reductio ad Jobsium
written by Andrew , February 17, 2014 7:03
Thanks Dean,

It's always nice to have fun with Mankiw (and Friedman). I'd like to take this opportunity to introduce the dog Latin term "Reductio ad Jobsium." Perhaps, it's already in use, but I haven't seen it.

Similar to the humorous Reductio ad Hiterlum -- the fallacy that consists of trying to refute an opponent's view by comparing it to a view that would be held by Adolf Hitler (http://en.wikipedia.org/wiki/Reductio_ad_Hitlerum), I suggest the use of Reductio ad Jobsium, the notion popular among pundits that doing anything to limit "growth," i.e. any change from the current system - and you America, you, won't have the next Steve Jobs. It is amusing to see how often the invocation of Steve Jobs is used in economic cheerleading for the status quo.



...
written by AlanInAZ, February 17, 2014 8:58
@Procopius

The point is that movies require very big upfront capital investment. You can fund poets and musicians with vouchers, but not large scale motion pictures without some sort of protection that ensures that the investment can be recovered.
Why couldn't large companies get lots of vouchers?
written by Dean, February 17, 2014 10:30
AlanInAz,

how do you know that people would not opt to give all or part of their vouchers to large companies that support how cost productions? And, if they don't, then why should that bother us? If you like large cost productions then presumably you would spend your voucher this way. If there aren't a lot of other people who have the same tastes, why is that a problem?
Mankiw should look himself in the mirror before defending the 1%
written by tendai kamba, February 19, 2014 10:21
I am surprised that DR Mankiw talks about the incomes of the wealth as justified deserts. I am a strong believer that the way certain people get remunerated is the because of how our political systems have designed institutions. Let me try to give an example of Dr Mankiw himself. I am sure that he has racked in millions of dollars from the sale of his favourite book. Oh wait a minute, did he create all those wonderful ideas by himself. Oh no he actually copied them from somewhere. His book is full of ideas that were funded by the tax payers through funding some of the research that were undertaken by some of the Authors who teach at public Universities. When these researchers generated the wonderful ideas, some had to pay as much as $100 to get their material published in the journals. After that they do not get anything for their brilliant ideas. Now come Mankiw who copies those ideas and summarise them in form of a book, only reward given to the generators of those ideas is an acknowledgment in the bibliography. Mankiw and his publishers go on to claim copyrights on stolen public knowledge. Now try to copy that book and distribute it on the internet, you will find yourself in a max prison in Colorado mingling with the worst offenders in our society. Now how about just deserts, Dr Mankiw should cut a cheque from the sale of his book to all the generators of ideas that he so eloquently acknowledge in the references. Until he does that, to me his article is just noise of a mosquito trying to suck blood from its victims, the public who are the rightful owners of the knowledge. We can say what we want about marginal productivity and all that, but to me a person who puts in a day’s work doing the most despised work, is the most productive one, he deserves a good descent wage to support their family and not have to suffer from want. He is the true hero in our society because he did not take from the public pace but he gave it call, sweat and blood.

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Dean Baker is co-director of the Center for Economic and Policy Research in Washington, D.C. He is the author of several books, his latest being The End of Loser Liberalism: Making Markets Progressive. Read more about Dean.

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