Why The Dike Leaks

Why The Dike Leaks: Problem solving and executive compensation, by Mark Chussil
When a dike leaks, the problem is not that someone has to stick a finger in it. The problem isn’t that the obvious response — stick a finger in the leaking dike — is only effective for a little while. The problem is that the dike is leaking.

Executive compensation is top-headline news these days. It commands the attention of the President and Congress. It’s an attractive problem, full of righteous indignation, handy villains (“them”), and clear action plans. And although I’m not against “solving” it, I suggest that it’s not the important problem.

Let’s imagine that the executive-compensation problem has been solved to your satisfaction. Legislation has been enacted, paychecks have shriveled, remorseful CEOs have issued their mea culpas, defiant CEOs have left the building, resilient CEOs have gotten back to work. Or CEOs remain free to negotiate whatever deals they want with their boards of directors. Or something else. Whatever you believe is the perfect solution, so it shall be done.

Now that we’ve handled executive compensation, is the economy back in order? Are we all back to work? Are our retirement funds healthy again? I don’t think so.

Whatever we do with executive compensation, it is the equivalent of sticking a finger into a leaking dike. Giving executive compensation the finger may stop a disturbing (cash) flow, but the dike is still structurally unsound.

(We may want to cut compensation and super-sized bonuses on other grounds, such as the impropriety of using taxpayer money to make bailout beneficiaries rich. That’s a different issue. Let’s not think, though, that cutting compensation makes executives more competent, or less.)

The economy is not in trouble because executives got paid too much. The economy is in trouble because executives (and others in their companies, and people in government, and even we the consumers) made bad decisions. Not just a few executives and not just a few times.

Why did so many people make so many mistakes?

I have written eloquently about problems in corporate decision-making. (See, for example, “With All This Intelligence, Why Don’t We Have Better Strategies?,” “What You Pay For,” “It’s Working!,” and “Suffering was Optional.”) What those essays have in common is that they describe ways in which sober, dedicated business professionals are systematically misled by the tools of the trade. Spreadsheets, for instance, say nothing about competition. Trend lines extrapolated from the past are irrelevant if the future is unlike the past. Doing whatever it takes to make the numbers makes us look good and the performance targets look reasonable even if we hit them by eviscerating the company. (Update to this post: see “When Goal Setting Goes Bad,” an interview with Professor Max Bazerman of the Harvard Business School.)

As I suggested in “To Bail or to Bail Out,” it would be useful — more useful than capping executive compensation, though they are not mutually exclusive — to require the auto industry to use techniques such as business war-gaming as a condition of receiving public funds. War-gaming and other strategy simulations help companies create better strategies, and they would raise the odds that taxpayers will be repaid. I would advocate the same for other industries wanting public assistance. I believe in business war-gaming because I’ve seen it work in the 100 or so that I’ve conducted for Fortune 500 companies.

The point isn’t business war games, though, and if you prefer a different technique that’s fine with me. The point is that we need to get better at decision-making, not dike-plugging. More of the same, only better, won’t do. (See “Precision In, Garbage Out.”) Sticking a finger in the executive-compensation dike merely guarantees we’ll be the first to go underwater when the dike breaks.