Wall Street pay cuts ordered by Treasury

Washington's attempts to curb some high executive pay may represent profound government intervention in the decisions of private companies.

But given America's mood – with voters outraged at some huge Wall Street bonuses in the midst of recession – Thursday's actions by the Federal Reserve and the Treasury may have been inevitable. The Fed and Treasury will try to curtail compensation at firms where the US has leverage.

"Absolutely this is a response to political pressure," says J.W. Verret, a corporate-compensation expert and assistant professor at the George Mason University School of Law in Arlington, Va.

On Thursday, the Treasury Department announced that it is ordering the seven big companies that have yet to pay back government bailout cash to cut the total compensation for top executives in half.

Some individuals may see their pay package reduced by up to 90 percent. Lush perks like corporate jets and free country-club memberships may be out.

The pay cuts take effect next month. According to Treasury pay czar Kenneth Feinberg, the government did not want to make executives return compensation already received.

The firms in question are AIG, Bank of America, Citigroup, General Motors, GMAC Financial Services, Chrysler, and Chrysler Financial. They will be under the compensation caps until they pay back all the money that the government lent them under bailout programs.

"It does offend our values" when executives reap big pay after being rescued by the government, President Obama said.

Separately, the Federal Reserve announced a sweeping plan to try to ensure that thousands of US banks, including many that never accepted a bailout, don't encourage employees to take the sort of reckless gambles that helped contribute to the financial crisis.

The Fed program does not involve hard pay caps. Rather, regulators will review compensation programs to try to make sure they reward long-term performance instead of short-term goals.

"Compensation practices at some banking organizations have led to misaligned incentives and excessive risk taking, contributing to bank losses and financial instability," said Fed chairman Ben Bernanke.

These efforts may be unprecedented. Not since industry and government worked hand in hand during World War II has Uncle Sam had such say in day-to-day firm operations.

"I'm not sure there's ever been anything like this," says Professor Verret of George Mason.

He's also not sure it will ensure stability of the financial system. Capping pay does not attack the problem of moral hazard, for instance, in which those who run big firms think that the government won't let them fail because they are too crucial to the economy as a whole.

"There's been a misguided attempt to link executive compensation with the financial crisis," he says.

In addition to capping pay at firms that still owe the government money, the Treasury Department is pushing some corporate-governance reforms onto these firms, including a forced separation of the positions of chief executive and chairman of the board.

These actions represent major change, says Espen Eckbo, director of the Center for Corporate Governance at Dartmouth College in Hanover, N.H.

"I was surprised at how far they went" in ordering corporate-governance reform among the bailout firms, says Mr. Eckbo.

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Bank of America’s Ken Lewis has agreed to a $0 pay package, which was announced last week. Click here to read more.

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