The Sensible and Sympathetic Mr. Smith

No, not Mr. Brad Pitt Smith.

The Mr. Smith to whom I’m referring is Adam Smith, whose ideas about free-market competition are associated with the belief that self-interest brings about a healthy economy. His book, “The Wealth of Nations,” is often referred to as the text or prescription for laissez-faire capitalism. “It is not from the benevolence of the butcher, the brewer or the baker that we expect our dinner,” Smith wrote, “but from their regard to their own self-interest.”

The above quote is from my favorite local newspaper columnist, Diane Cameron, who, yesterday, had a piece about Adam Smith, since it was his birthday.

She goes on to say:
Adam Smith did understand that. While he wrote about the importance of self-interest, we forget that he was neither a politician nor an economist, but rather, by training and practice, a moral philosopher. He never advocated not caring for the poor; he presumed that a community — whether that meant a village or town or a country — took care of its needy. Smith made his name with another book before “The Wealth of Nations.” His first book was “A Theory of Moral Sentiments,” written in 1759, in which he described the role of sympathy in society and advocated for the need of it to maximize the “efficiency of care in a community.”

Smith’s favorite metaphor, the “invisible hand,” came from that earlier book in which he presumed a basis of equality among men. It was that emphasis on equality that made his books bestsellers in the American colonies and, hence, still part of our political consciousness.

Smith believed that “there is no place for privilege and class” in a moral economy. In Smith’s scheme, wealth meant not just business and prosperity but also charity, generosity, compassion and modesty: having a sense of what is enough.

On the same page as Cameron’s article commentary is a piece by George Richardson of the Rockefeller College of Public Affairs and Policy, “Waging a Ratio.”

Richardson suggests a way to a achieve a more equitable wage structure in which the minimum wage is tied, by a ratio, to the salaries of top CEOs. He suggests:
There are those who are troubled by soaring top management salaries while the purchasing power of average and minimum wages erode. It seems both immoral and unstable for a society to drive such a growing gap between its rich and poor. And it is a dramatic example of a kind of market failure: Top management compensation appears to be a runaway cost. The phenomenon cries out for solutions that help to control the growing disparity between rich and poor, and reduce the compensation strains on corporations without harming the strength of our economy.

So what should Congress do? Rather than focusing on short-term, stopgap maneuvers increasing the minimum wage by $1 or $2, or even $3 an hour, Congress should reach for a policy that solves both the minimum wage problem and the inequity problem once and for all, without constraining the ability of anyone to make as much money as possible.

The solution is to substitute for the minimum wage a “minimum wage ratio,” or if you prefer, a “maximum compensation ratio.”
Here’s how it might work: Congress could establish a standard for the maximum ratio of top corporate compensation to the wage and benefits package of the lowest paid worker in a firm. We could take the standard that existed in the 1970s and say the maximum compensation ratio in every firm cannot exceed, say, 30. If that’s perceived as too low (so 20th century), set the maximum ratio at 40, or even 50. But set it, and enforce it through the income tax machinery. We would then have a federally mandated “minimum wage ratio.”

To raise top management compensation, a firm would have to raise the wages of its lowest paid workers. There would be no limit, of course, to how high any wages could go. The lowest and the highest would just have to stay within the ratio.
Congress could set the ratio and forget it. No need for periodic updates, as with the minimum wage. No periods of declining purchasing power for those on the minimum wage, unless everyone is experiencing that. The policy is self-adjusting.
There are problems to work out about how such a policy could be implemented — how to value stock options, how to handle sports and entertainment salaries, how to prevent corporations from gaming the policy, and so on. But it is time to recognize that periodic boosts to the minimum wage are like pushing on a string. They don’t solve many problems in the short run and may even create some.

It’s time to stop thinking about pushing on that string, and switch to pulling on it from the other end. We should work through the implementation puzzles and set a federal minimum wage ratio policy — a maximum compensation ratio — and set a self-adjusting standard for wage equity that re-establishes rationality in wages and compensation packages and is a model for equity and efficiency for the world’s economies.

I’ll bet that Adam Smith would have liked Richarson’s sensible and sympathetic solution.

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