Beyond the Raging Blowback over Bailout Bonuses

After the fury dies down over the bonuses paid to executives of American International Group (AIG), policymakers and business leaders will have to confront a key question: Will the big tax bites proposed in Congress undermine the recovery?

On Mar. 19 the House of Representatives overwhelmingly passed a 90% tax on bonuses received by AIG and other large bailed-out financial institutions. The Senate is also considering hefty taxes on employees and companies in a bid to whittle down what many congressmen say are garish payouts. The rapid-fire legislation came after disclosure that AIG had handed out $165 million in bonuses to employees of the very unit that sent the company to the edge of bankruptcy.

But Pearl Meyer, a compensation consultant with Steven Hall & Partners in New York, warns that the bills will ultimately hurt the very companies the government is trying to save—and in which taxpayers now hold significant stakes. She sides with critics who say executives at the financial institutions will be difficult to retain if shorn of bonuses, which often are paid in lieu of high salaries.

Would Needy Companies Shun Bailouts?

"There is a strong probability that people won't be attracted to positions of responsibility in such enterprises," Meyer said, adding that the tax would affect not just decision-makers at the top but also numerous junior employees with no role in units that caused the institutions' problems. "It's a very blunt instrument."

Others warn that the measures—and the public flaying administered last week to AIG executives—will discourage financial institutions in marginal condition from seeking federal aid. That could prolong the financial crisis and recession.

But Democrats, and many Republicans, scoffed at those criticisms.

"I remain very skeptical that retaining and rewarding people who made the mistakes that contributed to the unsatisfactory performance is a good idea," said House Financial Services Committee Chairman Barney Frank (D-Mass.). "Further, in this troubled economy, and in this job market, it is difficult to imagine that the companies would not be able to find competent and talented replacements for anyone who chooses to leave."

Geithner Will Survive, "Weakened"

A few Republicans have called for the resignation of Treasury Secretary Timothy Geithner over the bonus issue. President Barack Obama and congressional Democrats have defended Geithner. Dan Clifton, an analyst with Strategas Research Partners in New York, predicts that the attacks—at least on that issue—will subside.

"Geithner is likely to survive, in our view, but in a weakened political position," Clifton said.

Meyer said business people she speaks with hope the bills will be pared back, believing they were "enacted in the heat of the moment." Clifton suggested in a Mar. 20 research report that cooler heads will not necessarily prevail.

"Good political theater and sound financial-system restructuring appear mutually exclusive now," Clifton said.

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