Bankers' salaries #2: some thoughts upon competition and game theory

Hello,

This is a continuation of the previous post on bankers' salaries. The blog post by Robert Peston that I highlighted touches upon an interesting point that I wanted to consider more fully.

Part of what Peston's post suggests is that the problem with lower said salaries lies with the risk to one's own institution. As I said previously, if you are offering your employees less than what they could get elsewhere, so the theory goes, you risk losing the best and brightest to your competitors.

Now Peston draws a comparison with English Premier League football clubs here and salary inflation that's worth following up upon. His argument is that the average salary for a Premiership footballer is now largely divorced from actual performance. This is what has, for better or worse, created the situation we now see in the EPL: a league of three parts (those who can afford to lead, those who can afford to stay, and those who can with some risk afford to take part). 

We can extent this parallel further. Essentially now clubs like Manchester United are the AIG of the footballing world. Despite the level of debt that the Glazers took upon the club when they purchased it, it is in no-one's interest for United to fail. Much the same can be said of Chelsea, Arsenal, Liverpool (increasingly less so there), Manchester City and possibly Tottenham Hotspur and Newcastle.

Yet United, especially, are despite their power trapped by circumstances. To be able to afford to do what they're doing, they need to keep on winning. To afford to win, they need to keep on doing what they're doing.

It's this that interests me. Part of what I'm doing for my thesis involves looking at Anglo-German relations in the early 20th century (1905-1914). Diplomatic relations between  countries are complex things; since the advent of Pluralistic International Relations theory (1960s/70s I believe), they have tended to be thought of as happening across multiple levels. What I'm looking at though is defence relations. These were characterised by one series of events: the Anglo-German (naval) rivalry of 1906-1914.

Basically put, British strategic doctrine of the time rested on a loose policy called the 'Two Power Standard'. What this meant in practice is that at all times the Royal Navy should have the capacity to defend the Home Islands and the Sea Lanes of Communication (SLOCs) against the conceivable enemies of the Crown. Especially important was the Home Waters (those around the British Isles). Now in the late 19th and early 20th centuries, Germany began to build a major 'High Seas Fleet' that threatened to usurp British domination of the North Sea/Channel/Western approaches region.

This was not the sole cause of the First World War, but it played a considerable part in starting it. Both sides began to build ships up and beyond what was, malcontents argued, necessary for national defence. Efforts were made to encourage a reduction in armaments, but crucially neither side trusted the other enough for it to work.

There rests the nub of the matter. How do you encourage a manoeuvre that both sides will benefit from, but if one side takes independently will threaten their position? I would suggest four possibilities -

1. Do it anyway: And place your money on your potential opposition being brow-beaten by international/domestic pressure into following you.

2. Start small: One of the reasons the 1993 Oslo Accords between the PLO and Israel worked is that both sides started negotiating on relative small details before working their way up to the bigger picture. Thus a culture of compromise is created, and in ironing out the small issues frequently the larger ones are compensated for as well.

3. Agree to trust and verify: The SALT talks between the USSR and the USA in the mid-1980s were underlined by the shared principle to allow observers from each country to report on the other's decommissioning. The initial attempt at trust was underlined by actual verification.

4. Appoint a neutral referee: Switzerland or the nearest relative equivalent is normally good.

Why bother at all? Because if you don't the situation tends to escalate and the entire system in which you're working is threatened.