18th February 2012: Human Capital & Superstar Economics

We Are All Witnesses (Nike)

 

Crikey‘s Ben Eltham has caused a debate with his insightful analysis on Michael Brand, the new director of the Art Gallery of New South Wales:

 

The sheer amount of money washing around global art markets helps us to understand how a gallery director such as Brand can be worth nearly half a million dollars a year. There is in fact an international market for top curators, many of which can all expect to earn comfortably more than the rates Australian galleries pay.

 

Eltham and I did a similar analysis in 2010 of Australia’s film industry. Successful fund managers also have a similar dynamic due to the 2 and 20 norm: 2% of total asset value (management fee) and 20% of any profits.

 

I read Eltham’s analysis the same day as sections of the late Fischer Black‘s book Exploring General Equilibrium (Boston: MIT Press, 2010). Two relevant sections stood out immediately on human capital:

 

What is special about human capital is that people mostly own their own human capital, with all of its specific risks. They could diversify or hedge out some of these risks by trading in shares of physical capital, but as Baxter and Jermann (1993) note, they generally don’t. (p. 69).

 

The normal career path involves many job changes — some within a single firm, and some between firms . . . Careers advance faster in good times than in bad, as investments in human capital, particularly through learning by doing, pay off. (p. 102).

 

Black’s macroeconomic analysis provides some context for Eltham’s critique of Brand’s salary. In two paragraphs, Eltham summarises Brand’s “first-class academic credentials” and “stellar career path.” Brand’s career advanced quickly because he made a series of excellent choices about selecting and delivering on projects, changing galleries, and building a significant body of exhibition work. In doing so, Brand diversified his human capital in a similar fashion to the professors I know who have changed universities in order to get promoted.

 

For Eltham, global art markets provide the context for “a top international director like Brand” to command a premium. The reason, Black suggested, was that “Uncertainty in both tastes and technology makes investments risky, and gives us a frontier of choices among different combinations of expected payoff and risk” (p. 126). The Art Gallery of New South Wales is willing to pay Brand a premium to lock-in his expertise and make the optimal choices for future art exhibitions.

 

Brand’s situation contrasts with university academics who lack the benefits of superstar economics. Academic contracts are defined by a university’s minimum standards for academic levels (MSALs) and by promotion committees. Academics rarely have control of their intellectual property or a share in future revenues from their work: they are forced to assign these rights to global publishing conglomerates. The market for competitive grants is a government-controlled oligopoly that requires a substantive publication track record. Academics who don’t build this cannot hedge their own human capital risk (or exposure to disruptive innovations). Collectively, these conditions place a cap on academic contracts in contrast to Brand and fund managers. The exception is professors who gain in a ‘winner-takes-all’ environment whilst their colleagues are on short-term contracts.

 

Things may change if International Creative Management, Creative Artists Agency or WME work out how to extract greater value in human capital from academic superstars.