The Advisors' Blog

– Broc Romanek, CompensationStandards.com

This Harvard Business Review piece entitled “The Factors That Lead to High CEO Pay” includes a graphic illustrating the pay ratio variance among 16 countries that is jarring. Here’s an excerpt:

The reasons why the disparities vary country-to-country are complex, according to a recently accepted paper for the Strategic Management Journal by LSU E.J. Ourso College of Business professor Thomas Greckhamer. A social scientist, Greckhamer attempts to identify combinations of factors on a country-by-country basis that either widen or narrow the pay gap between CEOs and workers. Using data from the IMD World Competitiveness Yearbook from 2001, 2005, and 2009 for 54 countries, he also configured a model featuring power structures he expected to influence compensation, based on prior research of determinants of executive pay.

His conclusions aren’t neat and tidy, but a few things stand out: A country’s level of development matters for workers’ compensation, but not so much for CEOs’. A country that has a high deference for power will probably have higher-paid executives. And the political strength of the labor movement matters. But you also can’t isolate a single one of these factors as the determinant of income inequality.

To better understand how he got these findings, it’s worth laying out the eight compensation-influencing factors used by Greckhamer in his analysis:

1) A country’s level of development. This is important for a variety of reasons he describes in-depth, though the basic point is that high development should result in less income inequality, with both CEOs and workers making more.

2) The development of equity markets. The more developed markets increase ownership “dispersion,” or the number of people who own shares in a company. Greater dispersion, writes Greckhamer, “implies reduced owner-control, which should increase CEOs’ power to allocate more compensation for themselves.”

3) The development of the banking sector. The more concentrated the sector is, the more that should “monitor and control firms and thus constrain CEO power and pay.”

4) Its dependence on foreign capital. When foreign investors have influence over a company’s stock, it can boost income inequality.

5) Its collective rights empowering labor. This is basically collective bargaining rights, which are “a vital determinant of worker compensation” according to Greckhamer, and can also potentially limit CEO pay.

6) The strength of its welfare institutions. Their job, of course, is to “intervene in social arrangements to partially equalize the distribution of economic welfare,” which generally means lowering CEO pay and increasing that of regular workers.
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7) Employment market forces. In other words, the supply and demand for executives’ and workers’ skills.

8) Social order and authority relations. Greckhamer describes this as “power distance,” which basically means “the extent to which society accepts inequality and hierarchical authority.” A high power distance tends to lead to high CEO pay and low worker pay.

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