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In Defense of the CEO Salary
Posted by: Jon Henke on Wednesday, December 19, 2007

Megan McArdle makes a far more compelling argument about CEO pay than do the "Corporate Greed!" busybodies. I'll highlight the points I find particularly compelling...
This Eugene Fama interview is a must-read if you think you've got the goods on EMH. ... I'll zero in on his comments on CEO pay:

Region: Another issue those papers touched on was compensation of CEOs, a controversial question in recent years. How do you view the suggestion that some CEOs are overcompensated?

Fama: If the [compensation] process gets captured by the CEO, then it can get corrupted. But if what you’re seeing is a market wage, then I don’t know why you would say it’s too high. If it’s a market wage, it’s a market wage. I don’t know of any solid evidence that the process was corrupted. So my premise would be that you’re just looking at market wages. They may be big numbers; that’s not saying they’re too high. It’s easy to say that people are paid too much, but when you’re on the other side of the fence trying to hire high-level corporate managers, it turns out not to be so easy.
[...] Contrary to popular belief, CEO's are not driving inequality trends; there are too few of them, and they aren't paid that well. Nonetheless, they are much better paid than they used to be, and one wants to know why. Have the returns to having a good CEO gotten so much bigger? Is the supply of CEO's being outstripped by the demand? That latter case is pretty hard to make; there are actually slightly fewer public companies listed on the various exchanges than there used to be, and the population has grown rather rapidly.

I find Paul Krugman's argument that CEO's have simply gotten greedier, while the rest of us have become more greed-tolerant, less than compelling. Explanations I do find compelling:

1) Falling tax rates have increased the bang one gets from one's CEO salary buck

2) The size of public companies is bigger; CEO's are essentially taking a fixed piece of a larger pot

3) Being a CEO is riskier than it used to be; executives are more likely to be forced out

4) Stock options have disguised the true cost of compensation, boards spend them with the casual disregard of a tourist using a strange currency

5) Deregulation and globalization have made the economy more competitive, which means that CEOs matter more. Thus, it is more important to actually have a talented CEO, which results in a bidding war for a limited supply of human capital.

6) Advances in financial markets offer an alternative way to get really, really rich; CEO pay is bidding against Wall Street salaries for talent.

7) Deregulation means that boards are no longer afraid of attracting unfavorable government attention with lavish executive salaries.
As is the case in professional sports, more overall wealth and greater competition for that wealth produces a sort of salary/talent attenuation - the top-tier talents attract disproportionately more income, because the competition for that last little marginal edge in talent is so fierce. Michael Jordan wasn't 20 times better than a playing making $1.5m per year, but that marginal advantage he did have made him far more valuable than the rank and file NBA player.
 
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Micheal Jordon created an immense amount of revenue for the team, club, city and sport (NBA). I would have to believe that if one broke down his salary as a percentage contribution to the "NBA Economy" he is actually getting paid far less than the journey man player. Look at old golden balls he can triple a clubs revenue just by joining the team. Look at my old CEO everyone screamed when he took home a 55mil salary but he had just cut 1 Bil from the bottom line.
 
Written By: coater
URL: http://
Jordan got the ball more because he was somewhat more talented. That skewed his visibility and stats and made him a rockstar. His was paid as much or more for his celebrity than what his skill actually contributed. Michael Jordan actually at least had some talent.

I don’t see the talent in many CEOs. Too many stories like the Enron or Kmart CEO who faced charges of corporate looting.

I have trouble with a rockstar mentality applied to CEOs because its driven partly by stock speculation. But it isn’t just the stockholders because their salaries are high and stay high even when the company is doing bad unless there is a major uproar.

I didn’t understand this until I learned that many CEOs were board members for other companies. A mapping of board members and CEOs for the fortune 500 looks like a schematic of company’s computer network from all the ’incest’. In many cases, they are literally giving each other raises.
 
Written By: jpm100
URL: http://
A mapping of board members and CEOs for the fortune 500 looks like a schematic of company’s computer network from all the ’incest’. In many cases, they are literally giving each other raises.
Is there any evidence that this phenomenon is greater today than it was 50 years ago? The only thing I can think of is that Sarbanes-Oxley requires a ?majority? of outsiders on a company’s board, but that (as with many of government’s "good intentions) was supposed to make things better by getting rid of insider-dominated boards.
 
Written By: m.jed
URL: http://
Stock options have disguised the true cost of compensation
I once heard (but never heard it repeated) that during the 90’s, there was the biggest transfer of equity in the history of man. This transfer was all based on stock options. Stockholders, for the most part, never realized that their holdings were being devalued by the mass transfer of equity to management via stock options.

The reason for the increased use of stock options can be traced back to the Clinton "millionaire’s tax", a tax that put a surcharge on anything made by "company CEOs" over $1 million (Hollywood and sports figures were exempt, talk about special interests).
 
Written By: Neo
URL: http://
CEO probably work 120 hours a week, never see their families and have huge stress trying to manage 10,000 employees in 10 countries. Oh, and you’re responsible for everything.

I doubt this is a job that really a lot of people want. And of course those hiring CEOs won’t give you a shot unless you have some serious experience, so there could be a funnel effect where they can only choose from the top of the pyramid.
 
Written By: Harun
URL: http://
As is the case in professional sports, more overall wealth and greater competition for that wealth produces a sort of salary/talent attenuation

Don’t you mean amplification? Attenuation is the reduction of intensity (amplitude) of a wave passes through a medium. You want to say the salary to talent ratio is getting larger rather than smaller, right?
 
Written By: Kolohe
URL: http://
Kolohe - Perhaps he’s thinking in terms of the top of a pyramid, rather than a wave.
 
Written By: Bryan Pick
URL: http://www.qando.net
Yep, Bryan is right. The pyramid starts short and fat, but grows taller, longer, more attenuated. Unlike a pyramid, though, it doesn’t necessarily progress evenly to the top.
 
Written By: Jon Henke
URL: http://www.QandO.net

 
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