More Unintended Consequences: CEO Pay

From American Enterprise Institute via Isegoria via a William Briggs tweet (phew!). Not sure I buy that this is the complete story, but it seems to me that, given human nature – especially of the board of directors who would be accusing themselves of incompetence if they were to admit their CEO, the guy they picked to lead the company, was not at least average – that this accounts for much of the boom in CEO salaries.

Sometimes, true explanations are just this petty and stupid.

On multiple occasions the SEC [Securities and Exchange Commission] amended its rules to increase the disclosure of compensation data and to force boards to explain their rationale for the amounts. That, combined with the influence of the arbiters of corporate governance, created an inviolable requirement for compensation committees to be advised by consultants. A perfect recipe for increasing compensation.

Let me explain in my own case. I asked only that I be paid at market for my position and performance, and that my compensation be very heavily weighted to performance. Henceforth, I could rely on our consultants to provide essentially perfect market data on comparative compensation, accompanied by recommendations appropriate in light thereof, and there was really no need for much discussion or worry as long as our company was successful.

You can guess how it works. No board that isn’t about to fire its CEO really wants to admit that their CEO is a less-than-average performer by paying him or her less than average. But if the lowest-paid CEO’s are always being brought up to the average, then the average increases every year. Then for the high performers to be paid well, their compensation needs to be increased, but that raises the average… and so on every year. And the compensation committee and the board always have this market data before them, the recommendations of their consultants and “best practices” to adhere to. These influences are not easily resisted. You see the result.

Like many regulatory unintended consequences, it’s hard for me to see an easy way back. But it’s more than an academic question if you are a director serving on a compensation committee.

Read it all at the various sites linked above.

One of the most common shortcomings of modern discussions is the inability of many people to imagine themselves in the positions of those they want to judge. The most egregious example is National Socialism – those guys were just evil, not at all like us. Unlike the evil and twisted German professional classes in which Nazism flourished – you know, lawyers, doctors, teachers, bureaucrats –  our professional classes are nothing but sweetness and light, and would never fall to the peer pressure and demagoguery that those evil Germans fell for.

Right. We don’t have to worry about falling for demagoguery and peer pressure because we’re fundamentally better people than your typical 1930s German dentist. I wish I were kidding, and that people don’t actually think this way…

Here, a much less inflammatory example: if we somehow found ourselves in a nice cushy Board of Director’s job, we would never fall for all this gotta pay our CEO at least average CEO pay pressure, because enlightened! Instead, we’d resign! Or fight for a lower salary, then watch our CEO quit for a better-paying job, and then have to hire somebody else – at above average pay, or else we’re admitting we can’t find an above-average candidate….

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Author: Joseph Moore

Enough with the smarty-pants Dante quote. Just some opinionated blogger dude.

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