The Determinants and Effects of CEO–Employee Relative Pay

47 Pages Posted: 8 Jun 2012 Last revised: 5 Dec 2012

See all articles by Olubunmi Faleye

Olubunmi Faleye

Northeastern University - Finance Group

Ebru Reis

Istanbul Bilgi University

Anand Venkateswaran

Northeastern University - Finance and Insurance Area

Date Written: April 2012

Abstract

We study the determinants and effects of the relative compensation of top executives and lower-level employees. First, we show that CEO–employee pay ratio depends on the balance of power between the CEO (relative to the board) and ordinary employees (relative to management). Second, our results suggest that employees do not perceive higher pay ratios as an inequitable outcome to be redressed via costly behaviors that lower productivity. We do not find a negative relation between relative pay and employee productivity, either in the full sample or in subsamples where employees are well-informed about executive pay and are protected against retaliatory managerial actions. Rather, we find that productivity increases with relative pay when the firm has fewer employees who are well-informed, and when promotion decisions are predominantly merit-based. We also find that firm value and operating performance both increase with relative pay. We conclude that ordinary employees appear to perceive an opportunity in higher pay ratios but the extent to which such perception incentivizes them depends on the likelihood of success in a promotion tournament.

Keywords: Employee incentives, productivity, pay ratio, executive compensation

JEL Classification: D24, G34, J33, L14

Suggested Citation

Faleye, Olubunmi and Reis, Ebru and Venkateswaran, Anand, The Determinants and Effects of CEO–Employee Relative Pay (April 2012). Available at SSRN: https://ssrn.com/abstract=2079369 or http://dx.doi.org/10.2139/ssrn.2079369

Olubunmi Faleye (Contact Author)

Northeastern University - Finance Group ( email )

Boston, MA 02115
United States

Ebru Reis

Istanbul Bilgi University ( email )

Eski Silahtarağa Elektrik Santralı
Silahtarağa Mah. Kazım Karabekir Cad. No: 1 Eyüp
Istanbul, 34060
Turkey

Anand Venkateswaran

Northeastern University - Finance and Insurance Area ( email )

Boston, MA 02115
United States

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