By Harry Garretsen and Janka Stoker *

(exechange) — September 1, 2021 — Compared to the average worker, CEO pay has skyrocketed over the last 30 years.

According to the Economic Policy Institute (1), the ‘CEO-to-typical-worker’ compensation ratio in the U.S. now stands at 351 to 1.

In 1989, the same ratio was only 61 to 1.

This widening pay gap is also present in other countries.

Moreover, it seems to have continued through the COVID-19 crisis. (2)

The fact that CEOs earn more than the average worker is not very surprising; a CEO makes strategic decisions and carries more risks.

But the huge increase in pay and hence the compensation ratio is difficult to justify because luck plays an important role in the performance of CEOs. (3)

Consequently, exceptional achievements are by definition finite and hard to attribute to individuals.

This temporary nature of success applies to firms as well.

Several successful firms of yesteryear no longer even exist, and the list of largest firms in the world in 2020 looks totally different from the one for 2000. (4)

These insights should encourage boards to rethink and buck the current trend in CEO pay.

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(1) https://www.epi.org/publication/ceo-pay-in-2020/

(2) During Covid, The Biggest Global Companies Got $4.5 Trillion Richer (https://www.bloomberg.com/graphics/2021-biggest-global-companies-growth-trends)

(3) Fitza, M. A. (2014). The use of variance decomposition in the investigation of CEO effects: How large must the CEO effect be to rule out chance? Strategic Management Journal, 35(12), 1839-1852.

(4) What happened to the world’s “greatest” companies? (https://www.mckinsey.com/business-functions/strategy-and-corporate-finance/our-insights/the-strategy-and-corporate-finance-blog/what-happened-to-the-worlds-greatest-companies)

 

* The writers are professors at the University of Groningen and directors of “In the LEAD.”

Editor’s note: This is a guest post.