CEO pay ratios and a new source of inequality data

This past Wednesday the U.S. Securities and Exchange Commission approved a rule included in the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 that requires public companies to calculate and then disclose the ratio of their chief executive officer’s compensation to the compensation of their median worker. The rule has been five years in the making and has been quite controversial. The regulation passed by a vote of 3 to 2. The future impact of the regulation on the actions of corporations and their pay setting is unknown and up for debate. But what we do know is that it’ll produce a lot of new data.

The fact that a rule that just discloses information about pay has taken five years to pass amid controversy says quite a bit about the potential for future policy action on executive pay. As Neil Irwin argues at The Upshot, the riven opinions on the merits of the rule are indicative of the debates about the reasons for swiftly rising executive compared to what workers at the midpoint of the pay scale at public companies are earning.

One side of the debate argues that rising executive compensation is merely a reflection of market dynamics. CEOs are paid so much more because they are increasingly more important in a globalized world with larger companies. Reduce their pay and they’ll go elsewhere. The other side of the debate claims that executive pay is not entirely determined by executive skill and that in some firms executives can set their own pay. Though in both cases, the question is not whether lower executive pay will cause executives to flee, but rather if firms can pay a lower compensation and get the same level of talent as Dean Baker at the Center for Economic and Policy Research points out.

Jordan Weissmann at Slate is skeptical than increased information about compensation inequality within firms will do anything to reduce executive pay. He’s skeptical that consumers will change their purchasing decisions based on the new information or that investors and board members will care either. On that second front, perhaps the “amoral” investors don’t care because they haven’t seen any indication that inequality within individual firms affects business outcomes in anyway. The new data might be fuel for research that shows whether it does.

Consider research that shows workers are more productive when they know their relative place within a firm’s pay structure. Then again, other research shows no effect. The new data created by the rule could help economists and market analysts evaluate that question.

And then there’s the on-going debate about the relative roles of rising inequality within firms and inequality between firms. This new data on within-firm inequality won’t be able to answer questions about the rise of income inequality in the past. But it may be useful in research detailing the existing state of income inequality and its progression going forward.

Whether or not the simple disclosure of pay ratios will affect executive pay policy in the short term is up for debate. But in the meantime, the disclosure of new widely available data on within-firm pay might help move the debate forward.