Since perverse pay incentives led to reckless, fraudulent banking that caused the 2008 financial crash, Congress approved a package of compensation reforms as part of the 2010 Dodd-Frank Wall Street Reform and Consumer Protection Act. One of these requires corporations to disclose the ratio of the CEO’s pay to that of the median paid worker in the firm. Among other merits, it lets investors understand better the incentive dynamics within a company.
“If your boss made your annual salary in less than a single day, how would you feel? Demoralized? Disgusted?” That’s a question from Rep. Keith Ellison, (D-Minn.) in a new report compiling the results of the first 225 Fortune 500 companies to report the ratio. The reform applies to all companies that sell stock. The rule just came into force, requiring firms to disclose the ratio for the year 2017.
Ellison championed the rule as it navigated a thicket of corporate opposition during deliberations by the Securities Exchange Commission, the agency charged with implementation. While this simple disclosure might not seem a potent device to reform corporate pay, the fierce opposition by corporations argues otherwise.
It’s important for investors to judge whether the workforce may be demoralized by gaps in pay, as that might translate into productivity. Will an engineer work weekends knowing that the profits will disproportionately enrich the CEO? Will a clerk cut a lunch break short? It’s also important for policy makers such as Ellison concerned about income inequality, which is unjust as well as a drag on the economy.
Some results contained in Ellison’s report stagger: The CEO of toy-maker Mattel makes 4,987 times what the median paid worker takes home. That means that this individual would need to have begun work nearly 3,000 years before Romans occupied Jerusalem through to today to make as much as the CEO makes in one year. We learn that the median paid worker at McDonalds makes $7,017 a year. Wal-Mart employs 2.3 million workers. Of these more than 1.1 million make less than $19,177 a year.
The average pay ratio among all 225 companies is 339:1. That means the CEO makes by early on Jan 2 what it takes a whole year for the median paid worker to earn.
These results make granular the broader concentration of income with the elite. “In the 1970s, the top 1% of families earned less than 10% of the total national income earned by all workers,” observes Ellison. “Today, their share is greater than 20%.” Two thirds of this 1% are households with a corporate executive. That means the fruits of the labor by those engineers and clerks increasingly goes not to them, but to the CEO.
It’s not true outside the US. “CEO pay in the United States is also far out of line with CEO pay in other countries,” notes Ellison. “The average U.S. CEO makes more than four times the average pay of a CEO abroad.”
Ellison’s report also urges use of this ratio for reforms. In Portland, Oregon, for example, the city council created a tax penalty for publicly traded companies with pay gaps higher than 100:1. Several other city and state governments are looking at similar legislation. Rhode Island is considering a policy where companies with low ratios would win preferential treatment when bidding for government contracts. Ellison support a similar federal policy. Tax reform will be crucial, Ellison argues. “Prior to the Reagan administration in the United States, top marginal tax rates were more than 70%, and, not surprisingly, executive compensation levels were substantially lower. CEOs had no incentive to demand sky-high pay, since much of it would be taxed away anyway.”