The Paradox of Executive Compensation Regulation

41 Pages Posted: 13 Sep 2018 Last revised: 22 Feb 2019

See all articles by Minor Myers

Minor Myers

University of Connecticut - School of Law

Justin Sevier

Florida State University - College of Law

Date Written: September 4, 2018

Abstract

Two distinct and competing normative objectives lie behind policies aimed at regulating executive compensation. One seeks to align executive pay with company performance, a commitment held widely by specialists in law and financial economics. The second seeks to regulate the magnitude of compensation to ensure that no one is paid “too much.” Both share the goal of altering the status quo, and for that reason they often make uneasy allies in legislative reform efforts. These approaches often result in legislative schizophrenia, with different provisions sitting uncomfortably next to each other.

The Dodd-Frank Act exemplifies this dynamic. On the one hand, the Act includes provisions designed to push pay into greater alignment with performance by requiring firms to clearly disclose the pay-performance relationship and also hold periodic votes on compensation. On the other hand, Dodd-Frank also mandated a so-called pay ratio disclosure, which requires that each public company disclose the ratio of its CEO’s pay to the pay of its median employee.

Through a series of psychological experiments, we demonstrate that the pay ratio disclosure undermines the policy goal of aligning pay with performance. Our study focuses on how non-specialists think about executive compensation. Lay attitudes are of interest for two reasons. First, lay persons may differ dramatically from law and finance specialists in how they analyze executive compensation. We find that lay persons are largely indifferent to firm performance in evaluating executive compensation. Second, the views of lay persons shape policy because politicians will be responsive to public opinion, not specialist opinion, particularly on matters of high salience. Lay attitudes, in other words, affect the substantive governance obligations, at least at the federal level. Whatever attention laypersons devote to performance vanishes when they are presented with the median pay ratio. Their level of anger—the extent to which they desire that someone “do something” about executive compensation—is determined exclusively by absolute levels of pay and by the median pay ratio disclosure, not by firm performance.

This brings into view a paradox of executive compensation regulation: Neither reform movement can succeed legislatively without the other, yet they may work at cross-purposes with each other. We offer a preliminary exploration of some implications of these findings for corporate governance reform.

Keywords: executive compensation, corporate law, Dodd-Frank, empirical study

Suggested Citation

Myers, Minor and Sevier, Justin, The Paradox of Executive Compensation Regulation (September 4, 2018). 44 Journal of Corporation Law (2019 Forthcoming), FSU College of Law, Public Law Research Paper No. 891, FSU College of Law, Law, Business & Economics Paper No. 18-8, Brooklyn Law School, Legal Studies Paper No. 600, Available at SSRN: https://ssrn.com/abstract=3244112

Minor Myers

University of Connecticut - School of Law

65 Elizabeth Street
Hartford, CT 06105
United States

Justin Sevier (Contact Author)

Florida State University - College of Law ( email )

425 W. Jefferson Street
Tallahassee, FL 32306
United States

Do you have negative results from your research you’d like to share?

Paper statistics

Downloads
158
Abstract Views
1,080
Rank
338,002
PlumX Metrics