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Why Has CEO Pay Increased So Much?

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  • Gabaix, Xavier
  • Landier, Augustin

Abstract

This paper develops a simple competitive model of CEO pay. It appears to explain much of the rise in CEO compensation in the US economy, without assuming managerial entrenchment, mishandling of options, or theft. CEOs have observable managerial talent and are matched to assets in a competitive assignment model. The marginal impact of a CEO's talent is assumed to increase with the value of the assets under his control. Under very general assumptions, using results from extreme value theory, the model determines the level of CEO pay across firms and over time, and the pay-sensitivity relations. We predict that the level of CEO compensation should increase one for one with the average market capitalization of large firms in the economy. Therefore, the eight-fold increase of CEO pay between 1980 and 2000 can be fully attributed to the increase in market capitalization of large US companies. The model predicts the cross-section Cobb-Douglass relation between pay and firm size and can be used to study other large changes at the top of the income distribution, and offers a benchmark for calibratable corporate finance

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Bibliographic Info

Paper provided by University of Toulouse 1 Capitole in its series Open Access publications from University of Toulouse 1 Capitole with number http://neeo.univ-tlse1.fr/2297/.

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Date of creation: Feb 2008
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Publication status: Published in The Quarterly Journal of Economics (2008-02) v.123, p.49-100
Handle: RePEc:ner:toulou:http://neeo.univ-tlse1.fr/2297/

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Web page: http://www.univ-tlse1.fr/

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  1. Some identification problems in the debate on taxing top earners
    by Stephen Gordon in Worthwhile Canadian Initiative on 2011-12-09 18:00:37
  2. Can demographics explain why the income shares of high earners have increased?
    by Stephen Gordon in Worthwhile Canadian Initiative on 2011-09-18 21:22:12
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