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Ceo Pay and the Rise of Relative Performance Contracts: A Question of Governance?

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  • Brian Bell
  • Simone Pedemonte
  • John Van Reenen

Abstract

We exploit the large rise in relative performance awards in the United Kingdom over the last two decades to investigate whether these contracts improve the alignment between CEO pay and firm performance. We first document that corporate governance appears to be stronger when institutional ownership is greater. Then, using hand-collected data from annual reports on explicit contracts, we show that (1) CEO pay still responds more to increases in the firms’ stock performance than to decreases, and, importantly, this asymmetry is stronger when corporate governance is weak as measured by low institutional ownership; and (2) “pay for luck” persists as remuneration increases with random positive shocks, even when the CEO has equity awards that explicitly condition on firm performance relative to peer firms in the same sector. A major reason why relative performance contracts do not eliminate pay for luck is that CEOs who fail to meet the terms of their past performance awards are able to obtain more generous new equity rewards in the future in weakly governed firms. We show the mechanism operates both through the quantum of shares and the structure of new contracts. These findings suggest that reforms to the formal structure of CEO pay contracts are unlikely to align incentives in the absence of strong corporate governance.

Suggested Citation

  • Brian Bell & Simone Pedemonte & John Van Reenen, 2021. "Ceo Pay and the Rise of Relative Performance Contracts: A Question of Governance?," Journal of the European Economic Association, European Economic Association, vol. 19(5), pages 2513-2542.
    • Handle: RePEc:oup:jeurec:v:19:y:2021:i:5:p:2513-2542.
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    File URL: http://hdl.handle.net/10.1093/jeea/jvab005
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    Cited by:

    1. Lucas W. Davis & Catherine Hausman, 2020. "Are Energy Executives Rewarded for Luck?," The Energy Journal, , vol. 41(6), pages 157-180, November.
    2. Di Giannatale, Sonia & Curiel-Cabral, Itza Tlaloc Quetzalcoatl & Basulto, Genaro, 2025. "The dynamics of bargaining power in a principal-agent model," Mathematical Social Sciences, Elsevier, vol. 138(C).
    3. Fernando Núñez & Ángel Arcos-Vargas & Carlos Usabiaga & Pablo Álvarez-de-Toledo, 2022. "On directors’ compensation: a multilevel analysis of Spanish listed companies," Empirical Economics, Springer, vol. 63(4), pages 2173-2207, October.
    4. Propper, Carol & Janke, Katharina & Sadun, Raffaella, 2019. "The Impact of CEOs in the Public Sector: Evidence from the English NHS," CEPR Discussion Papers 13726, C.E.P.R. Discussion Papers.
    5. Sotiris Blanas, 2024. "The distinct effects of information technologies and communication technologies on skill demand," Industrial Relations: A Journal of Economy and Society, Wiley Blackwell, vol. 63(4), pages 442-490, October.
    6. Clement Olalekan Olaniyi & Olaolu Richard Olayeni, 2020. "A new perspective into the relationship between CEO pay and firm performance: evidence from Nigeria’s listed firms," Journal of Social and Economic Development, Springer;Institute for Social and Economic Change, vol. 22(2), pages 250-277, December.
    7. Christoph Becker & Dietmar Fehr & Hannes Rau & Stefan T. Trautmann & Yilong Xu, 2025. "Fairness Properties of Compensation Schemes," CESifo Working Paper Series 11943, CESifo.
    8. Sonia B. Di Giannatale & Itza Tlaloc Quetzalcoatl Curiel-Cabral & Genaro Basulto, 2023. "The Dynamics of Bargaining Power in a Principal-Agent Model," Working Papers DTE 630, CIDE, División de Economía.
    9. Katharina Janke & Carol Propper & Raffaella Sadun, 2019. "The Role of Top Managers in the Public Sector: Evidence from the English NHS," NBER Working Papers 25853, National Bureau of Economic Research, Inc.
    10. Jung Ho Choi & Brandon Gipper & Shawn X. Shi, 2025. "Executive pay transparency and relative performance evaluation: evidence from the 2006 pay disclosure reforms," Review of Accounting Studies, Springer, vol. 30(3), pages 2922-2962, September.
    11. Tore Ellingsen & Eirik Gaard Kristiansen, 2022. "Fair and Square: A Retention Model of Managerial Compensation," Management Science, INFORMS, vol. 68(5), pages 3604-3624, May.

    More about this item

    JEL classification:

    • G30 - Financial Economics - - Corporate Finance and Governance - - - General
    • J31 - Labor and Demographic Economics - - Wages, Compensation, and Labor Costs - - - Wage Level and Structure; Wage Differentials
    • J33 - Labor and Demographic Economics - - Wages, Compensation, and Labor Costs - - - Compensation Packages; Payment Methods

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