Guest post 2 – “Can CEO Pay Be Unjustifiably High?” by Stephanie Obieroma

This month I am happy to announce that I will be publishing a series of guest posts from my former students. I asked these students if I could publish their essays because I think they represent excellent examples of philosophical reasoning on important or contemporary topics. Some I agree with and some I do not… but they all make me think. – Keith

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Objection 1. CEO pay can sometimes be too high because the high pay does not have the right incentive effect (Boatright 169). Giving CEOs bonuses and providing them with stock options can be done without the exorbitant cost. The pay is not a motivator for CEOs to work hard, in fact, it makes them lazy, not wanting to put in the effort that is required of the position. They already see themselves making millions of dollars, and the idea of exuding more effort is not of interest to them (Boatright 169).

Objection 2. The ratio of pay between CEOs and lower-level working employees is disproportionately high. For example, the ratio of the S&P 500 CEO’s salary and bonus compared the lowest paid worker was 30 to 1 back in 1970. In 1996, the ration has increased to 90 times of the lowest paid worker (Boatright 169). There should not be this glaring disparity between the CEO and the lowest paid worker.

Authority. On the other hand, John R. Boatright says “…The principles of compensation in a free market capitalist system are easily identified and widely accepted. There is a general agreement that CEOs ought to be paid their worth…” (Boatright 162). The point that Boatright is making that CEOs are justified for their earnings because of their entrepreneurial work in a free trade market.

Argument. I argue that CEO pay is never too high. America is a capitalistic society, so harder you work, the more money you receive. Prior to 1963, CEOs were paid as managers, not as entrepreneurs. When CEOs were later seen as entrepreneurs, they are paid more because they innovate value from nothing (Buhler 2017). The transition from manger to entrepreneur occurred in 1973, after corporations began to link pay to performance in the means of stock options during the modern industrial revolution. They went from bureaucrats to entrepreneurs, which is a major change (Boatright 167). Also, CEOs create pure profit because they are entrepreneurs that create new products that would earn opportunities to get high market rates for their services (Boatright 173). Pure profits are temporary, so the entrepreneur is entitled to that amount. A CEO functions in a firm where they have they have resources and skills that they contribute through the process of market exchange (Boatright 174). One of the principles of distributive justice is that “each person has a right to whatever he or she gains by exchanging his or her property through voluntary transactions” (Boatright 172). The goal of the CEO is to maximize shareholder value, and since the change from manager to entrepreneur, that change has profited the CEO and the shareholders, leading to further success for the business (Boatwright 167).

In this sense, CEOs are entitled to their amount because they are participating in a free-market exchange. They do not receive money for no effort, there are risks in these transactions. The gain that the CEO receives from the company through market exchange depends on their productivity level. The return of labor is called the marginal product, which is the output of a unit of input (Boatright 172-173). CEOs make important decisions that affect the company as a whole. In this framework, CEOs are entitled to their marginal product, meaning that “each person has a right to what they make” (Boatwright 172). So in this case, the justification of CEO pay can never be too high. The fact that they are paid more is because they are doing an excellent job in taking risks and representing the company in a professional manner. The huge pay is creating the right incentive because CEOs like Mark Zuckerberg, Marissa Mayer, and Tim Cook are examples of CEOs who are paid high and execute the job well.

Reply to Objection 1. CEO pay does provide the right incentive effect at a reasonable cost. As former Harvard President Derek Bok says that “there is no correlation for CEOs would put in less effort if they were offered under 100K instead of millions of dollars a year” (Boatwright 169). Bok goes on to say that “executives that are paid less would a value a raise and then work harder” (Boatright 169). CEOs are given the bonuses, stock options and grants because of their hard work. They make wise decisions and as the face of the company, it is their primary job to achieve the objectives of the company. Unlike ordinary workers, the CEO’s main target is receive as much shareholder value as possible. Determining how much a CEO is to receive in compensation is hard because of incomplete information. For the construction of pay packages, the board does know the commitment or the effort of the CEO (Boatright 176).

However, the CEO knows themselves how much effort they are willing to put forth during the task. Since CEOs are not common, the incentive is already there to work hard anyway, because not everyone can be one. The results of the company are known to the CEO or the board, so again, saying that CEO pay is too high is not considering these factors of incomplete information with both parties (Boatright 176). There is a reason why CEOs are given the high compensation that they do. The principal agent approach is an example of this. This approach states that the contract between a CEO and the shareholders is mutually beneficial. The high pay is because of the shareholder’s trust in that CEO, overcoming that particular agent problem (Boatright 177).

Reply to Objection 2. The reason of the ratio disparity of the CEO to the lowest paid worker has to do with the fact that there is not a set ratio or a common standard. Also, understand that CEO pay is different and are considering other factors. The pay is driven by the CEO pursuing other ventures, such as a private investor, head of a private firm and other occupations. Their value to what they can add to the company is partly the reason why their pay is so high. These individuals are innovators, participating in a market that rewards them for their efforts, regardless if others see their pay from ordinary workers as unjust (Boatright 177). CEOs and average do not have the same responsibilities, so the ratio is going to reflect that difference. The compensation of an average US worker consists of a base salary, while a CEO pay consists of compensation with stock options, bonuses and other factors (Economic Research Institute 4).

For CEOs in S&P 500 companies, the reasons generally for the wage gap is because of the growth of long term incentives that involves bonuses, stock options and other lucrative assets (Economic Research Institute 6). The ratio has been rising from 1970 where the ratio was 30:1 to now an S&P 500 CEO to worker ratio is 400:1 (Boatright 169). Also, the wage gap is because of the stock market success since the last recession (Economic Research Institute 7). The point is that the ratio is never going to be smaller, so there no reason to object to have an appropriate ratio because every company business model is different, so there cannot be a standard ratio that suits all businesses. Besides, CEOs have more tasks and pressure to their performances. Average workers do not deal with these issues. This should incentive lower paid workers to aspire to be CEOs, instead of trying to fix a system that is not broken.

Works Cited

  • Boatright, Jonathan. “Executive Compensation: Unjust or Just Right?” The Oxford Handbook of Business Ethics, edited by George G. Brenkert and Tom L. Beauchamp, Oxford University Press, 2010, pp. 162-177.
  • Buhler, Keith. Philosophy 334 Business Ethics. University of Kentucky. Feb. 2017, http://www.keithbuhler.com/slideshows/business6ceopay#/1. Accessed 4 February 2017. Philosophy Department. University of Kentucky. 11 January 2017. https://philosophy.as.uky.edu/.
  • Economic Research Institute. CEO Pay Ratios: The Story Behind the Trends. ERI Economic Research Institute. 2017, http://downloads.erieri.com/pdf/CEO_Pay_Ratios.pdf.