CEO Pay - The Real Skinny

When we consider all US ‘chief executives,’ the ‘CEO-to-worker pay ratio’ falls from 331:1 to below 4:1

Carpe Diem

Font SizeAA

Every time that CEO salaries of large companies are reported, there’s always a lot of hand-wringing, criticism of “excessive CEO compensation,” and the inevitable comparisons of rising CEO salaries to stagnant pay for average workers and how that fuels rising income inequality, etc. It must be that time of year again – “CEO bashing season” – because there have been a number of recent news reports about CEO pay in 2014, with the typical comparisons to average worker pay. For example, the Financial Times reported this yesterday:

The average US chief executive earned 295.9 times as much as a typical American worker in 2013, compared with 20 times as much in 1965. The AFL-CIO, the US trade union federation, says that while the chief executive-to-worker average pay ratio is higher in the US than anywhere else in the developed world, countries such as Canada, Germany, France and Sweden have even bigger gaps than the UK.

The ballooning of top-level remuneration has help fuel the debate about growing inequality. Donald Hambrick, professor of management at Pennsylvania State University, says executive pay has created “anger on Main Street that affects capitalism in general.”

A few weeks ago, Hillary Clinton launched her presidential campaign with a populist/progressive attack on CEO pay and lamented that American families face financial hardships at a time “when the average CEO makes about 300 times what the average worker makes.” And Marketplace reported this week that “CEO pay is one of those issues that really gets people’s blood boiling.”
A closer look at the national data on CEO suggests that the American people needn’t get so upset, and politicians, the media and progressives should stop promoting what is clearly a “statistical fallacy.”
While the huge multi-million pay packages of a few hundred CEOs get all of the media attention, what usually receives much less attention is the small number of CEOs represented in the annual salary surveys, especially compared to the total number of CEOs in the US. For example, the WSJ’s executive compenstation survey last year included only 300 CEOs at large, U.S.-traded public companies, and the AP analyzed compensation figures for only 337 companies in the S&P 500 last year. The AFL-CIO did an analysis of the CEOs of 350 companies in the S&P 500 in 2013 and then computed a “CEO-to-worker pay ratio” of 331 times, up from a ratio of 300 ten years ago and 200 twenty years ago.
Although these samples of 300-350 CEOs are representative of large, publicly-traded, multinational US companies, they certainly aren’t very representative of the average US company or the average US CEO. According to both the BLS and theCensus Bureau, there are more than 7 million private firms in the US, so the samples of 300-350 firms for CEO pay represent only one of about every 21,500 private firms in the US, or about 1/200 of 1% of the total number of US firms. And yet the AFL-CIO, Financial Times, AP, the WSJ and others compare the average annual wages of hundreds of millions of full-time employees working at the more than 7 million US companies to the CEO pay of executives at only several hundred companies, which is hardly a fair comparison.
We can get a more accurate and complete picture of CEO compensation in the US by looking at wage data released recently by the Bureau of Labor Statistics in its annual report on Occupational Employment and Wages for 2014. The BLS report provides “employment and wage estimates by area and by industry for wage and salary workers in 22 major occupational groups, 94 minor occupational groups, 458 broad occupations, and 821 detailed occupations,” including the occupational category “chief executives.” In 2014, the BLS reports that the average pay for America’s 246,240 chief executives was only $180,700. The CEOs of the 300-350 S&P 500 firms that supposedly represent typical CEO compensation represent only one out of about every 820 firms in the country (or 1/7 of 1%) that have a CEO at the head. The larger sample of almost a quarter-million CEOs reported by the BLS gives us a much better understanding of “average CEO compensation.”
For the larger sample of CEOs reported by the BLS, their average pay of $180,700 last year was an increase of only 1.3% from the average CEO pay of $178,400 in 2013. In contrast, the BLS reports that the average pay of all workers increased by 1.7% last year to $47,230 from $46,440 in 2013. That’s right, the average worker last year saw an increase in their pay that was more than 30% greater than the increase in pay for the average US CEO.
And the “CEO-to-worker pay ratio” for the average CEO compared to the average worker was only 3.81 times last year(see chart above), nowhere close to the pay ratio of 331X reported by the AFL-CIO using the 350 highest-paid CEOs in the country. Call it a “statistical falsehood-to-truth ratio” of 87-to-1 for the AFL-CIO’s exaggerated, bogus ratio. The chart above also shows that the real CEO-to-worker pay ratio has not been increasing as is frequently reported, but instead has been remarkably constant over the last 13 years, averaging 3.8-to-1 in a tight range between a maximum of 3.89-to-1 in 2004 and a minimum of 3.69-to-1 in both 2005 and 2006. The ratio of 3.81-to-1 in the most recent year (2014) was actually the lowest CEO-to-worker ratio in six years, since 2008
Bottom Line: Discussions about “excessive CEO pay” and comparisons to average worker pay are distorted by looking at only an outlier group of the 300-350 CEOs of America’s largest, multinational companies, out of a total of almost 250,000 chief executives nationwide. Of course, many younger, risk-taking CEOs are running early stage startups and tech companies, and probably make even less than the average CEO reported by the BLS, as Scott Drum pointed out to me in a recent email. Further, he commented that “The startup CEOs are usually not in it for the salary in the early years. They’re in it for the big payoff in the long run if things go exceptionally well. If we reduce or limit the size of the Big Payoff, don’t we reduce the number of people trying to get there?”
The fact that there are almost 250,000 ambitious CEOs making less than $200,000 today on average who are trying to someday be listed by the AFL-CIO or the Wall Street Journal as one of the top 300-350 highest-paid CEOs is a sign of a dynamic, wealth-generating, job-creating economy. We should applaud the richest 300-350 CEOs as a group of the most successful American business professionals, and not vilify them. And we should keep in mind that the CEO compensation surveys that generate all the media attention are always based on a tiny, elite outlier group, and not representative of the average CEO in America – who earns about as much as the average dentist and less than four times more than the average worker.