When CEO paychecks are determined by performance, it sounds like a fair method of compensation. That way, head honchos at major companies aren’t raking in millions unless they’re doing a good job … right?
While this model sounds great in theory, the New York Times reports that it doesn’t always work in practice. The popularization of performance-based pay has done nothing to prevent companies from dishing out increasingly staggering paydays to their executives. According to the Equilar 100 CEO Pay Study, which was commissioned by the New York Times, the median compensation of a chief executive last year was a cool $13.9 million, up 9% from the previous year.
These larger-than-life paychecks may have a wider social impact. Some economists have maintained that extremely high executive pay plays a role in the widening of the gap between the rich and the poor. New research from Thomas Piketty of the Paris School of Economics shows that two-thirds of the increase in U.S. income inequality over the past 40 years can be pegged to the rise in wages for the nation’s highest earners.
Some of the CEOs documented in the survey did take pay cuts last year as a result of not meeting their goals—but their compensation still remained in the high millions.
Additionally, many performance-based compensation packages include stock options and shares, which can drive CEO earnings even higher when the company is doing well. Pay in stock as a percentage of overall pay has risen in recent years, making up 63% of total pay last year, compared with 60.2% in 2006.
The theory behind the rise in stock pay is that when a CEO’s bottom line for the year depends on the company’s share price, he or she will do what’s in the best interest of the company’s shareholders. However, giving executives more and more stock can end with massive paydays when the market goes up.
Experts agree that it’s difficult to determine a "perfect" model for executive compensation, if such a thing even exists. But with such a huge amount of the country’s total income continuing to go to a small segment of the population—the top 10% of earners made 47.9% of total income in 2010, compared with 33.5% in 1960—it’s clear that the problem of income disparity won’t be solved without some change in executive compensation policies.
This article originally appeared in LearnVest and is reprinted with permission.