Paul Krugman and the “Monday Night Football” Theory of CEO Pay

This is an exceptionally poor premise. It's hard to believe the writer of this article missed the obvious.

That CEO pay chart tracks the value of options granted.

What it almost perfectly aligns to is the S&P 500 chart.

Here, I did a crude overlay, it's blatantly obvious.

http://i.imgur.com/S2hN29F.png

It wasn't Monday Night Football or any other ridiculous notion. It was the greatest stock market boom in the US since the roaring 1920s, which sent the value of options soaring.

In the typical case, CEO pay is determined by the compensation committee of the board of directors. The comp committee, in turn, hires a compensation consultant, who presents the board a study of how much other CEOs of similarly sized companies in the same industry get paid. Since no board wants their CEO to be paid "below average", they'll generally vote for a raise to bring it at least to the prevailing average. But since all boards are behaving similarly, the prevailing average ratchets up in each cycle.

This ratcheting theory is straight from Warren Buffett's annual letters, and it's a good illustration of the results of perverse incentives, considering that board members are often nominated by the CEO so there's peer pressure to "play nice" and not to antagonize the CEO.

I happen to agree. What's he's saying is more of a null hypothesis than an attempt at explanation. Because he doesn't actually quantify the social norms thing, it feels like a catchall for "nothing specific in terms of supply/demand".

If you look at supply, in any company there's a bunch of juniors who could (and often do) step up to the top job. There's no reason to think that companies suddenly suffered a drought of CEO candidates. Are there more companies that need a CEO? Maybe, but it's hard to see it explaining a 20-to-300 increase in salary ratio. Is it because competition gets tougher, so you need the best CEO? Maybe, but profits are also rocketing during that time, suggesting it wasn't so hard to make money after all.

If you look at how the S&P performed, it looks like there's a correlation, so probably some of it is due to option grants and such. But we're still trying to explain a huge gap.

One important thing he mentions is the scope: the Anglosphere. In fact, it's true that CEO pay is more restrained where people don't exchange as many ideas with the Anglos.

If I were to point at one thing that is in common with football, it's star worship. CEOs these days are not just professionals putting in a good shift, they're gods doing the impossible. And getting paid accordingly.

Ever been in a meeting where there is food at the back of the room but no one is eating it? But then one person stands up to go get a donut an then everyone realizes it is ok and follows suit.

According the Ezra Klein, that it the reason CEO vs. worker pay has increased since the mid 90's. Helped, according to him, by Reagan tax cuts. I beg to differ on his reasoning.

1) While the moves are more erratic in the last 20 years, the degree of change is no that different... from 1975-1995 it was around +300%; from 1995-2015 is was around +300%... suggesting that the trend goes back further than his article accounts for with respect to the Reagan tax cuts.

2) Klein's argument is quite specious in my view... stating "it just wasn't done" without supporting evidence just doesn't cut it.

One could just as easily argue that this "phenomenon" is correlated to the Clinton administration's repeal of the Glass-Steagal Act, or the Nixon administration's unilateral renege on the Bretton-Woods arrangement through the closing of the Fed's gold window. In any case, it is unfortunate that a talented writer and researcher like Ezra Klein spends his talents shilling to support a political narrative. I'm not a republican or democrat, just someone who wants to read good and truthful information.

There are several possible triggers. A popular hypothesis is that in the early 1990s, the SEC began requiring the disclosure and reporting of executive compensation. The prevailing theory was that it would shine some light on the discrepancies between executive and normal workers' pay and force executive compensation down through public shaming. Instead, it did the opposite: executives started comparing their own salaries, and shopping around for the best compensation. Boards, on the other hand, started increasing executive compensation to make it look like they were recruiting only top most valuable talent. It became a positive feedback status-based market for executive compensation.

Krugman says nothing happened in the 1990s.

I say the Internet happened.

I also don't buy the argument that it is just social norms because income inequality is more of a social speaking point now that it was back then and yet salaries continue to rise.

The graph seems to correlate with the rise of the Internet and the dot com crash fairly well. It also seems to correlate with monetary expansion, how well the economy was doing at the time, and the real estate markets. Not saying that is the reason but it seems a much better explanation than "society allowed it".

I think what the author is getting at here is that CEO pay was in an unstable equilibrium, and that starting in the mid-90's, that balance was tipped, causing "run-away" CEO pay.

I don't particularly agree with this conclusion, but the "unstable equilibrium" hypothesis is what is implied. "The conditions were always there, but some instigator (MNF) triggered the change."

I personally think adventured's hypothesis regarding stock market performance has a bit more merit.

> CEOs appoint the committees that decide how much they’re worth

Correct me if I'm wrong, but this isn't true unless the CEO has significant voting power as a shareholder. Right?

So in the 1970s, CEOs were compensated at about 20 times the average worker's compensation.

In the late 1990s, the ratio zoomed up to about 300 times the average worker's compensation, where it remains today.

What can explain this? Why have average inflation-adjusted wages stagnated or declined, while compensation for top people goes up by an order of magnitude or more?

Globalization? Decline of organized labor? Private equity? Financial engineering?

How would you argue that a CEO deserves a higher pay than a worker in the same company working the same number of hours? I would go as far as claiming that a worker should sometimes be payed better than the CEO, for example a mine worker doing the hard work and risking his health vs the CEO of the mine pushing papers in an air-conditioned office. So what are good arguments in favor of high pays for CEOs?