Washington: Compensation benchmarking is the main factor behind the giant leap in CEO salaries over the past two decades, according to a new American research.
Benchmarking is a standard practice in American corporations.
When setting pay, compensation committees use peer groups of executives at comparable firms to establish a "fair" market wage their CEOs.
However, the study, led by sociologist Thomas DiPrete from Columbia University, points out that a few CEOs each year "leapfrog" their peers by getting huge raises that have little to do with the performance of their companies.
Other companies then use the oversized pay of leapfroggers in subsequent benchmarks. Over time, this ratchets up pay for everyone through a "contagion effect."
DiPrete said: "We show that rising CEO pay is not simply a function of what individual companies do, but is influenced by the behavior of leapfroggers at other firms."
DiPrete and his colleagues (including a former CEO) used procedures laid out in compensation handbooks to reconstruct likely peer groups for CEOs listed in Standard and Poor`s annual compensation surveys.
They could then look for evidence of leapfrogging in those likely peer groups over time.
Their simulation shows that leapfrogging explains about half of the overall increase in CEO pay from 1992 to 2006.
The researchers say that the finding broadens the debate about what is driving CEO salaries upward.
Opinions on the subject have generally fallen into two camps: those who think CEOs are overpaid because of failures in corporate governance at individual firms, and those who think CEOs are paid what they deserve based on the profits they deliver to shareholders and a "superstar" labor market.
However, this study shows that ill-gotten raises for a few CEOs can lead to "legitimate" pay increases for others.
"[T]he linkages among firms produced by the benchmarking process guarantee that firm-level governance failure becomes a factor in the environment of other firms," the researchers write.
The study will appear next week in the American Journal of Sociology.