Big, unexplained gaps between CEO and worker pay can cut productivity in half
- Big gaps between CEO salaries and workers' pay can hinder productivity, says a Harvard assistant professor, Ethan Rouen. Employees sometimes become resentful when they learn the CEO earns much more than they do and the backlash sometimes involves reduced performance or increased turnover, says Harvard Business Schools' Working Knowledge.
- Rouen says there's two types of pay ratios: The “economic pay ratio,” which is based on market conditions and worker performance and the “unexplained pay ratio,” which isn't driven by economic factors. Companies with an abnormally high unexplained pay ratio may see their performance drop by as much as half, according to Working Knowledge.
- Rouen said he was motivated to conduct the study by the U.S. Securities and Exchange Commission's (SEC) mandate for publicly held companies to disclose CEO-employee pay ratios. The rule requires companies to start making disclosures this year.
With stagnant wages that are unlikely to rise anytime soon, wide pay gaps between CEOs and workers are bound to cause resentment among employees. Because publicly held companies must disclose pay ratios this year, they may want to prepare for any fallout that might follow.
Transparent communication with employees will be key in explaining pay ratio calculations and avoiding the hits to productivity and retention that Rouen predicts. As for compliance with the rule, many employers report that they're struggling with calculating CEO-worker pay ratios. Willis Towers Watson has some recommendations on the calculations and the SEC has issued some guidance that may help streamline the disclosure process.
- Harvard Business Review If the CEO’s High Salary Isn't Justified to Employees, Firm Performance May Suffer