Fair Pay or Power Play? Pay Equity, Managerial Power, and Compensation Adjustments for CEOs

This study examines how firms use benchmarking information about peers to determine the compensation that they offer to chief executive officers (CEOs). It jointly addresses two distinct perspectives: pay equity and managerial power. Pay inequity provides strong motivation for CEOs to restore equity, by promoting the logic of external fairness and urging boards of directors to implement peer benchmarking and adjust the focal CEO’s compensation levels. Although pay inequity may motivate CEOs to restore equity, their reaction to inequity may be effective only when they have sufficient power over the board of directors to influence the pay-setting process. Results from a sample of 1,555 CEOs generally support predictions about the moderating effects of CEO power in the relationship between a focal CEO’s pay and peer CEOs’ pay. The compensation for underpaid CEOs with relatively greater power over the board is associated with their peers’ compensation, suggesting that peer benchmarking is more aggressively used to adjust CEO compensation upward. For overpaid CEOs, the relationship between the focal CEO’s pay and peer CEOs’ pay is weaker when the CEOs have greater influence over the board, suggesting that such CEOs are able to avoid the use of benchmarking and downward adjustments of pay.