Public companies will have to tell the world how their CEO’s pay stacks up to rank-and-file earnings under a new rule finalized Wednesday by the Securities and Exchange Commission (SEC).
The regulation comes five years after it was mandated under the Dodd-Frank financial reform package passed by Congress in 2010. It comes online in 2017, and the first official CEO-to-worker pay ratios likely won’t be published in corporate disclosure forms until 2018. The rule is likely to face a court challenge between now and then, the U.S. Chamber of Commerce indicated to Buzzfeed. The Chamber has vigorously opposed the rule throughout the SEC’s process, arguing that even figuring out how CEO and worker pay compares will be too costly.
The rule will furnish new information about the state of executive pay thinking in corporate America, but it won’t fix what’s broken about that system. Top employees routinely receive compensation that’s far out of step with their actual job performance, even when their performance failings are obvious in the very metrics that supposedly determine their bonuses.
Knowing how companies allocate salary between workaday employees and bosses is essential for investor efforts to pressure companies into being less generous to executives. But investors are battling with more than just a lack of data.
There is a culture of overcompensation at the top that will be hard to reform, in part because it’s been building up for six decades. Corporate America has been talking itself into ever-higher top pay packages since 1951. That year, General Motors hired a consultant from McKinsey & Company to study executive pay in major American industries. That consultant’s report in the Harvard Business Review argued that the guys in suits were getting hosed by their own employees: Hourly earnings had doubled over the preceding decade while management salaries were up a mere 35 percent.
“The ‘academic’ imprimatur of Harvard Business School’s house organ gave the work a certain credibility and the study was suddenly an annual affair,” Duff McDonald wrote in a 2013 analysis of compensation culture for the New York Observer. “Before long, managers everywhere had taken special note of the news that they were underpaid,” and companies began seeking out McKinsey’s help in rationalizing large raises for their executives. The share of corporate America that offered executive bonuses nearly quadrupled from 1945 to 1960, and the corporate conversation took on a keeping-up-with-the-Joneses character.
The late 1980s saw a sudden jump in executive pay at the largest U.S. companies relative to the average earnings of American workers at all firms. The ratio has exploded in the decades since, as trickle-down economics re-engineered the tax code to favor investment income and incentivize companies to offer big stock packages to CEOs.
The new disclosure rule will help public actors make a more coherent case for chasing executive compensation back down to its previous levels relative to worker income. But changing the board room attitudes that spawned the current massive earnings gap will take additional policy steps. In January, the Center for American Progress-convened Commission on Inclusive Prosperity made some recommendations for steering corporate America back toward the kind of long-view thinking that naturally places a higher value on workers. They include revoking tax deductions for executive stock options and giving frontline workers either a direct share in profits or a share of company stocks.
While conservative groups have long objected to the very premise of the disclosure rule, voices on the left have worried that its details would leave room for corporations to mislead the public. The final rule “gives companies considerable flexibility in calculating the pay gap,” according to the New York Times, by permitting them “to opt for a statistical sampling of employees rather than an actual survey of all workers.”
Allowing companies to publish a pay ratio where the worker pay denominator can be fudged by basing it on a skewed sample of employees could undermine the utility of the information. SEC commissioner Kara Stein, who supported the rule, downplayed those concerns by saying the sampling system gives companies flexibility “without undermining the intended benefits of the rule.” And the details of the rule also include restrictions that supporters had sought over corporate objections, like a provision barring companies from counting part-time employees as though they work full-time hours when calculating pay ratios.