- It took FTSE 100 chief executives until just 2pm on 5 January to earn the median worker's full-time salary
- In a time of high inflation and labour shortages, unpopular executive pay awards could have company-wide consequences
By 2pm on 5 January, many workers were still shifting back into gear after a Christmas break. But according to the High Pay Centre (HPC), this marked ‘High Pay Hour’: the moment when the median FTSE 100 chief executive’s earnings surpassed the median annual salary for a full-time worker in the UK.
The average FTSE 100 chief executive’s pay now stands at £3.41mn – 103 times the average full-time worker’s pay of £33,000. The gulf seems to be widening: chief executive pay has increased by an inflation-beating 39 per cent since this time last year, while average worker pay grew by just 6 per cent over the same period.
Luke Hildyard, director of the High Pay Centre, comments that “in the worst economic circumstances that most people can remember, it is difficult to believe that a handful of top earners are still raking in such extraordinary amounts of money”.
Does high pay make economic sense?
It certainly feels unpalatable. But does it make economic sense? Students of economics learn that market forces can deliver high pay: in a competitive labour market, the combination of high productivity and scarce skills with few substitutes can allow workers to command a hefty wage. Large companies are hard to run and require sophisticated management talent – but this isn’t the whole story.
Research from the Economic Policy Institute finds that the compensation of chief executives has far outpaced that of the top 0.1 per cent of earners – a group that contains private company executives, corporate lawyers and private equity investors, who (presumably) all have similar skills.
Alexander Pepper, professor of management practice at the London School of Economics (LSE), takes a “market failure approach” to executive pay. He notes that an efficient market requires many buyers and sellers, homogeneous products, plentiful information and little economic friction. But the problem with the market for chief executives is that “practically none of these conditions hold good”. As a result, executive labour markets fail to provide effective price signals.
Instead, remuneration committees can find themselves playing a real-world version of the prisoner’s dilemma: offering higher pay in the hope that it will allow them to attract the best talent. This triggers an arms race, and companies are left no better off than if they had all paid more moderate salaries. And as the chart shows, the chief-executive-to-worker compensation ratio has now risen to an historical high at top US firms. Pepper notes that “in more typical labour markets, with greater numbers of participants and more ready substitutes, the same pressure to pay over the odds doesn’t arise”.
No strong link between executive pay and financial performance
He finds that empirical evidence gathered over the past 35 years has failed to establish a strong link between executive pay and firms’ financial performance. But it can be hard for investors to do much about it. As long as expectations for dividends and capital gains are met, they are reluctant to intervene, expecting the costs of intervention to exceed any individual benefit.
But high executive pay awards could be a particularly tough sell this year. The Investment Association warned in November that “with the cost of living crisis hitting UK households, investors want to see companies show restraint on executive pay and bonuses”. And workers will probably be inclined to agree.
The UK labour market remains troubled by shortages, tipping the balance of power. The Investment Association argues that for the year ahead “the retention and motivation of employees below the executive level will be key for many companies”. Keeping workers happy matters: dissatisfied workers could strike – or even leave for good. Kallum Pickering, chief economist at Berenberg Bank, has argued that today’s industrial action could be viewed as the “expression of the increasing wage bargaining power of workers”, while data from the World Economic Forum suggests that 33 per cent of UK workers are at least somewhat likely to leave their current job over the next three to six months.
Even if employees don’t move on, the repercussions of a disgruntled workforce could still be significant. Crucially, the Investment Association warns that “board decisions could impact on the productivity of the whole workforce”. In a time of high inflation and labour shortages, unpopular executive pay awards could have company-wide consequences.
