Position, Power and Demand for CEOs: Understanding Executive Compensation in the U.S Market

Abstract

It is hard to explain dramatic increase in executive compensation using existing theories based on power or position (Frydman and Jenter (2010)). We attempt to address this issue by using CEO promotion, as chairman of the board, as our identi cation strategy. CEO promotion is expected to have signifi cant increase in both position and power hence it is easy to control any unobservable factors associated with power and position. We observe 32,033 CEO-years of publicly listed rms in the US market during the period 1996-2011 and fi nd that, after controlling for observable position and power proxies, compensation of promoted CEOs, that is over and above their peer group CEO chairmen appointees, is mainly explained by contemporaneous peer group compensation shocks in CEO labor market. Our result suggests that market-speci fic peer group compensation in the U.S CEO labor market is more important determinant of executive compensation than fi rm-speci fic position or power. Our results have an important implication for recently introduced CEO-employee pay ratio regulation in the U.S market which uses firm-specifi c information that is attributed to power and position. Our results suggest that executive compensation is beyond their power and position and regulators should consider even CEO labor market forces.