When in Rome: Local Social Norms and Tournament Incentives

We investigate whether social capital influences the use and effectiveness of tournament structure of compensation. We find that pay differentials between the CEO and other executives, or tournament, are lower in U.S. counties with higher social capital. In addition, lower pay differentials are associated with better firm performance in regions with higher social capital. We use a variety of experiments which are shown to change social capital, such as legalization of medical and recreational use of marijuana or moving corporate headquarters. Our results remain robust. These findings suggest that social capital impact firms’ compensation setting decisions and firm performance.