A Duke professor co-authored a study finding that firms with hierarchically structured management exhibit greater pay inequality within the company, while also having higher productivity.
Melanie Wallskog, assistant professor of business administration, joined the study a decade ago when she was a fourth-year doctoral student at Stanford University.
“If you're an average worker, your contract doesn't say you get paid a lot more if the firm's doing really well. Maybe you'll get a bonus at the end of the year, but otherwise, you're guaranteed some salary,” she said. “Whereas executive pay tends to be much more dependent on the performance of the firm.”
Income inequality in the United States has increased over the past few decades. Additionally, the ratio of CEO pay compared to that of a typical worker has risen from 20-one or 30-to-one in the 1960s and 1970s to more than 200-to-one or 300-to-one in recent years.
Wallskog’s research found that structured management arrangements are linked to greater pay inequality.
“Firms that are more productive have higher inequality — and similarly — firms that are more sophisticated in their management practices, meaning that they use incentive-based pay, also see higher inequality,” she said.
When evaluating large firms, the team found that greater performance led to higher revenue per worker, but an overall increase in pay inequality.
“Everyone gets paid more, but it’s disproportionately the people at the top who get paid more, which means that there’s higher inequality,” Wallskog said.
She also suggested that the findings are consistent across all industries, with the exception of utilities — which is a small-sector business — and healthcare, where performance-based pay plays a lesser role.
According to Wallskog, management practices that reward high performance with higher pay are generally more “fair” than those that see pay or position being correlated with an employee’s tenure or familial ties within a company.
“[They’re] actually probably good in the sense of, if you try really hard, you can make it,” she said. “And that’s kind of what we think about as the American Dream.”
The study also found a difference in the effect of productivity increases on pay relationships in publicly-traded versus privately-traded firms.
According to the study, a 10% increase in productivity at a publicly traded company predicts a 1.9% and 1.3% increase in the pay of the top earner and fifth earner, respectively. Meanwhile, the same increase in productivity at a privately-traded company predicts a 1.1% and 0.9% increase in pay, respectively.
Wallskog also noted that since publicly traded firms are larger and more complex to manage, CEOs are paid more.
“CEOs in large publicly traded firms are paid more, often because that's how you can retain them,” she said. “… Whereas in privately held firms, maybe more often, the CEO was the founder of the company, and they're not going to leave.”
Wallskog’s research provides a “market-based reason” behind rising inequality within firms.
“A rising tide lifts all boats, but unequally,” she said. “The people who are already earning a lot continue to earn a lot, but they earn proportionally much more than the people lower down.”
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