How much do CEOs deserve to make?
A philosophical look at executive compensation
The American public may have viewed the bonuses paid to executives of companies who received bailout money as a novel practice, but the issue of executive compensation is not new. In 1980 the average CEO earned 42 times as much as the average blue collar worker, by 2000 this ratio had ballooned to 531 to 1. While there is much debate over how much executives deserve to make, and how their salaries should be regulated, there has been less philosophical investigation into the issue—despite the relevance to modern political theory.
For a libertarian approach to this question, we could turn to Robert Nozick, who argued that mandatory redistribution of wealth violates the individual liberties of citizens. He believed that one was entitled to his property provided it was either acquired or transferred through legitimate means. One famous example Nozick provided to defend his theory is called the “Wilt Chamberlain Argument.” He begins with a society that operates according to a just distribution of wealth called “D1.”
Now Suppose that Wilt Chamberlain is in great demand by basketball teams, being a great gate attraction. He signs the following sort of contract with a team: In each home game, twenty-five cents from the price of each ticket of admission goes to him. The season starts, and people cheerfully attend his team’s games they buy their tickets, each time dropping a separate twenty-five cents of their admission price into a special box with Chamberlains name on it. Let us suppose that in one season one million people attend his home games, and Wilt Chamberlain winds up with $250,000, a much larger sum than the average income and larger even than anyone else has. Is the new distribution D2 unjust?
According to Nozick, Chamberlain is clearly entitled to this income because people voluntarily paid to see him play. “If D1 was a just distribution, and people voluntarily moved from it to D2, isn’t D2 also just?” Chamberlain fans could have spent their money on something else, but they deliberately chose to pay an extra quarter to see Chamberlain dunk.
Does Nozick’s argument that Chamberlain is entitled to his earnings also apply to a CEO making ten million dollars a year? Nozick’s theory of entitlement is not based on equality or need so it should have no trouble accommodating a CEO making ten million dollars a year in the same world that sees people in developing nations get by under a dollar per day. Rather, the question of whether an executive is entitled to his large salary hinges on whether his or her money was acquired through a “just transfer.” For, Nozick, a transfer is just if one party voluntarily transfers his property to another. In the hypothetical example it is clear that basketball fans are willingly giving their funds to Mr. Chamberlain
But the issue of executive compensation is much more complex than the Chamberlain example. CEO salaries are often decided by a very small board of which the executive herself is often a member; it is not as is customers and shareholders simply drop a quarter into a box marked “Executive Compensation.” A better analogy is that everyone puts their change into a general bucket for the whole company and then the executives determine how to divide up the money.
Because the money is not going directly from the customer to the executive it is difficult to determine when a voluntary transfer has occurred, and therefore hard to decide whether an executive is entitled to her salary. Perhaps a transfer could be considered voluntary only if the executive’s salary is reasonably in line with her value to the company. If an executive board chooses to give themselves salaries that do not reflect the services they provide, they would not be entitled to their income.
This presents a further challenge, that of determining what the value of the executive is to the company. Supporters of current executive salaries would argue that these people are the most important figures in gigantic corporations, and that their salaries reflect their contribution. Given that the ratio of a CEO salary to the average worker in the company is increasing so sharply, this would mean that the relative value of company executives has been rising exponentially.
Debates over executive compensation have ignored these trends, and commentators have failed to seriously investigate metrics that could actually measure the value of a CEO to a company. Unfortunately, that’s the only way to settle this contentious debate.
–Luke
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Has the value of companies been rising at a speed comparable to the rise in CEO salary?
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[...] while ago, I investigated how much CEO’s deserve to make. My conclusion, we needed better tools for quantifying the [...]