CEO Pay and Appointments: Putting Integrity Back into Hiring Decisions

Abstract

A rarely studied trend in corporate governance is the increasing tendency to fill CEO openings through external hires rather than through internal promotions: Kevin J. Murphy and Ján Zábojník (2004) show that the proportion of outside hires has doubled and their pay premium almost quadrupled over the last thirty years. Assuming that general managerial skills are becoming more important relative to firm-specific skills, the authors conclude that competition in the managerial labor market establishes an optimal compensation contract. In our model we question the last explanation and argue that it is the balanced mix of external market control and internal firm control that establishes compensation contracts, which may be approximately optimal.

Keywords: CEO Appointments, external hires, suboptimal contracts

JEL Classification: G34, J23, J41, M52