Executive Compensation: A Modern Primer

171 Pages Posted: 13 Mar 2015 Last revised: 16 Oct 2018

See all articles by Alex Edmans

Alex Edmans

London Business School - Institute of Finance and Accounting; European Corporate Governance Institute (ECGI); Centre for Economic Policy Research (CEPR)

Xavier Gabaix

Harvard University - Department of Economics; National Bureau of Economic Research (NBER); Centre for Economic Policy Research (CEPR); European Corporate Governance Institute (ECGI)

Dirk Jenter

London School of Economics & Political Science (LSE) - Department of Finance; Centre for Economic Policy Research (CEPR)

Multiple version iconThere are 3 versions of this paper

Date Written: June 26, 2017

Abstract

This paper reviews the theoretical and empirical literature on executive compensation. We start by presenting data on the level of CEO pay over time, across firms, and compared to non-executive pay; the changing composition of pay; and the strength of CEO incentives. We compare pay in U.S. public firms to private and non-U.S. firms. We then critically analyze three non-exclusive explanations for what drives executive pay - shareholder value maximization by boards, rent extraction by executives, and institutional factors such as regulation, taxation, and accounting policy. We confront each hypothesis with the evidence. While shareholder value maximization appears consistent with much of it, no single explanation can account for all current practices and historical trends; we highlight major gaps for future research. We discuss evidence on the effects of executive pay, highlighting recent identification strategies, and suggest policy implications grounded in theoretical and empirical research. Our survey has two main goals. First, we aim to tightly link the theoretical literature to the empirical evidence, and combine the insights contributed by all three views on the drivers of pay. Second, we aim to provide a user-friendly guide to executive compensation, presenting shareholder value theories using a simple unifying model, and discussing the challenges and methodological issues with empirical research.

Keywords: Executive compensation, contract theory, principal-agent problem, rent extraction, optimal contracting

JEL Classification: D86, G34

Suggested Citation

Edmans, Alex and Gabaix, Xavier and Jenter, Dirk, Executive Compensation: A Modern Primer (June 26, 2017). Journal of Economic Literature, Forthcoming; European Corporate Governance Institute (ECGI) - Finance Working Paper No. 450/2015 . Available at SSRN: https://ssrn.com/abstract=2576707 or http://dx.doi.org/10.2139/ssrn.2576707

Alex Edmans (Contact Author)

London Business School - Institute of Finance and Accounting ( email )

Sussex Place
Regent's Park
London NW1 4SA
United Kingdom

European Corporate Governance Institute (ECGI) ( email )

c/o ECARES ULB CP 114
B-1050 Brussels
Belgium

Centre for Economic Policy Research (CEPR) ( email )

London
United Kingdom

Xavier Gabaix

Harvard University - Department of Economics ( email )

Littauer Center
Cambridge, MA 02138
United States

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Centre for Economic Policy Research (CEPR)

London
United Kingdom

European Corporate Governance Institute (ECGI)

c/o ECARES ULB CP 114
B-1050 Brussels
Belgium

Dirk Jenter

London School of Economics & Political Science (LSE) - Department of Finance ( email )

United Kingdom

HOME PAGE: http://personal.lse.ac.uk/jenter/

Centre for Economic Policy Research (CEPR) ( email )

London
United Kingdom

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