Pay Gap Matters: Evidence from Bank Liquidity Creation

Abstract

Studying the pay gap between CEO and non-CEO executives (CEO pay gap) at publicly traded U.S. bank holding companies between 1992 and 2019, we document that banks with larger CEO pay gaps create more liquidity. This positive association is dominant for banks with superior risk-absorbing capacities, low competition, and strong governance; large banks; and banks during the post-crisis period. Further analysis presents liquid asset holding as a channel for observing a positive association between CEO pay gaps and bank liquidity creation and the positive relation is magnified by Trouble Asset Relief Program (TARP), the largest government rescue program in U.S. history. Our main results remain robust to multiple proxies and estimation techniques to address endogeneity. Our results imply that placing absolute limits on bank CEO pay could incur unintended consequences such as constraining bank value and economic growth.