Internal and Market Pay References in Firms

46 Pages Posted: 21 Feb 2025

See all articles by Claudine Madras Gartenberg

Claudine Madras Gartenberg

Wharton School, University of Penn

Elaine Seoyoung Pak

Wharton School, University of Penn

Date Written: December 17, 2024

Abstract

We examine how firms balance internal and external reference points when determining employee pay. Analyzing nearly 19 million confidential U.S. employee records, our analysis reveals three key findings. First, the relative sensitivity of pay to internal over external benchmarks increases with firm innovation intensity, employee skill level, and the combination of the two. Second, this relationship appears at least partly causal: we document similar patterns using an instrumental variables analysis based on regional inflation shocks and a differences-indifferences analysis of CEO transitions. Third, firms with a stronger internal pay orientation produce more and higher-quality patents, including more breakthrough innovations. Altogether, our findings reveal that, while some firms maintain close market alignment, knowledge-intensive firms appear to decouple pay from market forces. This is particularly the case for their skilled workers, consistent with firms prioritizing internal social dynamics in contexts where cooperation and creativity are important for value creation.

Keywords: Compensation, Pay benchmarking, Social comparison, Theory of the firm

Suggested Citation

Gartenberg, Claudine Madras and Pak, Elaine, Internal and Market Pay References in Firms (December 17, 2024). Available at SSRN: https://ssrn.com/abstract=5076659 or http://dx.doi.org/10.2139/ssrn.5076659

Claudine Madras Gartenberg (Contact Author)

Wharton School, University of Penn ( email )

2035 Steinberg-Dietrich Hall
3620 Locust Walk
Philadelphia, PA 19104
United States
2158987755 (Phone)

Elaine Pak

Wharton School, University of Penn ( email )

3641 Locust Walk
Philadelphia, PA 19104-6365
United States

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