Does Global Culture Impact Executive Compensation?

Editor's Note:  Today's post comes to us courtesy of guest contributor Jacque Vilet.

There is hand-wringing in American over growing income inequality and excessive CEO compensation.  The gap between the “haves” and “have nots” has gradually widened for decades.  U.S. CEO’s now make 269 times more than average workers; that gap is 20 times bigger than it was in 1965.  A study by the consulting firm Towers Perrin of top CEO pay in 26 countries found that U.S. CEO’s make an average of twice as much as their British, French and German counterparts and four times as much as the Japanese and Koreans.

Why do CEO’s in the U.S. receive so much more compensation compared to their counterparts in other advanced developed countries such as Germany, Japan, the UK and France?  

There are a lot possible explanations but let’s look at a couple:

• Differences in Board of Director  purpose and responsibility
• Cultural norms 

Differences in Board of Director Purpose and Responsibility

One of the key factors sustaining powerful CEO’s in the U.S. is the practice of CEO duality which assigns the CEO a dual role as Chairman of the Board. This practice is used in 80 percent of large, public firms in the U.S., and it dilutes the ability of the Board of Directors to exercise its responsibility as an oversight function.

One way CEO duality can weaken a board is by controlling the information given to them to make decisions.  U.S. CEO’s can also select external board members who serve on the compensation committee which determines CEO pay.

This dual CEO/Chairman structure does not exist in Germany as boards do not permit a CEO or other inside executives to serve on them, let alone as Chairman.  In addition, in large German firms with more than 2,000 employees, half of the board members must be employees, representing labor and having different priorities than shareholders.

In the UK there are strong norms for good corporate governance that argue against the practice of CEO duality because of its potential to inhibit the board from performing its monitoring function.  

In Japan the Chairman of the Board is usually a retired company CEO or retired government official. The Japanese CEO’s power is also limited due to strong social norms that require consensus within the company.

In France, the CEO is powerful and has a dual role as Chairman, however, this is offset by the presence of large and powerful shareholders (the five largest) who are represented on the board.

Cultural Differences

Cultural norms invariably influence CEO pay decisions.   Research has found clear, significant relationships between CEO compensation practices and national culture.

Japan is a collectivistic society.  There is an emphasis on teamwork and group effort.  CEO’s in Japan can be expected to consult more frequently with their peer group of executives and make more consensus-based decisions.  In addition, Japan can be expected to be less tolerant of high CEO pay since high pay dispersion and low income equality would produce social tension.   There is a high emphasis placed on internal equity and low use of variable pay.

In the United States, Canada, and the UK, individual accomplishment and recognition are emphasized over group harmony and teamwork.  These cultures place high value on external equity and the liberal use of variable pay.

Boards in Germany and France tolerate higher CEO pay than the Japanese but less than the U.S.  They fall somewhere in the middle of the continuum between collectivism and individualism.

Convergence and non-convergence theories on CEO pay

Where will these differences lead us?

Convergence theory says that over time CEO pay will become the same worldwide due to globalization. Economic competition will pressure companies into similar pay practices regardless of what country they are in.  The gap in CEO pay between the U.S., UK, Germany, France, Japan and other developed countries  will diminish as the search for talented CEO’s in a limited pool will begin to cross national boundaries.

Non-convergence theory says that (other issues aside) cultural differences will not allow for convergence across countries. The differences in culture are so great that no one cultural method of delivering CEO pay would be acceptable.

Although no research exists on this, logic tells us that convergence theory will eventually “win out”.  It will take time and will not likely happen in the near or even intermediate future.   In the meantime it may be regional economic integration that fosters regional CEO pay structures (e.g. the EU).   This could be an intermediate step to global convergence.

I don’t know about you, but I feel better knowing all of this!   But so what?   What now?  What do we do with this information?

Any ideas?

Jacque Vilet, President of Vilet International has over 20 years’ experience in International Human Resources with major multinationals such as Intel, National Semiconductor and Seagate Technology.    She has worked with both local nationals and expatriates and has been an expat twice during her career.    Jacque holds the CCP, GPHR and SWP (Human Capital Institute).  She is a member of WorldatWork,  Society of Human Resources Management and the Human Capital Institute.   She is co-chair of the Global HR professional emphasis group for the Dallas chapter of SHRM.  She is a regular contributor to HCI, HR.com and IHR Forum.

Image courtesy of wired.com

Comments

[Laura Schroeder]

Thank you for summarizing the different global practices so clearly. Most of the articles and research studies on why CEO pay is so high dance around the real issue: CEOs head up the board which sets their compensation.

As for what we do about it, unless a law is enacted in the US prohibiting CEOs from serving as board chairman there's only one thing to be done: Get promoted to CEO and accept a 6-figure salary to set a good example. Then, while the other CEOs are busy laughing, steal their wallets.

[E. James (Jim) Brennan]

Different nations have different traditions and different rules on executive compensation. For example, there was a June 13, 2011 article "Ghost of Enron Wreaks New Havoc on Exec Pay" @ http://www.cfo.com/article.cfm/14581582?f=home_featured explaining the iatrogenic nature of some recent U.S. fixes to the tax code like section 409A. Without going into the technical details, corrections in one place can have unintended complicating effects in other places, disrupting normal long term reward programs selected by outside third party compensation committee members who represent shareholders rather than the CEO.

Must agree, overall, that movement towards the center is a universal trend; but that is not always good. When some economic systems have extreme outliers, the center point can be tilted badly. Even mainland China executives are now demanding pay comparable to that received by Americans, so "the ratchet effect" is still working against the public interest. Although I disagree about CEOs dominating their comp committees that much, I still have not heard of any CEO anywhere who quit because their board refused their compensation demands... and that's not healthy.