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Radically Inept
Tuesday, July 20, 2004
  The CEO market place

The Modulator pointed to this post by Kevin Drum over at The Washington Monthly:
"Supply and demand. Yes indeed. The labor market is a slave to supply and demand just like any other market, right?

Odd, then, that CEO pay rose 27% in 2003, isn't it? Did the supply of CEOs shrink last year? Did demand skyrocket?

What's more, compared to average workers, who remain stuck in the invisible grip of Adam Smith, CEO pay has increased about 3x since 1990 and about 7x since 1980.

Is this the free market at work? That's what I'm told. So I have a contest in mind: a prize for the least laughable explanation for why CEO pay has gone up 7x since 1980 based on supply and demand. At a minimum, winning entries should explain the following:


Why the supply of CEOs has decreased.


Why the demand for CEOs has increased.


Why the elasticity of the CEO demand curve is apparently steeper than for any other commodity on the planet.


Please keep your entries under 100,000 words, and restrict your econometrics to fields no more complex than differential topology.
The question appears to be so intrigueing that in excess of over a hundred posts are vying for the prize - to be disclosed later.

I couldn't resist putting in my 7.5 cents worth, though I doubt my analysis will win. Here it is anyway (though I think I'll go ahead and edit it. Oooh, I didn't think it was that bad):
Someone above also said something about compensation v risk. However, too many of these CEO's have done very little to improve their companies. In fact, many CEO's preside over losses, and still receive way too much compesation.

Continuing the use of sports as an analogy [many of the commenters did at TWM], let's look to baseball. The Yankees and the Braves, consistently have the highest payrolls in baseball. Yet, frequently, it is teams like Pittsburgh, the Twins or the Expos that win with salaries at the bottom of the rankings, with players that other teams failed to see talent in. Of course, the following year, the high payroll teams 'steal' the lower paid players.

This doesn't happen in the CEO market. No one looks to see who is doing well at smaller companies. The CEO market actually is very large, but the major corporations seem to look only at other major corporate CEOs when trying to fill the position from the outside. There is therefore a 'self inflicted' narrow market and I'd argue, a huge opportunity cost that major corporations incur.

So, it would appear that most major corporations operate with self-inflicted market asymmetries.

But the real reason is it's a monopoly market that restricts itself to a 'good ol' boy' system, and refuses to look outward as well as inward for a more economical product.

A different, and perhaps better, analogy, might be the AMA. The AMA through various processes restricts the number of doctors that come out of the American medical education system. Only so many schools are allowed to be accredited, and only so many positions available in each school. If there were truly an open market, than anyone who passes the MCAT would get into med school. And anyone who passes med school would get an ooportunity at a residency, and anyone that successfully finished their residency, would be a doctor. Of course, if you opened the medical profession like that, the market would have so many doctors, that they would proabably have to go back to making house calls at plumbers/electrician rates. Wouldn't you love to have a doctor make a house call for $150 minimum plus $60/hr?

Note that the trades, especially here in the South, where most states are right-to-work states (read: right to fire employees on a whim), their rate increases have largely followed inflation.

So, the markets for CEOs and Doctors are intentionally inefficient, and the cost burden is shifted to the consumer and shareholders.
Anyway, that was my Radically Inept attempt at explaining the obscene salary packages that CEOs are getting lately. 
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