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Executive pay and corporate financial performance. An exploratiove data analysis

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  • Grasshoff, Ulrike
  • Schwalbach, Joachim

Abstract

The relationship between executive pay and corporate financial performance continues to attract wide academic, media and policy attention. The very high salaries enjoyed by senior executives in corporations in the US are often contrasted with the relatively low pay received by executives in Europe and Asia. Empirical research on executive pay has mainly concentrated on the pay-performance relationship. Although the adopted data sets were very different within and across countries, the results are very similar and show very low payfor- performance elasticities. Despite the similar results, several methodological issues are still uncovered. Almost all studies assume linear or semi-log linear pay functions without applying a test of the adequate functional form. Most models do not allow for variations across corporations, industries, countries and time. It it assumed that pay functions are homogeneous across corporations, variations are captured by the fixed effects in the constants and assumption about the errors. The purpose of the paper is to circumvent these possible misspecifications by adopting an explorative data analysis using nonparametric methods which impose rather weak restrictions on the model. We start with the most general model but use methods that allow for a stepwise closer look by specifying the various objectives of investigation or the model we deduce from the previous results. In particular, we study heterogeneity between various industry groups. The results show quite clearly that all this methodological issues matter empirically, e.g. industry effects are important, assumptions of additivity crucial and nonlinearities strong and leads to underestimations of the elasticities in a standard parametric model. In sum, the results might have far reaching implications for further empirical studies on executive pay. At least, it weakens the concern expressed by many in that field that strong pay-forperformance incentives for executives are missing.

Suggested Citation

  • Grasshoff, Ulrike & Schwalbach, Joachim, 1999. "Executive pay and corporate financial performance. An exploratiove data analysis," DES - Working Papers. Statistics and Econometrics. WS 6382, Universidad Carlos III de Madrid. Departamento de Estadística.
    • Handle: RePEc:cte:wsrepe:6382
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    References listed on IDEAS

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    1. Sperlich, Stefan & Tjøstheim, Dag & Yang, Lijian, 2002. "Nonparametric Estimation And Testing Of Interaction In Additive Models," Econometric Theory, Cambridge University Press, vol. 18(2), pages 197-251, April.
    2. Oliver Linton & E. Mammen & J. Nielsen, 1997. "The Existence and Asymptotic Properties of a Backfitting Projection Algorithm Under Weak Conditions," Cowles Foundation Discussion Papers 1160, Cowles Foundation for Research in Economics, Yale University.
    3. Graßhoff, Ulrike & Schwalbach, Joachim, 1997. "Corporate restructuring, downsizing and managerial compensation," SFB 373 Discussion Papers 1998,35, Humboldt University of Berlin, Interdisciplinary Research Project 373: Quantification and Simulation of Economic Processes.
    4. Stefan Sperlich & Oliver Linton & Wolfgang Härdle, 1999. "Integration and backfitting methods in additive models-finite sample properties and comparison," TEST: An Official Journal of the Spanish Society of Statistics and Operations Research, Springer;Sociedad de Estadística e Investigación Operativa, vol. 8(2), pages 419-458, December.
    5. Jensen, Michael C & Murphy, Kevin J, 1990. "Performance Pay and Top-Management Incentives," Journal of Political Economy, University of Chicago Press, vol. 98(2), pages 225-264, April.
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