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CEO Pay and CEO Power: Evidence from a Dynamic Learning Model

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  • Lucian A. Taylor

    (University of Pennsylvania Wharton School)

Abstract

If CEOs have considerable power over their own compensation, then we expect them to avoid pay cuts following bad news about their ability, and win large pay raises following good news. Contrary to this view, I find that CEOs capture only 20-33% of the surplus resulting from good news, and they bear 8-20% of the negative surplus resulting from bad news. These estimates are from a model in which agents learn gradually about CEO ability, and CEOs' bargaining power determines how their compensation responds to news about ability. I estimate the model's parameters by applying GMM to data on stock returns and changes in CEO pay. Since CEOs do not capture their full surplus, CEO ability matters more for shareholders, which is supported by predictions and data on unanticipated CEO deaths. The model helps explain the sensitivity of CEO pay to lagged stock returns, and also the changes in stock return volatility around CEO successions.

Suggested Citation

  • Lucian A. Taylor, 2010. "CEO Pay and CEO Power: Evidence from a Dynamic Learning Model," 2010 Meeting Papers 321, Society for Economic Dynamics.
    • Handle: RePEc:red:sed010:321
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    Cited by:

    1. Yuk Ying Chang & Sudipto Dasgupta & Gilles Hilary, 2010. "CEO Ability, Pay, and Firm Performance," Management Science, INFORMS, vol. 56(10), pages 1633-1652, October.

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