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Consumers and Pay Ratios

Disclosure of Ceo pay Ratios, (over the median total compensation in the company, ) may have –when implemented in the USA as a result of the Dodd-Frank Wall Street Reform Act- a very relevant effect on the companies` reputation. In particular “wage fairness” perception by consumers could lead to a change in their consumption choices.

Other countries might follow this legislation, as there is a widespread growing concern with inequalities and good governance practices.

Whether consumers actually have a fairness or egalitarian preference, or if their preferences are affected by the disclosure`s multiplier effect through the media, the fact is that companies should evaluate this possible effect.

This is the message that Bhavya Mohan, Michael I. Norton and Rohit Deshpandé communicate in their recent working paper for Harvard Business School, (1).

 

They first wonder as to what can be considered a “fair” Ceo pay-median wage ratio. The true value is estimated at 331 to 1 in the USA, (2), although consumers estimate a value of 10 to 1 and consider 4.6 to 1 a correct value. To be noticed, inn real life very similar firms have very different ratios.

Several studies have previously proved consumers willingness to pay more for identical products if they are provided by fair firms, (social responsibility, price fairness, etc).

The authors acknowledge that (high) pay ratios may also signal (high) quality products, competence, and might even affect differently consumers with different ideologies.

The authors perform several studies with the following results:

  1. There is a tendency to paying more for a product provided by a “fair” firm, (one with a low enough ratio).
  2. The results prevail also when consumers are challenged to choose between products provided by fair and less fair companies.
  3. Only huge price discounts succeed to counter this preference by consumers based on their fairness perception.

In brief, although many opponents to pay ratio disclosure argue that the cost of calculations will be overwhelming, (just think of the complexities in the case of multinational firms where currency and cost of living affect “wage actual value”), it is true that there are many factors in its favor:

  • Disclosure will help evaluate governance practices, thus helping investors better evaluate the investee` companies perspectives.
  • Disclosure will help consumers assess their providers fairness so that they can really maximize their preferences, with better information about their “wage fairness).
  • Many companies would be willing to disclose the pay ratio and accept the cost, if that gives them additional reputation and a more privileged place in their customers` preferences and consumer choices.

  1. Mohan, Bhavya, Michael I. Norton, and Rohit Deshpandé. “Paying Up for Fair Pay: Consumers Prefer Firms with Lower CEO-to-Worker Pay Ratios.” Harvard Business School Working Paper, No. 15-091, May 2015.
  2. AFL-CIO (2014), “Executive Paywatch,” (accessed April 9, 2015), [available at http://www.aflcio.org/Corporate-Watch/Paywatch-2014 ].
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