“The idea that a CEO is the most important person in the company and the rest doesn’t add up to very much seems to be fundamentally wrong,” says Dan Ariely, the Israeli-born expert on economics and human behavior.
The issue of CEO pay was the focus point of an in-depth interview with TheMarker, a condensed form of which appears in English. The issue surfaced in Israeli headlines recently after Eyal Lapidot was reportedly awarded a five-year deal worth 105 million shekels ($29 million) to become CEO of Housing & Construction Limited.
It’s also an issue in the United States, where a survey commissioned by The New York Times found that in 2018 CEOs received median compensation of $18.6 million – a raise of $1.1 million, or 6.3%, from the prior year.
Ariely’s insights are backed up by research and are used extensively by startup companies, for whom he often works as a consultant on top of his academic post as James B. Duke professor of psychology and behavioral economics at Duke University. It gives him access to the inner workings of business.
“How many of Google’s patents have come from the CEO?” asked Ariely, the best-selling author of books like “Dollars and Sense: How We Misthink Money” and “How to Spend Smarter.” “It might have been true when [the CEOs] were the founders but it is certainly not true today. If we take Amazon, for example, its major source of profits today is in cloud computing and that didn’t start with Jeff Bezos but from employees under him. While there are a lot of complaints about what goes on at Amazon, there’s also a lot of freedom to try new things and fail big time.”
He doesn’t fire them when they fail?
“No. Another example is Scott Cook, a co-founder of Inuit, who gives a half-million-dollar prize every year to employees who try hard and fail. Without a doubt a company’s productive power is its power of invention and creativity. That can’t come from the CEO – he can only give direction, for example by creating a supportive environment and an atmosphere of risk taking.”
When do you think it is appropriate to pay big salaries to senior executives?
“There are several questions here. How much value does the CEO and other executives bring shareholders and whether the difference in performance between CEO A and CEO B justifies the difference in pay? In the United States, there is a potential substitute for a lot of CEOs who are ready to do the job for a lot less money. Every once in a while there will be a genius who can do something that no one else can do. Then the high pay can be justified, but that is something very unusual, even if every CEO thinks he is special.”
Does your research indicate an ideal ratio between executive compensation and employee compensation?
“It’s very important employees feel that compensation is justified. It affects employee motivation and company value. That feeling arises from comparing the employee pay to that of senior managers. If I feel like I’m working hard but I have a piggish CEO who is taking 99 agorot from every shekel I bring into the business, why should I make such an effort or feel so dedicated to my workplace?”
How do you apply this to a company?
“It’s the responsibility of the board of directors to realize that social justice inside the company is important in motivating employees. If I were a board member, I would try to get an insight into employees’ perceptions of wage fairness.”
Do you believe regulators should intervene, for instance in capping pay?
“Yes. In economics we regard competition as something good, but that’s not always true. Sometimes competition destroys the system. Let’s assume I teach a class of 500 students and I say at the start that only one of them is going to pass the course and everyone else will fail. How many of them would spend the year studying in order to learn and how of them would try to sabotage the others?”
You’re saying that people are fundamentally bad?
“No. I am saying that there are markets where ‘the winner takes all,’ and there the danger is that the market will be destroyed. So, we have to distinguish between markets where everyone can profit from competition. If all the CEOs are competing among themselves for the highest pay, they’ll spend all their time going from company to company, to whoever gives the most – and that’s not necessarily good for the market.”
The job of CEO, according to Ariely, is to provide a vision for his or her employees. “The CEO should enable his employees to flourish, and one of the things that gives employees motivation is the feeling that they have autonomy,” he says. So far, he says, he hasn’t found a job for which this rule doesn’t apply.
A garbage truck driver?
“We conducted an experiment in a similar case in a U.S. city. The problem was that people didn’t put their garbage cans out on the sidewalk the right way, which meant that the garbage truck couldn’t collect trash automatically. The driver had to get out of the truck to set the container properly …. What we did was to give workers stickers that said ‘If you don’t leave your garbage cans on the street as you are supposed to, we will not collect it.’ The workers affixed them on cans as needed. We also allowed the workers to not collect garbage when a can wasn’t properly positioned. Residents learned what they needed to do and job satisfaction of garbage truck drivers improved.”
Driving a garbage truck is monotonous work.
“What was happening here was a basic lack of consideration by residents toward drivers. When we gave the drivers the ability to react, we turned them from workers who collect garbage no matter what to being part of a dialogue. We told them that if they were treated badly, they should not collect the garbage. It gave them autonomy and improved their job satisfaction, although that was not the main goal of the experiment.”
Ariely says CEOs make a common mistake. “If something good happens to us, we think it’s because of us, and if something bad happens we think it’s because of someone else,” he says. “Vis-a-vis other people, we think the opposite – if something good happens to someone else, we regard it as good luck and if something bad happens to them it’s because they are idiots.”
He adds, “We have a tendency to exaggerate our influence on the world and don’t appreciate how much of a factor luck plays.”
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