A rigidity-based theory of executive compensation

There is a new paper by Kelly Shue and Richard Townsend (pdf), it is quite intriguing though note it is preliminary work. I am not linking to it but the authors appear to have distributed the abstract on the internet:

We explore a rigidity-based explanation of the dramatic and off-trend growth in US executive compensation during the late 1990s and early 2000s. We show that executive option and stock grants are rigid in the number of shares granted. In addition, salary and bonus exhibit downward nominal rigidity. Rigidity implies that the value of executive pay will grow with firm equity returns, which averaged 30% annually during the Tech Boom. Rigidity also explains the increased dispersion in pay across firms, the difference in growth rates between the US and other countries, and the increased correlation between pay and firm-specific equity returns. Regulatory changes requiring the disclosure of the value of option grants help explain the moderation in executive pay in the late 2000s. Finally, we find suggestive evidence that number-rigidity in executive pay is generated by money illusion and reference-dependent motivation, the same behavioral biases that may underlie downward nominal wage rigidity among rank and file workers.

For the pointer I thank Robert J. Shiller.

Addendum: The authors recommend this link to a new version of the paper.