Does executive pay feed income inequality – and how can we fix it?

25 March 2015
Photo of visible inequality in the Paraisópolis favela in Sao Paulo, Brazil courtesy of the International Monetary Fund.
Photo of visible inequality in the Paraisópolis favela in Sao Paulo, Brazil courtesy of the International Monetary Fund.

Massive salary disparities between those in the upper echelons of corporate management and those lower down the ladder are fodder for heated debate in a country racked by social inequality. Co-authors of the 2014 book Executive Salaries in South Africa: Who should have a say on pay, Associate Professor Debbie Collier (deputy dean of UCT's Faculty of Law) and Kaylan Massie discuss whether there's a 'best practice' for remunerating those at the top of the earnings pile.

Deepening income inequality is a complex global challenge – a dangerous phenomenon that requires a nuanced policy and regulatory response. A persuasive body of evidence tells us that the high levels of income inequality we are experiencing are both socially and economically bad for us. The social ills experienced in highly unequal societies include high rates of criminal activity, obesity, substance abuse, mental illness, depression and anxiety, poor educational outcomes, and low levels of trust and social mobility. The evidence also suggests that extreme inequality impacts negatively on economic growth.

Excessive executive pay, in comparison to pay in job grades lower down the scale, is of course only one aspect of the inequality problem: in South Africa, the apartheid legacy has left vulnerable members of our society living on the outskirts of economic activity, with poor access to public facilities such as transport, health and education. This exacerbates and sustains an inequality problem that is still largely defined along racial lines – even though we are experiencing increasing levels of intra-racial income inequality.

More regulation is a double-edged sword

In Executive Salaries in South Africa: Who should have a say on pay? we suggest that corporate pay policies need to be determined by a more transparent and fair process, with a view to reducing the pay gap.

Is greater regulation of pay necessary to achieve this? Regulatory interventions are often ineffective. There is some evidence, globally, that increased disclosure requirements for executive pay can in fact lead to peer comparisons of pay and pay increases, rather than the restraint in executive pay originally intended.

However, tax policy and transfer reform in the form of greater redistribution measures could well have a positive impact on inequality levels. In addition we suggest some reform – and better use – of two other areas of law and regulation: employment equity law, and corporate governance.

On the employment equity front, section 27 of the Employment Equity Act already obliges employers to report on income differentials within the organisation. This is a wholly underutilised area of our law. However, we are critical of the fact that the reporting requirements exclude share incentive schemes and discretionary payments – as often, excessive levels of executive pay are bound up in incentive schemes – and we suggest reform in this regard.

The Employment Equity Act requires employers to take measures to progressively reduce a disproportionate income differential, and provides a mechanism for trade unions or employees to request information on the wage gap during wage negotiations. This provides an underutilised opportunity for workers to engage with management on ways to reduce the wage gap.

At a corporate governance level, rules are provided for the setting of pay. The King Code of Governance Principles of 2009 (King III Code) requires that directors and executives be remunerated fairly and responsibly, and that remuneration policies should be guided by the principle of sustainability.

Best practice:
A guide to fair executive compensation

  1. Link pay to performance
    Remuneration policies should link pay to performance and be put to a non-binding advisory shareholder vote at every annual general meeting (Collier and Massie suggest that South Africa should make this vote binding).
  2. Link incentives to performance
    Incentives should be tied to multiple performance conditions that should not be repeated across incentives. The vesting period for longterm incentives should be at least three (but preferably five or more) years. If the performance criteria are not met, they should not be retested in a subsequent year.
  3. Eliminate external factors
    External factors affecting company performance that are beyond the control of the executive (such as rising commodity prices) should have minimal impact on the executive's pay for the year (executives in a gold mining company should not be paid significantly more money simply because the price of gold has increased, for example).
  4. Don't offer termination bonus or balloon payments
    Companies should not commit to paying balloon payments, bonuses or other incentives on termination. Contractual provisions related to payments on termination or change of control should be disclosed.
  5. Disclose one clear figure for remuneration
    Disclosure of executive pay should be done in a clear and understandable manner. Companies should disclose the value of share incentives granted, vested and exercised during the year. Preferably, companies should state 'one figure' for remuneration that includes the value of all remuneration paid during the year, including salary, bonus, pension, benefits and the value of any incentives granted.
  6. Establish an independent remuneration committee
    Remuneration committees should be comprised of a majority of independent directors (or preferably, entirely of independent directors) and be empowered to seek independent external advice; and remuneration committees should consider the goal to be reducing the wage gap between the top and bottom levels of the company, and actively take steps to achieve this goal.

For regular updates on executive remuneration policies and debate, visit Massie's blog:


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25 Mar 2015

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