Why CEO's make so much money. Part 2

In the previous post I tried to put in perspective the money that CEO's make. Considering the billions of dollars worth of decisions they make, $59 million is not a terrible amount. Furthermore people are confused and sadly mistaken when they believe a CEO is paid at the expense of the consumer. If that CEO can save the company $100 million then paying him $99 million is advantageous and saves the company, stockholders, and consumers money much less the $59 million they are paid on average.

Today lets address oppurtunity costs effect on CEO pay. Oppurtunity costs are those costs given up by someone in order to achieve something else. The oppurtunity costs of me going to college is not the $25,000 it cost to go that is direct costs, but the 4 or in my case 6 1/2 years of working I give up at another job and time that I give up in order to attend that college. If I decide the pay off will be greater in the future for going to college I will still attend. It usually is in America and that is why more people do go to college today then do not. When a person decides to become a CEO they give up other job oppurtunities. Most are very capable leaders and could go into many other fields. Most CEO's have the abilities that are of low supply and thus their pay must be higher.

They give up much of their time as well. Most CEO's will spend over 60 hours of work a week to achieve that CEO status. When they achieve that CEO status they work sometimes 70 hours a week. They give up family time if they have a family. They give up vacation time if they enjoy vacations because their demand in the office is so high. When they do decide to go on vacation they are on call 24 hours a day for major decisions or emergencies. Very few people are willing to give up these benefits.

Probably the largest oppurtunity cost is the cost of a short job career. Most CEO's are older when they achieve that status. Despite this they still have years of work ability left in them and want to work for many years to come. The problem is that they usually do not last long as the CEO. CEO's are fired yearly. Many only last a few years. If they lose their job they might be offered a lower paid job in the company but many are fired alltogather and their reputation might be too tarnished to get work elsewhere. Without the high amounts of pay that these men or women are offered they might decide the oppurtunity costs are too large to risk.


I will now have to have a part three due to the length of this post. Incentives is another reason to be paid high salaries. I will also discuss their high pay to leave a company in many cases.

Why CEO's make so much money. Is it Greed?

This past Sunday afternoon I was discussing economic issues with an Uncle of mine. One issue we discussed is why CEO's of companies make so much money while Americans are paying huge amounts of money for gas and other goods. He believes we are being ripped off, and that CEO's are greedy. Please allow me to discuss the fallacy of this argument in a two-part series. I will first put their pay in perspective and talk about costs. In the next blog I will explain opportunity cost and other reasons for the high pay of executives and in short explain why many failing executives are paid high compensations to leave the company.

First some perspective. In 2004 the top ten corporate executives earned on average $59 million each. The top ten celebrities earned an average of $119 million each. Yet many in the media criticize corporate executives more than they criticize sports, movie, and media stars. Given the billions of dollars at stake in a company it should not be surprising that they make $59 million. Many would argue that they are paid at the expense of stockholders and consumers. That prices are rising to pay for their huge compensations. However if a CEO saves a company $100 million in a year and is compensated $59 million then the company is still better off $41 million and thus saving stockholders and consumers extra expenses. Sounds like a good trade off to me.

Wages, rents, capital, and investments are all "costs" to a corporation, thus the pay of their CEO is a cost to the company and that company will do whatever it can to pay as little as possible to the boss running their company. Remember CEO's pay is usually decided by a board of directors, or those with the most stock in the company. Why would they pay him more than he or she is worth? I would think they would not. So when you buy a product such as Gas and you hear that the CEO of that company is making millions and you think it is at your expense, you might want to ask yourself how much money that CEO is saving you in company losses.

Part 2 will discuss more economic analysis and point out the less obvious costs that are associated in paying CEO's these large sums of money. This will include opportunity costs, incentive costs, and the compensations of failing CEO's just to get rid of them.