Michael Peppard has an excellent post up at dotCommonweal about recent studies of CEO pay, and specifically the ratio between CEO and median worker pay. This ratio is a favorite statistical “sign” for increasing inequality. The ratio in 1980 was 42 to 1. In the 2000’s, it boomed well into the hundreds-to-one, and Peppard has a graphic link to a Bloomburg chart listing the ratio for the top 250 corporations. Some of these run well over 1000-to-1.

Peppard notes that people’s perceptions do not tend to match up to these ratios – they tend to woefully underestimate them (just like they tend to woefully overestimate their vulnerability to violent crime). He writes, in explaining a class exercise where people were asked to describe the ideal ratio:

As I recall it, the most left-wing students in the class were in the 10-to-1 range (200K income vs. 20 K income), and the more libertarian students rejected the very notion of an ideal ratio (“let the market do its thing, and let the people revolt if necessary”). There were lots of folks in the middle (20-to-1 or even 100-to-1). The real ratios of income inequality in the U.S. have become basically unimaginable since then.

“Unimaginable” is the right word, because the economic proportions bear almost no resemblance to the world most of us live in, where ratios of 2-to-1 and 3-to-1 reign. So, recognizing the reality of such numbers is important. But what exactly is the moral issue here? Let’s assume, as most commenters on dotCommonweal do, that the libertarian position – which is that the immoral thing is having this conversation, not in any ratio – is incorrect. Catholics have a moral concern about excessive wealth. But what exactly is the problem? Peppard, in a comment, cites the “rising tide lifting (almost) all boats in the 1950’s to the 1970’s,” and many others complain about the decline of unions.

I think there are very important moral issues here, but complaints about the lack of unions and wistfulness for the 1950’s and 1960’s as some golden age tend to be very misguided. If one looks at that list of top companies, many of them have median salaries for their workers of $50-60,000. This is not a great salary, but it is well above the overall US median. It is reasonable. And yet these companies also have astronomical ratios. Is high CEO compensation only unfair if the median workers are making $25-30,000, as they do in many retail operations listed? Is the problem poor worker pay – or high CEO pay?

Evidently some people think these are necessarily linked, but here is where we ignore three key factors at work. The first and most fundamental is the concentration and consolidation of capital in larger and larger entities. The fact is, CEO’s of big banks and big retailers make a ton of money because these operations themselves are enormous. Take Starbucks. They are in the Top 10 of the  Bloomburg chart, with a 1,135 to 1 ratio between CEO and median worker pay. Their US revenues for 2012 were $11.7 billion, and their CEO got paid $28.9 million. Let’s say Joe Coffee runs his own, gangbusters local coffee shop… and does $5 million in annual business. The ratio of revenue to CEO pay being kept equal, Joe’s CEO would make $12-13,000! So, taken in terms of a slice of the business, Joe’s CEO (or Joe) is taking more from his customers than Howard Schwartz is from Starbucks customers. Howard Schwartz makes a lot of money because his business makes an enormous amount of money. (Joe Coffee may also be nicer to his workers, but likely gives them less opportunities for advancement and fewer benefits.)

There is, of course, a school of Catholic economics, the distributists, who will say that this concentration of productive capital is itself the problem with our present economy – for reasons of CEO pay, and many others. Concentration of productive capital in corporate hands or in government hands is a problem. What is needed is a wide distribution of small-scale capital. Their position seems to me consistent… though it requires a world that looks quite different from our present one. I find that world very attractive, which is why I’d probably go to Joe’s Coffee Shop. But if Catholics are going to accept very large-scale enterprise, then one is also going to accept that it is not inefficient to pay the head of such an enterprise a lot of money.

But why? Why does he or she need to get so much more than Joe Coffee? This highlights the second problem, what has been termed the rise of “winner-take-all” markets. In winner-take-all markets, very small differences can make very large differences in outcomes. Thus, your typical Double-A minor league catcher makes barely anything, while the average catcher in MLB makes several million, and Joe Mauer makes well over $20 million. There are real differences in skill here, but they are not proportional to the difference in pay. The minor league catcher is way, way better than almost all Americans at catching and batting. There is a much large skill difference between him and me than there is between him and Mauer. But of course professional sports constitute a very large (and monopolized) pool of money, and therefore it is “worth it” to get a guy who hits 10 points higher… and really worth it to get a guy who hits 70 or 80 points higher, and is the hometown face of your franchise to boot. In winner-take-all markets, small differences can make big differences. Hire a bad CEO if you’re a large company, and there could be a lot of damage. But more importantly, hire a slightly better CEO than your competitor, and the rewards will far outstrip any salary you might pay. While it’s not necessarily any easier to evaluate executive talent than baseball talent, the point is that, given the size of the pool, it’s worth paying a lot more for a slight edge – because that “slight edge” may translate into enormous revenue advantages, which then carry into the future. If you could spend an extra $10 million on a CEO who would gain you 10% market share edge in a $1 billion a year market, would you do it? Of course you would. Thus, the effect is to drive salaries up across the board in search of a small edge.

Here again, we see that large size will make it rational for companies to bid up executive salaries. A star CEO – like a celebrity endorsement – might translate into billions and billions of dollars a year. If one accepts winner-take-all markets, then one is going to have to accept these kinds of salaries as rational. True, many company Boards are made up of… other CEO’s, and so in theory, they all overcompensate each other. But ordinarily, this concern is not a matter of size so much as compensating CEO’s for failure (which we also find irksome with sports stars). So take the comment from Family Dollar spokesperson, Bryn Winburn, on her CEO’s $5.2 million compensation, at the relatively modest (!!) 176-to-1 ratio:

Our compensation packages are competitive with those offered by our peers in the retail sector and align executive’s interests with stockholders’ by keeping a significant portion of executive compensation ‘at risk’ linked to both our short-term and long-term financial success.

This seems like exactly the response one would want, if one were a shareholder. Moreover, academics need to be careful in criticizing this, because our own world is steeply stratified in just this way, although less in terms of huge salaries and more in terms of prestige. When we are doing a search in our departments, aren’t we quickly looking for people from just the top handful of grad programs?  Everyone else is like the minor league catcher… except we call them “adjuncts.” That is to say, winner-take-all markets have a complicated mix of positive and negative consequences that demand careful response. With the distributists, one can again simply object to such a scale – why can’t every local community modestly support its own Joe Mauer, instead of pouring all its money into a team from Minneapolis? But if we think scale brings benefits, whether sports, retail, or the arts, we are inevitably going to create incentives that drive up compensation disproportionately for those who can give a company or team even a small edge.

But, it may be objected, there were many large enterprises in the United States in 1980, and the ratio was so much smaller. One would have to dig deeper into whether the still-less-concentrated business world at that time has something to do with the numbers. But I am sure of one thing: that in 1979, the top tax bracket was… 70%. (which, according to the great charts at the non-partisan Tax Foundation, would apply to incomes over $342,000 in today’s dollars) There simply was a lot less incentive to ramp up your income, and even if you did, most of it went to the government. There were certainly problems with this… but by 1987, that top bracket had dropped to 28%, a truly staggering, revolutionary change in our treatment of the super-wealthy.

So my third point is that it makes less sense to rail against high salaries, and more sense to figure out how to disincentivize these kinds of competition “at the top.” Economist Thomas Frank has long advocated for a “progressive consumption tax” – a “luxury tax,” essentially, but one which would not specify particular goods. A progressive consumption tax would simply increase the percentage of tax one pays as one spends more and more money, which would serve to disincentivize wasteful consumption at the top… or at least reroute some of those resources into the social coffers.

Of course, the egalitarian ethos (and tax rates) of the 1950’s through the early 1970’s were not just the function of benevolence. There were international capital controls, super-cheap domestic energy, a Cold War enemy, and almost no international competitors for our goods. We ran balanced trade throughout the whole period. There were even, until the late 1960’s, laws limiting chain stores and branch banking in most states, which limited the size of retail operations. Recalling this age based merely on redistributionism or unions misses these huge contextual points. I can’t see any way to recover the more equalized ethos of that age without reviving some of these conditions as well. It is too simplistic to talk simply of demoralized workers and greedy CEO’s.

So, what should we talk about? First and foremost, we need to talk about just wages for the ever-expanding universe of low-skill service jobs in our economy. Catholics should have a serious, focused conversation about basic worker pay, including things like wage subsidies (i.e. the EITC)… and then make direct consumer choices based on such conversations, avoiding comapnies that do not pay just wages. And secondly, for the wealthy (and for the upper-middle class), we need to talk about luxury as a vice, so that maybe wealthy CEO’s will live more modestly, put more resources into doing good… and perhaps even consider taking less in the first place. After all, I probably won’t earn anywhere near $28.9 million (or $2 million!) in my entire lifetime. So why Howard Schwartz or Joe Mauer need that for one year is somewhat beyond me. If Mauer wanted to win the World Series for his hometown team and be a legend, he would have signed for $15 million, so the Twins could have gone out and signed a staff ace or two. (My understanding is that the problem here is actually the players’ union, which wants to bid up top-end salaries because it lifts everyone to some extent!) From a Catholic perspective, the wealthy have immense responsibility – a “social mortgage” on their wealth. Catholic thinkers should never cease to remind everyone of this basic doctrine. But I think it is misguided to “rage against the machine” and suggest that they make this money by swindling anyone. They make it because they’ve won in some very, very large seas of spending in our economy. Sure, we can question the large seas themselves, as distributism does. But if we want to swim in them, our response to those who command very high pay might need to be more nuanced.