Do politicians get what’s needed to tackle unfair pay?

The launch of the High Pay Commission’s (HPC) final report yesterday confirms that the scale of executive pay has reached such epic proportions that it can no longer be ignored by the political or economic elites. The year-long inquiry found that the ‘stratospheric’ increases in top pay among Britain’s largest companies are out of all proportion with the wages of other employees, that they are the result of murky decisions made behind closed doors and are rarely linked to performance in practice.

The groundswell of public opinion is behind the HPC’s call for action. Polling by IPPR earlier this year found that two thirds of people believe the gap between the highest and lowest earners in their own workplace is too large. More than three-quarters (78%) of the British public would support government action to reduce the gap between high and low earners, with 82% of those saying the government should act in both the public and private sectors.

If ever there was a time to act, it’s now. Politicians of all political persuasions have signalled a need to tackle the lack of responsibility at the top. But do they get what’s needed to tackle unfair pay?

David Cameron and Labour’s Shadow Business Secretary Chuka Umunna have both called for measures to strengthen the hand of shareholders in holding executives to account. Yet this assumes that shareholder interests – the value of their shares – are always aligned with the long term interests of the company.

Given that over 40% shareholders of UK companies are based abroad, it’s not clear why they would be concerned about the long-term health of the UK corporate world. Performance incentives such as bonuses and stock, share and deferred compensation options typically reward senior managers for increases in stock-market value. The structure of the incentives deliberately encourages managers to focus on shareholder profit, on an annual or even quarterly basis.

This in turn creates pressure on managers to cut annual expenditure, creating disincentives for long term investments in R&D, machinery, staff training and so forth – all of which are crucial if we want a more dynamic, sustainable and innovative economy. The complexity of remuneration packages is also one of the reasons executives got away with last year’s 49% pay rise, compared to an average of just 2.7% for the rest of us.

Shareholders are also not necessarily best placed to assess or take account of the external impacts of company practices – such as the impact that extensive low pay has on levels of consumer demand, or the environmental impact of particular products. It was the domination of the shareholder ownership model among finance institutions – combined with performance incentives that encouraged risk-taking behaviour among senior executives and traders – that led to the global financial crisis. Widespread job losses and a state deficit paid for by increased taxes and reduced services ensued.

Gordon Brown famously once said that there was no such thing as a good chancellor, only a lucky one. But a key policy goal should be to promote economic resilience and sustainable growth, rather than simply maximising the value of the boom times to compensate for losses when it busts.

Involving people other than shareholders in decision-making processes is crucial for a more resilient economy. Politicians would do better to move away from the maximisation of shareholder value and towards a system that institutionalises the long term interests of companies, employees and wider society. This means taking on the power inequalities behind both rising pay at the top and, perhaps more importantly, the stagnating incomes for lower and middle earners. Proposals to put employees on remuneration committees get to the crux of the issue by democratising the processes behind how pay is set. The danger is that a single employee on a remuneration committee lacks the bargaining clout required to affect real change. A more radical suggestion would be to put employees on company boards – something the vast majority of other European countries insist on.

Tess Lanning is a research fellow at IPPR.