Thursday, May 11, 2017

On the AFL-CIO’s inflated 347-to-1 CEO-to-worker pay ratio, and the statistical legerdemain used to produce it

From Mark Perry.
"The AFL-CIO released its annual report on CEO pay this week (see details here), and has calculated a CEO-to-worker-pay ratio of 347-to-1 for 2016, based on the average total compensation package for 400 of the S&P 500 CEOs of $13.1 million last year, and the average annual cash income only (excluding fringe benefits) for America’s 100,525,000 rank-and-file workers of $37,632. Here are some observations on the AFL-CIO’s questionable methodology that it uses every year to calculate an inflated CEO-to-worker pay ratio (see this related CD post from last May), and an analysis of how a complete confiscation of CEO pay would affect average worker pay.

1. Worker Pay is for Part-Time Workers and Excludes Fringe Benefits. In its 2017 analysis, the AFL-CIO reports that the average nonsupervisory rank-and-file worker earned $37,632 in 2016. To arrive at that figure, the AFL-CIO reports that its methodology as follows:

The average annual income earned by rank-and-file workers is taken from the U.S. Bureau of Labor Statistics Current Employment Statistics survey. Specifically, it is the average hours and earnings of production and nonsupervisory employees on private nonfarm payrolls. The average weekly pay is multiplied by 52.

Here are more details of how average worker pay is calculated. It is based on an average hourly wage of $21.56 for nonsupervisory workers in 2016 (BLS data here) and an average workweek of only 33.6 hours (BLS data here) for the average rank-and-file worker. Assuming 52 weeks of work per year: $21.56 per hour x 33.6 hours per week x 52 weeks ≈ $37,632 average annual earnings for the typical worker. However, the fringe benefits that all rank-and-file workers receive as part of their total compensation are conveniently not considered by the AFL-CIO.

Therefore, the AFL-CIO’s engages in some questionable statistical chicanery by sloppily reporting an apples-to-oranges comparison of: a) total CEO compensation for only about 400 CEOs working full-time to b) the cash wages only for 100 million rank-and-file workers, who work an average of less than 34 hours per week, and are therefore mostly part-time, not full-time workers. But you would never know that from the AFL-CIO’s website because the average hourly pay and average hourly workweek of rank-and-file workers are never reported, and I guess nobody has ever bothered to check to find out that the AFL-CIO is using average annual cash-only income (excluding fringe benefits) for mostly part-time employees working 33.6 hours per week on average. 

Questions: a) How would the AFL-CIO’s CEO-to-worker pay ratio change if we calculate average worker pay for full-time workers, b) how would the ratio change if we compare the average pay for a rank-and-file workers who work the same number of hours that a typical CEO works, e.g. 45, 50 or 60 hours per week, and c) how would the ratio change if we compare total compensation of both CEOs and rank-and-file workers working full-time? The chart above summarizes how the CEO-to-worker pay ratio would change, here are the details:

a. Assuming a 40-hour workweek for full-time rank-and-file workers at $21.56 an hour, and adding the monetary value of additional compensation in the form of employer-provided benefits of $10.29 per hour (based on the 47.7% average that benefits represent as a share of hourly earnings according to the BLS) for hourly compensation of $31.85, and annual total compensation of $66,248, we would get a CEO-to-worker compensation ratio of 198-to-1.

b. Assuming a 45-hour workweek for full-time rank-and-file workers, hourly compensation of $31.85 and annual total compensation of $74,529, we would get a CEO-to-worker compensation ratio of 176-to-1.

c. Assuming a 50-hour workweek for full-time rank-and-file workers, hourly compensation of $31.85 and annual total compensation of $82,810, we would get a CEO-to-worker compensation ratio of 158-to-1.

d. Assuming a 60-hour workweek for full-time rank-and-file workers, hourly compensation of $31.85 and annual total compensation of $99,372, we would get a CEO-to-worker compensation ratio of 132-to-1.

By considering both total compensation (including fringe benefits) for both CEOs and rank-and-file workers, and by considering longer workweeks for rank-and-file workers that would be more comparable to the average hours worked by a CEO of a major multi-national corporation in the S&P 500, we can get a more accurate apples-to-apples comparison. Those more accurate comparisons result in CEO-to-worker compensation ratios of between 198-to-1 (for rank-and-file workers averaging 40-hour workweeks) to as low as 132-to-1 for rank-and-file workers putting in 60-hour weeks that might be the most comparable to the average workweek of a top CEO. Ratios that are between 43% and 62% lower than the AFL-CIO’s 347-to-1 ratio that will be generating sensationalized media coverage in the coming weeks.

2. Confiscation and Redistribution of CEO Pay. And what’s the whole point of the AFL-CIO’s annual reports on CEO-to-worker pay ratio? The sub-title of the AFL-CIO’s 2016 Executive Paywatch website pretty much sums it up: “More for Them, Less for Us.” 

The AFL-CIO’s message seems to be that if CEOs weren’t being so generously over-compensated, then the rank-and-file workers would be doing much better and making higher wages. For example, according to the AFL-CIO in 2014:
America is supposed to be the land of opportunity, a country where hard work and playing by the rules would provide working families a middle-class standard of living. But in recent decades, corporate CEOs have been taking a greater share of the economic pie while workers’ wages have stagnated.
The AFL-CIO has fallen here hook, line and sinker for the zero-sum, fixed pie fallacy, one of the most common economic mistakes that falsely assumes that one party can gain only at the expense of another. But let’s assume that there is a “fixed pie of wages” and do some confiscation and redistribution of CEO compensation to see how that would affect average rank-and-file worker pay.
Q: If the CEOs of the S&P 500 companies received $13.1 million on average last year, then as a group, those 500 CEOs received about $6.55 billion in total compensation in 2016. If the AFL-CIO could wave a magic wand and confiscate that entire amount and redistribute $6.55 billion to the current 100,525,000 rank-and-file workers, what would each one get?

A: An annual increase in pay of about $65 for each rank-and-file worker before taxes, or about $1.25 more per week and only 3.7 cents per hour. In other words, complete confiscation and redistribution of S&P 500 CEO compensation would make almost no difference for the average rank-and-file worker.

Bottom Line: The AFL-CIO can only get a distorted and wildly inflated CEO-to-worker pay ratio of 347-to-1 with an apples-to-oranges analysis that compares the total annual compensation of a small, select group of CEOs heading America’s largest multi-national corporations, who probably typically work 50-60 hours per week or more, to the average annual cash wages of part-time rank-and-file employees who work less than 34 hours per week on average. Once we make a more statistically valid apples-to-apples comparison, the CEO-to-worker compensation ratio falls by more than 40% from the AFL-CIO’s 347-to-1 ratio to less than 200-to-1 once we consider total compensation for both CEOs and full-time (40 hours per week) rank-and-file workers. If we assume a 60-hour work week for the average worker (to be comparable to the workweek of an average CEO), the CEO-to-worker compensation ratio falls by 62% to only 132-to-1. Further, even if we could confiscate 100% of the compensation of all S&P 500 CEOs, the typical rank-and-file worker would probably get less than $1 per week in after-tax earnings. Big deal.

Just like last year, the CEO-to-worker pay ratio reported by the AFL-CIO gets my annual “Biggest Blindly Accepted Statistical Fairy Tale of the Year Award.” Well no, it’s actually a tie with the gender wage gap myth and the incessantly repeated “77 cents on the dollar” statistical falsehood. What’s disappointing is that much of the mainstream media seem to blindly accept both of these statistical falsehoods without ever challenging the “statistical legerdemain” that are used to produce and perpetuate these statistical myths. One exception was this excellent article in 2015 by Investor’s Business Daily’s John Merline (“Do CEOs Make 300 Times What Workers Get? Not Even Close“) who concluded:
What’s not understandable is why the mainstream press keeps repeating the massively inflated 300-to-1 number without noting the statistical legerdemain that produced it."

No comments:

Post a Comment