Philip Thornton: Bloated bonuses are no way to reward success

Just one FTSE 100 chief executive was made redundant - and he got a £5m pay-off

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Big business's refrain over executive pay is so well rehearsed that it has become a mantra the rest of the workforce can probably recite off pat:

These people work exceptionally hard and take risky decisions that should be rewarded just as failure will be rewarded with the sack. There is a global market for talent and businesses must pay the going rate. And whatever one feels about the payments it should be up to shareholders, not ministers, to set boardroom pay. Well, up to a point, Lord Copper - or perhaps more accurately Lord Browne, who received £3.3m last year for his job of running BP.

In fact, arguments about rewards for success do not hold water. Research by the Work Foundation, an apolitical organisation, shows that chief executives face less risk of losing their jobs than their workers. One in seven companies changed CEO over the past year compared with one in four of their workers. With executive pay rising 28 per cent a year, they certainly have little incentive to leave of their own accord.

Nor do the penalties for failure look that steep. The Work Foundation could find only one chief executive who was made redundant - and he left with a £5m pay-off. An ordinary worker can expect 0.58 per cent of their annual pay - or two days pay.

Of course, the UK is part of the globalised world. But, while that has led to a fierce war between companies to hire the best executives, the opposite is true further down the ladder. Thousands of workers have seen their jobs outsourced to countries such as India. If the job itself can't be moved, companies are happy to bring in workers from Poland. This used to apply to plumbers and call-centre workers but now affects lawyers, bankers and architects. With unemployment rising, it won't be long before it becomes an issue at the ballot box.

Sadly, shareholder power is a myth when it comes to executive pay. The pay packages are set by non-executive directors who themselves are executives at other companies. The typical shareholder is no longer Sid of British Gas privatisation fame, but giant investment bodies that hold large chunks of the voting power of FTSE companies.

Over the coming weeks, some £18bn of bonus will be handed out to a select bunch of workers. Half of that is heading towards workers in the City of London. Even leaving aside the City, the rate of increase of the rewards for the directors of the largest UK companies far outstrips that of their employees. Research by another apolitical research body, Incomes Data Services, shows the gap between the boardroom and the shop floor has doubled since the start of the decade.

The TUC looks intent on making 2007 the year of the backlash against executive pay. It points out that, while company pay packets have doubled after inflation since 2000, ordinary employees have enjoyed a rise of just 6 per cent.

Brendan Barber, its general secretary, has called for a national debate. Frankly, that is a bit feeble. There are strong economic arguments on both sides over which agreement will never be reached. Critics highlight the "obscenity" of such a wealth divide which appears to have no justification in productivity and which has created a parallel economy, particularly in the London housing market. Advocates of a free market will warn that deterring successful managers and entrepreneurs coming to the UK will simply weaken the economy in the long run.

The fact of the matter is that pay is an issue of public policy. What is needed is action rather than more debate. The Government sets a minimum wage and makes it clear what wage increase it thinks that lowly paid nurses and teachers should get. The spotlight must now fall on the top earners.

This Government should be praised for doing more than its predecessors to force boardrooms to be more accountable to shareholders. The failure of the current system is not the size of the sums involved - although those can be breathtaking - but the lack of a link between what they earn and the performance of their companies.

There are two first steps the Government and the companies themselves must take. First, terms of service should be cut to ensure departing directors cannot claim vast sums in lost earnings. And, allied to that, boards must make basic pay a smaller share of the total package and increase the amount linked to performance targets.

In the US, basic pay makes up just 16 per cent of remuneration. The equivalent figure in the UK is 59 per cent. Surely, bringing executive pay into line with performance is following free-market rules rather than upsetting them. The City shouldn't be able to argue with that.

p.thornton@independent.co.uk

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