New ways to slice the pie: Span of control and wage and salary distribution within firms

In recent decades, firms have been seen to “delayer” and shrink middle management. We show in this paper that changes in management structure affect income distribution within the firm. The managerial wage bill follows from an accounting relationship that depends on the manager’s span of control and step increases in managerial pay. Holding those factors fixed, CEO pay is found to increase with the size of the firm, thereby reproducing one of the best-documented observations of firm compensation. Also, the contribution of within-firm wage inequality as measured by the Theil index is found to be of the same order of magnitude as between-sector inequality. When the span of control rises, as it has in recent decades, wage and salary inequality declines. We argue that the well-documented rise in income inequality is a result of rapidly expanding equity-based compensation. Following traditions in economics that propose a social basis for income distribution, the paper argues that changing the span of control and step changes in pay between levels in the managerial hierarchy, as well as the profit share, are factors through which upper management, middle management and production workers can negotiate their slice of the pie.