Pay Gap Within Banks: The Effect On Bank Performance

Using a comprehensive sample of US banks for years 2001 to 2016, we split the pay gap between the CEO and rank-and-file employees into two: CEO pay gap and VP pay gap. We examine the effect on bank performance of the tournament incentives arising from these different pay gaps. We find that CEO pay gap is positively associated with bank performance and negatively associated with bank risk while VP pay gap is positively associated with bank risk. We show that only executive pay is sensitive to bank performance, which might explain the differing results for the association between pay gap and bank performance for the two groups. Further analysis suggests that the positive association between VP pay gap and bank risk is at least partly driven by the quantity and quality of loan origination. Finally, we show that the VP pay gap is associated with insufficient loan loss provisions consistent with increased unexpected rank-and-file employee risk taking.