Pay for digitalization: The relationship between digital transformation and payment disparity

Abstract Using a sample of China's A‐share listed firms from 2016 to 2021, this study empirically examines the influence of digital transformation on the pay gap within firms. Based on the optimal salary contract theory, we posit that digital transformation widens within‐firm pay gap. Conversely, based on the managerial power theory, we posit the competing hypothesis that digital transformation is negatively correlated with the pay gap. Our findings support the optimal salary contract theory, suggesting that digital transformation is positively related to the pay gap, as evidenced by an increase in executive compensation rather than a decrease in the pay of rank‐and‐file employees. These findings are robust to various checks, including alternative measurements, quantile regression model, Heckman selection model, and IV‐2SLS method. Further tests reveal that the positive relationship between digital transformation and the pay gap is more pronounced in labor‐intensive enterprises and those with lower risk‐taking abilities. This study argues that a widening internal pay gap in the digital era is a rational market choice, as evidenced by the positive impact of the within‐firm pay gap resulting from digital transformation on firms' performance. This study extends our understanding of the impact of digital transformation and enriches the literature on compensation contract design.