Titled 'Reward for Failure', the paper will show that the government has not ruled out the option of legislation to block large pay-offs for failed executives, Sunday newspaper reports said.

However, the paper is expected to stress the view that companies and shareholder should set pay levels rather than the government.

Controversy over the levels of executive pay at some companies has led to a series of protests by shareholders in recent weeks.

Shareholder anger

The Observer said that Trade and Industry Secretary Patricia Hewitt will argue the reputation of business is being damaged by recent investor rebellions at companies.

Last month pharmaceutical giant GlaxoSmithKline suffered an unprecedented defeat at its annual general meeting when shareholders voted against million pound pay deals for executives.

Shareholders were particularly angry about the multi-million pound "golden parachute" payment chief executive Jean-Pierre Garnier would have received if he lost his job.

The consultation paper will flag up a number of options, including the shortening of directors' contracts or notice periods.

It will also ask whether it is possible for company boards to take underperformance into account when calculating a pay-off, without facing legal action from a departing executive.

The consultation period will last for four months.