A Cabinet minister has vetoed a pay package of almost £240,000 for the new head of the Audit Commission, saying "spiralling" pay levels "stop here".
Communities Secretary Eric Pickles warned other public sector bodies to expect similarly severe decisions.
Local councils in particular should end "ridiculous" pay for bosses, he added.
The new Coalition government requires any centrally-funded public sector worker earning more than the prime minister to have their pay signed off.
The responsibility for that lies with the Treasury, or for some non-departmental public bodies, a secretary of state.
Cabinet members recently accepted a 5% pay cut, worth £7,500 to Prime Minister David Cameron, who is paid £142,500.
The Audit Commission, England's local government spending watchdog, reportedly asked the government to approve a salary and pension package worth £239,800 a year for its new chief executive.
Mr Pickles said the sum was excessive, pointing out that the public coffers were "empty".
He said: "The spiralling level of pay and perks for town hall bosses stops here.
"By blocking this massive salary for the Audit Commission, I want to send a signal to councils across the country that they too can stop paying ridiculous sums to chief executives.
"Councillors should have the confidence to set sensible salaries that the public deem fit and proper."
He added that the government should lead from the top, cutting bosses' pay from the Cabinet downwards and restoring an ethos of public service.
The latest public sector rich list published by the TaxPayers' Alliance in December revealed at least 805 people earning packages of £150,000 or more a year.
They worked across 358 government departments, quangos, public corporations, public bodies and nationalised industries - earning on average £226,000 per annum.
The top three non-bank public sector pay packages were:
- The then chief executive of Royal Mail, Adam Crozier, on £1.3m. He has since become ITV's chief executive,
- Channel 4 board member Kevin Lygo, who earned £1.1m and has also announced a move to ITV; and
- Network Rail chief executive Iain Coucher who pocketed £947,000.