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Growth, Selection and Appropriate Contracts

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  • Alessandra Bonfiglioli
  • Gino Gancia

Abstract

We study a dynamic model where growth requires both long-term investment and the selection of talented managers. When ability is not ex-ante observable and contracts are incomplete, managerial selection imposes a cost, as managers facing the risk of being replaced tend to choose a sub-optimally low level of long-term investment. This generates a trade-off between selection and investment that has implications for the choice of contractual relationships. Our analysis shows that rigid long-term contracts sacrificing managerial selection may be optimal at early stages of economic development and when access to information is limited. As the economy grows, however, knowledge accumulation increases the return to talent and makes it optimal to adopt flexible contractual relationships, where managerial selection is implemented even at the cost of lower investment. Better institutions, in the form of a richer contracting environment and less severe informational frictions, speed up the transition to short-term relationships.

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Bibliographic Info

Paper provided by Barcelona Graduate School of Economics in its series Working Papers with number 566.

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Date of creation: Jul 2012
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Handle: RePEc:bge:wpaper:566

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Keywords: information; selection; appropriate contracts; development; growth; appropriate institutions;

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Cited by:
  1. Alessandra Bonfiglioli & Gino Gancia, 2012. "Growth, Selection and Appropriate Contracts," Working Papers 566, Barcelona Graduate School of Economics.

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