Uncertainty, risk, and incentives: theory and evidence
AbstractUncertainty has qualitatively different implications than risk in studying executive incentives. We study the interplay between profitability uncertainty and moral hazard, where profitability is multiplicative with managerial effort. Investors who face greater uncertainty desire faster learning, and consequently offer higher managerial incentives to induce higher effort from the manager. In contrast to the standard negative risk-incentive trade-off, this "learning-by-doing" effect generates a positive relation between profitability uncertainty and incentives. We document empirical support for this prediction.
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Bibliographic InfoPaper provided by Board of Governors of the Federal Reserve System (U.S.) in its series Finance and Economics Discussion Series with number 2013-18.
Date of creation: 2013
Date of revision:
This paper has been announced in the following NEP Reports:
- NEP-ALL-2013-04-06 (All new papers)
- NEP-CBE-2013-04-06 (Cognitive & Behavioural Economics)
- NEP-CTA-2013-04-06 (Contract Theory & Applications)
- NEP-HRM-2013-04-06 (Human Capital & Human Resource Management)
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