Incentives, CEO Compensation and Shareholder Wealth in a Dynamic Agency Model
AbstractM. Jensen and K. Murphy (1990,J. Polit. Econ.98, 225ï¾–264) argue that the observed payï¾–performance sensitivity of CEO compensation is too low to be consistent with formal agency theory. This paper uses a dynamic agency model to offer a resolution of the Jensen and Murphy puzzle. We show that the dynamic agency model can predict either a positive or a negative payï¾–performance sensitivity, depending on the parameter values of the model and the distribution of the CEOs' initial expected discounted utilities. For a large variety of parameter values and for properly chosen distributions of initial CEO expected discounted utilities, our model is capable of generating data where the payï¾–performance sensitivity is significantly positive but very small, as in Jensen and Murphy's data. The key to our result is a compensation rigidity that is created endogenously by the optimal dynamic contract.Journal of Economic LiteratureClassification Numbers: C63, D82, G30. *1 This paper was motivated by a conversation with Narayana Kocherlakota to whom I am also indebted for his advice. I thank Steve Williamson for his guidance and support. I thank the associate editor and three anonymous referees for their useful comments and suggestions. I am also grateful to Dean Corbae, Ed Green, Andreas Hornstein, Peter Howitt, Arthur Robson, Steve Spear, and seminar participants at the Universities of Iowa, Western Ontario, Rochester, Queen's, Chicago, Federal Reserve Bank of Richmond, Iowa State, Toronto, Simon Fraser, Carnegie-Mellon, and Illinois for discussions and comments. Financial support from the Social Science and Humanities Research Council of Canada is acknowledged. *2 E. PrescottN. Wallace, Eds.
Download InfoTo our knowledge, this item is not available for download. To find whether it is available, there are three options:
1. Check below under "Related research" whether another version of this item is available online.
2. Check on the provider's web page whether it is in fact available.
3. Perform a search for a similarly titled item that would be available.
Bibliographic InfoPaper provided by Iowa State University, Department of Economics in its series Staff General Research Papers with number 5170.
Date of creation: 01 Sep 1997
Date of revision:
Publication status: Published in Journal of Economic Theory, September 1997, vol. 76 no. 1, pp. 72-105
Contact details of provider:
Postal: Iowa State University, Dept. of Economics, 260 Heady Hall, Ames, IA 50011-1070
Phone: +1 515.294.6741
Fax: +1 515.294.0221
Web page: http://www.econ.iastate.edu
More information through EDIRC
Find related papers by JEL classification:
- C63 - Mathematical and Quantitative Methods - - Mathematical Methods; Programming Models; Mathematical and Simulation Modeling - - - Computational Techniques
- D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
- G30 - Financial Economics - - Corporate Finance and Governance - - - General
You can help add them by filling out this form.
CitEc Project, subscribe to its RSS feed for this item.
- Gian Luca Clementi & Thomas Cooley & Chen Wang, 2004.
"Stock Grants as a Committment Device,"
04-24, New York University, Leonard N. Stern School of Business, Department of Economics.
- Vincenzo Quadrini & Ramon Marimon & Thomas Cooley, 2012.
"Risky Investments with Limited Commitment,"
2012 Meeting Papers
603, Society for Economic Dynamics.
- Thomas F. Cooley & Ramon Marimon & Vincenzo Quadrini, 2013. "Risky Investments with Limited Commitment," NBER Working Papers 19594, National Bureau of Economic Research, Inc.
- Thomas Cooley & Ramon Marimon & Vincenzo Quadrini, 2013. "Risky Investments with Limited Commitment," Working Papers 13-17, New York University, Leonard N. Stern School of Business, Department of Economics.
- Arantxa Jarque, 2010. "Hidden effort, learning by doing, and wage dynamics," Economic Quarterly, Federal Reserve Bank of Richmond, issue 4Q, pages 339-372.
- Spear, Stephen E. & Wang, Cheng, 2005.
"When to Fire a CEO: Optimal Termination in Dynamic Contracts,"
Staff General Research Papers
11443, Iowa State University, Department of Economics.
- Spear, Stephen E. & Wang, Cheng, 2005. "When to fire a CEO: optimal termination in dynamic contracts," Journal of Economic Theory, Elsevier, vol. 120(2), pages 239-256, February.
- Stephen Spear & Cheng Wang, . "When to Fire a CEO: Optimal Termination in Dynamic Contracts," GSIA Working Papers 2002-E5, Carnegie Mellon University, Tepper School of Business.
- Emilio Espino & Juan M. Sanchez, 2010. "Risk sharing, investment, and incentives in the neoclassical growth model," Economic Quarterly, Federal Reserve Bank of Richmond, issue 4Q, pages 399-416.
- Gian Luca Clementi & Thomas F. Cooley & Cheng Wang, .
"Stock Grants as Commitment Device,"
GSIA Working Papers
2002-E12, Carnegie Mellon University, Tepper School of Business.
- Pierre Chaigneau, 2012. "The Optimal Timing of CEO Compensation," Cahiers de recherche 1207, CIRPEE.
- Itza Curiel & Sonia Di Giannatale & Juan Herrera & Katya Rodríguez, 2012. "Pareto Frontier of a Dynamic Principal–Agent Model with Discrete Actions: An Evolutionary Multi-Objective Approach," Computational Economics, Society for Computational Economics, vol. 40(4), pages 415-443, December.
- Pierre Chaigneau, 2010. "The Optimal Timing of Executive Compensation," FMG Discussion Papers dp660, Financial Markets Group.
- Quadrini, Vincenzo, 2004. "Investment and liquidation in renegotiation-proof contracts with moral hazard," Journal of Monetary Economics, Elsevier, vol. 51(4), pages 713-751, May.
- Wang, Cheng, 2011. "Termination of dynamic contracts in an equilibrium labor market model," Journal of Economic Theory, Elsevier, vol. 146(1), pages 74-110, January.
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Stephanie Bridges) The email address of this maintainer does not seem to be valid anymore. Please ask Stephanie Bridges to update the entry or send us the correct address.
If references are entirely missing, you can add them using this form.