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Why agents need discretion: The business judgment rule as optimal standard of care

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  • Engert, Andreas
  • Goldlücke, Susanne
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    Abstract

    Should managers be liable for ill-conceived business decisions? One answer is given by U.S. courts, which almost never hold managers liable for their mistakes. In this paper, we address the question in a theoretical model of delegated decision making. We find that courts should indeed be lenient as long as contracts are restricted to be linear. With more general compensation schemes, the answer depends on the precision of the court’s signal. If courts make many mistakes in evaluating decisions, they should not impose liability for poor business judgment.

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    File URL: https://ub-madoc.bib.uni-mannheim.de/32959/1/Engert_und_Goldluecke_13%2D04.pdf
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    Bibliographic Info

    Paper provided by University of Mannheim, Department of Economics in its series Working Papers with number 13-04.

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    Date of creation: 2013
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    Handle: RePEc:mnh:wpaper:32959

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    Keywords: business judgment rule ; manager liability ; delegated decision-making;

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    1. Hendrik Hakenes & Isabel Schnabel, 2013. "Bank Bonuses and Bail-Outs," Working Paper Series of the Max Planck Institute for Research on Collective Goods 2013_03, Max Planck Institute for Research on Collective Goods.
    2. Fama, Eugene F & Jensen, Michael C, 1983. "Separation of Ownership and Control," Journal of Law and Economics, University of Chicago Press, vol. 26(2), pages 301-25, June.
    3. Matthews, Steven A., 2001. "Renegotiating Moral Hazard Contracts under Limited Liability and Monotonicity," Journal of Economic Theory, Elsevier, vol. 97(1), pages 1-29, March.
    4. Gromb, Denis & Martimort, David, 2007. "Collusion and the organization of delegated expertise," Journal of Economic Theory, Elsevier, vol. 137(1), pages 271-299, November.
    5. Malcomson James M, 2009. "Principal and Expert Agent," The B.E. Journal of Theoretical Economics, De Gruyter, vol. 9(1), pages 1-36, May.
    6. Bernard S. Black & Brian R. Cheffins & Michael Klausner, 2006. "Outside Director Liability: A Policy Analysis," Journal of Institutional and Theoretical Economics (JITE), Mohr Siebeck, Tübingen, vol. 162(1), pages 5-20, March.
    7. Michael Raith, 2008. "Specific knowledge and performance measurement," RAND Journal of Economics, RAND Corporation, vol. 39(4), pages 1059-1079.
    8. Gutierrez, Maria, 2003. " An Economic Analysis of Corporate Directors' Fiduciary Duties," RAND Journal of Economics, The RAND Corporation, vol. 34(3), pages 516-35, Autumn.
    9. Innes, Robert D., 1990. "Limited liability and incentive contracting with ex-ante action choices," Journal of Economic Theory, Elsevier, vol. 52(1), pages 45-67, October.
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    As found by EconAcademics.org, the blog aggregator for Economics research:
    1. Should managers be liable in court?
      by Economic Logician in Economic Logic on 2013-03-14 15:30:00

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