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Managerial Incentive Problems: A Dynamic Perspective

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  • Bengt Holmstrom

Abstract

The paper studies how a person's concern for a future career may influence his or her incentives to put in effort or make decisions on the job. In the model, the person's productive abilities are revealed over time through observations of performance. There are no explicit output contingent contracts, but since the wage in each period is based on expected output and expected output depends on assessed ability, an implicit contact' links today's performance to future wages. An incentive problem arises from the person's ability and desire to influence the learning process, and therefore the wage process, by taking unobserved actions that affect today's performance. The fundamental incongruity in preferences is between the individual's concern for human capital returns and the firm's concern for financial returns. The two need to be only weakly related. It is shown that career motives can be beneficial as well as detrimental, depending on how well the two kinds of capital returns are aligned.

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Bibliographic Info

Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 6875.

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Date of creation: Jan 1999
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Publication status: published as The Review of Economic Studies, Vol. 66, no. 1 (January 1999): 169-182.
Handle: RePEc:nbr:nberwo:6875

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  1. Robert Gibbons & Kevin J. Murphy, 1991. "Optimal Incentive Contracts in the Presence of Career Concerns: Theory and Evidence," NBER Working Papers 3792, National Bureau of Economic Research, Inc.
  2. James A. Mirrlees, 1976. "The Optimal Structure of Incentives and Authority Within an Organization," Bell Journal of Economics, The RAND Corporation, vol. 7(1), pages 105-131, Spring.
  3. Harris, Milton & Raviv, Artur, 1979. "Optimal incentive contracts with imperfect information," Journal of Economic Theory, Elsevier, vol. 20(2), pages 231-259, April.
  4. Scharfstein, David S & Stein, Jeremy C, 1990. "Herd Behavior and Investment," American Economic Review, American Economic Association, vol. 80(3), pages 465-79, June.
  5. Sanford Grossman & Oliver Hart, . "An Analysis of the Principal-Agent Problem," Rodney L. White Center for Financial Research Working Papers 15-80, Wharton School Rodney L. White Center for Financial Research.
  6. Steven Shavell, 1979. "Risk Sharing and Incentives in the Principal and Agent Relationship," Bell Journal of Economics, The RAND Corporation, vol. 10(1), pages 55-73, Spring.
  7. Stein, Jeremy C, 1989. "Efficient Capital Markets, Inefficient Firms: A Model of Myopic Corporate Behavior," The Quarterly Journal of Economics, MIT Press, vol. 104(4), pages 655-69, November.
  8. Meyer, Margaret A & Vickers, John, 1997. "Performance Comparisons and Dynamic Incentives," Journal of Political Economy, University of Chicago Press, vol. 105(3), pages 547-81, June.
  9. Ross, Stephen A, 1973. "The Economic Theory of Agency: The Principal's Problem," American Economic Review, American Economic Association, vol. 63(2), pages 134-39, May.
  10. Bengt Holmstrom & I. Ricard & Joan Costa, 1984. "Managerial Incentives and Capital Management," Cowles Foundation Discussion Papers 729, Cowles Foundation for Research in Economics, Yale University.
  11. Akerlof, George A, 1970. "The Market for 'Lemons': Quality Uncertainty and the Market Mechanism," The Quarterly Journal of Economics, MIT Press, vol. 84(3), pages 488-500, August.
  12. Drew Fudenberg & Jean Tirole, 1986. "A "Signal-Jamming" Theory of Predation," RAND Journal of Economics, The RAND Corporation, vol. 17(3), pages 366-376, Autumn.
  13. Medoff, James L & Abraham, Katharine G, 1980. "Experience, Performance, and Earnings," The Quarterly Journal of Economics, MIT Press, vol. 95(4), pages 703-36, December.
  14. HOLMSTROM, Bengt, . "Moral hazard and observability," CORE Discussion Papers RP -379, Université catholique de Louvain, Center for Operations Research and Econometrics (CORE).
  15. Radner, Roy, 1981. "Monitoring Cooperative Agreements in a Repeated Principal-Agent Relationship," Econometrica, Econometric Society, vol. 49(5), pages 1127-48, September.
  16. Jeon, Seonghoon, 1996. "Moral hazard and reputational concerns in teams: Implications for organizational choice," International Journal of Industrial Organization, Elsevier, vol. 14(3), pages 297-315, May.
  17. Sherwin Rosen, 1982. "Authority, Control, and the Distribution of Earnings," Bell Journal of Economics, The RAND Corporation, vol. 13(2), pages 311-323, Autumn.
  18. Borland, Jeff, 1992. " Career Concerns: Incentives and Endogenous Learning in Labour Markets," Journal of Economic Surveys, Wiley Blackwell, vol. 6(3), pages 251-70.
  19. Milton Harris & Bengt Holmstrom, 1981. "A Theory of Wage Dynamics," Discussion Papers 488, Northwestern University, Center for Mathematical Studies in Economics and Management Science.
  20. Fama, Eugene F, 1980. "Agency Problems and the Theory of the Firm," Journal of Political Economy, University of Chicago Press, vol. 88(2), pages 288-307, April.
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