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CEO pay and the Lake Wobegon Effect

  • Hayes, Rachel M.
  • Schaefer, Scott
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    The "Lake Wobegon Effect," which is widely cited as a potential cause for rising CEO pay, is said to occur because no firm wants to admit to having a CEO who is below average, and so no firm allows its CEO's pay package to lag market expectations. We develop a game-theoretic model of this Effect. In our model, a CEO's wage may serve as a signal of match surplus, and therefore affect the value of the firm. We compare equilibria of our model to a full-information case and derive conditions under which equilibrium wages are distorted upward.

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    Article provided by Elsevier in its journal Journal of Financial Economics.

    Volume (Year): 94 (2009)
    Issue (Month): 2 (November)
    Pages: 280-290

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    Handle: RePEc:eee:jfinec:v:94:y:2009:i:2:p:280-290
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    1. Stewart C. Myers & Nicholas S. Majluf, 1984. "Corporate Financing and Investment Decisions When Firms Have InformationThat Investors Do Not Have," NBER Working Papers 1396, National Bureau of Economic Research, Inc.
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    4. Myers, Stewart C. & Majluf, Nicholas S., 1984. "Corporate financing and investment decisions when firms have information that investors do not have," Journal of Financial Economics, Elsevier, vol. 13(2), pages 187-221, June.
    5. Bentley MacLeod, 2001. "Optimal Contracting with Subjective Evaluation," Theory workshop papers 357966000000000036, UCLA Department of Economics.
    6. Sattinger, Michael, 1993. "Assignment Models of the Distribution of Earnings," Journal of Economic Literature, American Economic Association, vol. 31(2), pages 831-80, June.
    7. Chaim Fershtman & Kenneth L Judd, 1984. "Equilibrium Incentives in Oligopoly," Discussion Papers 642, Northwestern University, Center for Mathematical Studies in Economics and Management Science.
    8. Bizjak, John M. & Lemmon, Michael L. & Naveen, Lalitha, 2008. "Does the use of peer groups contribute to higher pay and less efficient compensation?," Journal of Financial Economics, Elsevier, vol. 90(2), pages 152-168, November.
    9. Stein, Jeremy C, 1988. "Takeover Threats and Managerial Myopia," Journal of Political Economy, University of Chicago Press, vol. 96(1), pages 61-80, February.
    10. Philip H. Dybvig & Jaime F. Zender, 1988. "Capital Structure and dividend Irrelevance with Asymmetric Information," Cowles Foundation Discussion Papers 878, Cowles Foundation for Research in Economics, Yale University.
    11. Edward P. Lazear & Paul Oyer, 2007. "Personnel Economics," NBER Working Papers 13480, National Bureau of Economic Research, Inc.
    12. Miller, Merton H & Rock, Kevin, 1985. " Dividend Policy under Asymmetric Information," Journal of Finance, American Finance Association, vol. 40(4), pages 1031-51, September.
    13. Persons, John C, 1994. "Renegotiation and the Impossibility of Optimal Investment," Review of Financial Studies, Society for Financial Studies, vol. 7(2), pages 419-49.
    14. Park, Yun W & Nelson, Toni & Huson, Mark R, 2001. "Executive Pay and the Disclosure Environment: Canadian Evidence," Journal of Financial Research, Southern Finance Association;Southwestern Finance Association, vol. 24(3), pages 347-65, Fall.
    15. Myers, Stewart C. & Majluf, Nicolás S., 1945-, 1984. "Corporate financing and investment decisions when firms have information that investors do not have," Working papers 1523-84., Massachusetts Institute of Technology (MIT), Sloan School of Management.
    16. Moran, John & Morgan, John, 2003. "Employee recruiting and the Lake Wobegon effect," Journal of Economic Behavior & Organization, Elsevier, vol. 50(2), pages 165-182, February.
    17. repec:oup:restud:v:55:y:1988:i:3:p:377-89 is not listed on IDEAS
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