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Regulating Executive Pay: Incentive Contracts and Nonbinding Bonus Caps

Author

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  • Marcus Dittrich
  • Silvio Städter

Abstract

This paper analyzes the effects of a regulatory cap on executive pay. We use a principal-agent model with moral hazard in which a firm and a manager bargain over an incentive contract, and we discuss the consequences of a nonbinding cap on bonus payments. We find that the bonus cap negatively affects the manager's effort choice and social welfare, even if the cap is introduced at a nonbinding level.

Suggested Citation

  • Marcus Dittrich & Silvio Städter, 2021. "Regulating Executive Pay: Incentive Contracts and Nonbinding Bonus Caps," Journal of Institutional and Theoretical Economics (JITE), Mohr Siebeck, Tübingen, vol. 177(1), pages 81-96.
    • Handle: RePEc:mhr:jinste:urn:doi:10.1628/jite-2020-0045
    DOI: 10.1628/jite-2020-0045
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    More about this item

    Keywords

    regulatory pay cap; incentive contract; moral hazard; Kala-Smorodinsky bargaining solution;
    All these keywords.

    JEL classification:

    • C71 - Mathematical and Quantitative Methods - - Game Theory and Bargaining Theory - - - Cooperative Games
    • D86 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Economics of Contract Law
    • G28 - Financial Economics - - Financial Institutions and Services - - - Government Policy and Regulation
    • J33 - Labor and Demographic Economics - - Wages, Compensation, and Labor Costs - - - Compensation Packages; Payment Methods
    • H12 - Public Economics - - Structure and Scope of Government - - - Crisis Management

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