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Pay package reshuffling and managerial incentives: A principal-agent analysis

Author

Listed:
  • Alessandro Fedele

    () (Free University of Bolzano‐Bozen, Faculty of Economics and Management)

  • Luca Panaccione

    () (DEDI and CEIS, Università Tor Vergata)

Abstract

By deferring a significant portion of managers' remuneration, managers bear the risk of their choices for a longer period of time and avoid excessive risk taking. The effectiveness of this mechanism is jeopardized if managers reshuffle their pay packages; this is possible when trades in the components of pay packages are not verifiable. In this paper, we investigate the relevance of trade verifiability in pay packages design. We analyze a principal-agent model with agent's compensation made of different commodities which can be exchanged on competitive markets at given prices. We consider both the case when trades in commodities are verifiable, and when they are not. We prove that an optimal contract when trades are verifiable remains optimal when trades are not verifiable if agent's preferences for commodities are independent of the action performed. We provide examples to illustrate what happens when preferences' independence fails.

Suggested Citation

  • Alessandro Fedele & Luca Panaccione, 2015. "Pay package reshuffling and managerial incentives: A principal-agent analysis," BEMPS - Bozen Economics & Management Paper Series BEMPS28, Faculty of Economics and Management at the Free University of Bozen.
  • Handle: RePEc:bzn:wpaper:bemps28
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    File URL: http://pro1.unibz.it/projects/economics/repec/bemps28.pdf
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    References listed on IDEAS

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    1. Anthony M. Marino & Ján Zábojník, 2008. "Work-related perks, agency problems, and optimal incentive contracts," RAND Journal of Economics, RAND Corporation, vol. 39(2), pages 565-585.
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    4. Luca Panaccione & Francesco Ruscitti, 2010. "A note on optimal commodity taxation with moral hazard and separable preferences," Economics Bulletin, AccessEcon, vol. 30(3), pages 2380-2387.
    5. Mikhail Golosov & Aleh Tsyvinski, 2006. "Designing Optimal Disability Insurance: A Case for Asset Testing," Journal of Political Economy, University of Chicago Press, vol. 114(2), pages 257-279, April.
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    7. Alberto Bennardo & Pierre-André Chiappori & Joon Song, 2010. "Perks as Second Best Optimal Compensations," CSEF Working Papers 244, Centre for Studies in Economics and Finance (CSEF), University of Naples, Italy.
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    11. Panaccione Luca, 2007. "Pareto Optima and Competitive Equilibria with Moral Hazard and Financial Markets," The B.E. Journal of Theoretical Economics, De Gruyter, vol. 7(1), pages 1-21, October.
    12. Kilenthong, Weerachart T. & Townsend, Robert M., 2011. "Information-constrained optima with retrading: An externality and its market-based solution," Journal of Economic Theory, Elsevier, vol. 146(3), pages 1042-1077, May.
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    More about this item

    Keywords

    Pay package reshuffling; Principal-agent model; Independent preferences;

    JEL classification:

    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
    • D86 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Economics of Contract Law
    • J33 - Labor and Demographic Economics - - Wages, Compensation, and Labor Costs - - - Compensation Packages; Payment Methods

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