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

  • Engert, Andreas
  • Goldlücke, Susanne

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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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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  1. 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.
  2. Hakenes, Hendrik & Schnabel, Isabel, 2012. "Bank Bonuses and Bail-outs," CEPR Discussion Papers 8852, C.E.P.R. Discussion Papers.
  3. James Malcomson, 2004. "Principal and Expert Agent," Economics Series Working Papers 193, University of Oxford, Department of Economics.
  4. Steven Matthews, . "Renegotiating Moral Hazard Contracts Under Limited Liability and Monotonicity," Penn CARESS Working Papers a1fc611f7c8c403f24c4d20a6, Penn Economics Department.
  5. Raith, Michael, 2004. "Specific Knowledge and Performance Measurement," CEPR Discussion Papers 4262, C.E.P.R. Discussion Papers.
  6. Gromb, Denis & Martimort, David, 2007. "Collusion and the organization of delegated expertise," Journal of Economic Theory, Elsevier, vol. 137(1), pages 271-299, November.
  7. 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.
  8. 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.
  9. 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.
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