IDEAS home Printed from https://ideas.repec.org/p/siu/wpaper/16-2005.html
   My bibliography  Save this paper

The Case of the Errant Executive : Management, Control and Firm Size in Corporate Cheating

Author

Listed:
  • Brishti Guha

    () (School of Economics and Social Sciences, Singapore Management University)

Abstract

Firm insiders – a manager and a board – face moral hazard in relation to their outside shareholders in a repeated game with asymmetric information and stochastic market outcomes. The manager determines whether or not outsiders are cheated; the board, whose objectives differ from those of outside shareholders, attempts to control the manager through compensation contracts and dismissal threats Since compensation determines the manager’s incentive to cheat, firms competing for outside capital publicly announce their managerial contracts. However, secret renegotiation between firm and manager is still possible: so outsiders guard against being cheated by limiting their total stake in any firm. This imposes a credibility constraint on firm size, providing a rationale for the shape of long-run cost curves. Given this limit on outside funds, the minimum size requirement for enterprises to become operational and the ability to pay managers enough to ensure honesty both set a floor to the personal wealth required to enter entrepreneurship. Thus, we endogenize entry into industry, establish a unique equilibrium for any distribution of wealth, and characterize different equilibria. We also explain features of poor countries like dominance of family firms, moral hazard induced vicious circles that retard industrialization and the stimulus that inequality may provide to industrial development.

Suggested Citation

  • Brishti Guha, 2005. "The Case of the Errant Executive : Management, Control and Firm Size in Corporate Cheating," Working Papers 16-2005, Singapore Management University, School of Economics.
  • Handle: RePEc:siu:wpaper:16-2005
    as

    Download full text from publisher

    File URL: https://mercury.smu.edu.sg/rsrchpubupload/5665/errantexecutive.pdf
    Download Restriction: no
    ---><---

    Other versions of this item:

    References listed on IDEAS

    as
    1. Denis Gromb, 2000. "Public Trading and Private Incentives," FMG Discussion Papers dp347, Financial Markets Group.
    2. Lal, Deepak & Myint, H., 1998. "The Political Economy of Poverty, Equity and Growth: A Comparative Study," OUP Catalogue, Oxford University Press, number 9780198294320.
    3. Brishti Guha, 2005. "Honesty and Intermediation : Corporate Cheating, Auditor Involvement and the Implications for Development," Microeconomics Working Papers 22426, East Asian Bureau of Economic Research.
    4. Jean Tirole, 1996. "A Theory of Collective Reputations (with applications to the persistence of corruption and to firm quality)," Review of Economic Studies, Oxford University Press, vol. 63(1), pages 1-22.
    5. Banerjee, Abhijit V & Newman, Andrew F, 1993. "Occupational Choice and the Process of Development," Journal of Political Economy, University of Chicago Press, vol. 101(2), pages 274-298, April.
    6. Jensen, Michael C, 1986. "Agency Costs of Free Cash Flow, Corporate Finance, and Takeovers," American Economic Review, American Economic Association, vol. 76(2), pages 323-329, May.
    7. Oded Galor & Joseph Zeira, 1993. "Income Distribution and Macroeconomics," Review of Economic Studies, Oxford University Press, vol. 60(1), pages 35-52.
    8. Douglas W. Diamond, 1984. "Financial Intermediation and Delegated Monitoring," Review of Economic Studies, Oxford University Press, vol. 51(3), pages 393-414.
    9. Bernanke, Ben & Gertler, Mark, 1989. "Agency Costs, Net Worth, and Business Fluctuations," American Economic Review, American Economic Association, vol. 79(1), pages 14-31, March.
    10. Greif, Avner, 1993. "Contract Enforceability and Economic Institutions in Early Trade: the Maghribi Traders' Coalition," American Economic Review, American Economic Association, vol. 83(3), pages 525-548, June.
    11. Philippe Aghion & Patrick Bolton, 1992. "An Incomplete Contracts Approach to Financial Contracting," Review of Economic Studies, Oxford University Press, vol. 59(3), pages 473-494.
    12. Holmstrom, Bengt & Tirole, Jean, 1993. "Market Liquidity and Performance Monitoring," Journal of Political Economy, University of Chicago Press, vol. 101(4), pages 678-709, August.
    13. Joh, Sung Wook, 2003. "Corporate governance and firm profitability: evidence from Korea before the economic crisis," Journal of Financial Economics, Elsevier, vol. 68(2), pages 287-322, May.
    14. Shapiro, Carl & Stiglitz, Joseph E, 1984. "Equilibrium Unemployment as a Worker Discipline Device," American Economic Review, American Economic Association, vol. 74(3), pages 433-444, June.
    15. Douglas Gale & Martin Hellwig, 1985. "Incentive-Compatible Debt Contracts: The One-Period Problem," Review of Economic Studies, Oxford University Press, vol. 52(4), pages 647-663.
    Full references (including those not matched with items on IDEAS)

    Most related items

    These are the items that most often cite the same works as this one and are cited by the same works as this one.
    1. Janvier D. Nkurunziza, 2005. "Reputation and Credit without Collateral in Africa`s Formal Banking," Economics Series Working Papers WPS/2005-02, University of Oxford, Department of Economics.
    2. Alessandra Bonfiglioli, 2004. "Equities and Inequality," 2004 Meeting Papers 256, Society for Economic Dynamics.
    3. Brishti Guha, 2005. "Honesty and Intermediation: Corporate Cheating, Auditor Involvement and the Implications for Development," Working Papers 18-2005, Singapore Management University, School of Economics.
    4. Conning, Jonathan & Udry, Christopher, 2007. "Rural Financial Markets in Developing Countries," Handbook of Agricultural Economics, in: Robert Evenson & Prabhu Pingali (ed.), Handbook of Agricultural Economics, edition 1, volume 3, chapter 56, pages 2857-2908, Elsevier.
    5. Bushman, Robert M. & Smith, Abbie J., 2001. "Financial accounting information and corporate governance," Journal of Accounting and Economics, Elsevier, vol. 32(1-3), pages 237-333, December.
    6. Keith Blackburn & Dimitrios Varvarigos, 2005. "Growth, Uncertainty and Finance," The School of Economics Discussion Paper Series 0525, Economics, The University of Manchester.
    7. Levine, Ross, 2005. "Finance and Growth: Theory and Evidence," Handbook of Economic Growth, in: Philippe Aghion & Steven Durlauf (ed.), Handbook of Economic Growth, edition 1, volume 1, chapter 12, pages 865-934, Elsevier.
    8. Bougheas, Spiros, 2007. "Imperfect capital markets, income distribution and the choice of external finance: A financial equilibrium approach," The Quarterly Review of Economics and Finance, Elsevier, vol. 47(4), pages 507-520, September.
    9. Gersbach, Hans & Uhlig, Harald, 2006. "Debt contracts and collapse as competition phenomena," Journal of Financial Intermediation, Elsevier, vol. 15(4), pages 556-574, October.
    10. Committee, Nobel Prize, 2016. "Oliver Hart and Bengt Holmström: Contract Theory," Nobel Prize in Economics documents 2016-1, Nobel Prize Committee.
    11. Eduard Marinov, 2016. "The 2016 Nobel Prize in Economics," Economic Thought journal, Bulgarian Academy of Sciences - Economic Research Institute, issue 6, pages 97-149.
    12. Guembel, Alexander & White, Lucy, 2014. "Good cop, bad cop: Complementarities between debt and equity in disciplining management," Journal of Financial Intermediation, Elsevier, vol. 23(4), pages 541-569.
    13. Azariadis, Costas & Stachurski, John, 2005. "Poverty Traps," Handbook of Economic Growth, in: Philippe Aghion & Steven Durlauf (ed.), Handbook of Economic Growth, edition 1, volume 1, chapter 5, Elsevier.
    14. Heinrich, Ralph P., 1999. "Complementarities in Corporate Governance - A Survey of the Literature with Special Emphasis on Japan," Kiel Working Papers 947, Kiel Institute for the World Economy (IfW).
    15. Goergen, Marc & Manjon, Miguel C. & Renneboog, Luc, 2008. "Recent developments in German corporate governance," International Review of Law and Economics, Elsevier, vol. 28(3), pages 175-193, September.
    16. Falkinger, Josef & Grossmann, Volker, 2013. "Oligarchic land ownership, entrepreneurship, and economic development," Journal of Development Economics, Elsevier, vol. 101(C), pages 206-215.
    17. Arnold Lutz, 2000. "Α Model of Debt Deflation and the Phillips Curve: Implications for Business Cycles and the Balance Sheet Channel of Monetary Policy / Schulden-Deflation und die Phillips-Kurve: Implikationen für Konju," Journal of Economics and Statistics (Jahrbuecher fuer Nationaloekonomie und Statistik), De Gruyter, vol. 220(4), pages 385-399, August.
    18. Demirgüç-Kunt, Asli & Horváth, Bálint L. & Huizinga, Harry, 2017. "How does long-term finance affect economic volatility?," Journal of Financial Stability, Elsevier, vol. 33(C), pages 41-59.
    19. Stenzel, André, 2018. "Security design with interim public information," Journal of Mathematical Economics, Elsevier, vol. 76(C), pages 113-130.
    20. Paul A. Grout & Ian Jewitt & Silvia Sonderegger, 2007. "Governance Reform in Legal Service Markets," Economic Journal, Royal Economic Society, vol. 117(519), pages 93-113, March.

    More about this item

    Keywords

    Moral hazard; firm size; managerial compensation; repeated games;
    All these keywords.

    JEL classification:

    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
    • L21 - Industrial Organization - - Firm Objectives, Organization, and Behavior - - - Business Objectives of the Firm
    • M52 - Business Administration and Business Economics; Marketing; Accounting; Personnel Economics - - Personnel Economics - - - Compensation and Compensation Methods and Their Effects
    • O11 - Economic Development, Innovation, Technological Change, and Growth - - Economic Development - - - Macroeconomic Analyses of Economic Development

    NEP fields

    This paper has been announced in the following NEP Reports:

    Statistics

    Access and download statistics

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:siu:wpaper:16-2005. See general information about how to correct material in RePEc.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (QL THor). General contact details of provider: https://edirc.repec.org/data/sesmusg.html .

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If CitEc recognized a reference but did not link an item in RePEc to it, you can help with this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service hosted by the Research Division of the Federal Reserve Bank of St. Louis . RePEc uses bibliographic data supplied by the respective publishers.