Arbeitspapier

Some unpleasant general equilibrium implications of executive incentive compensation contracts

We consider a simple variant of the standard real business cycle model in which shareholders hire a self-interested executive to manage the firm on their behalf. A generic family of compensation contracts similar to those employed in practice is studied. When compensation is convex in the firm's own dividend (or share price), a given increase in the firm's output generated by an additional unit of physical investment results in a more than proportional increase in the manager's income. Incentive contracts of sufficient yet modest convexity are shown to result in an indeterminate general equilibrium, one in which business cycles are driven by self-fulfilling fluctuations in the manager's expectations that are unrelated to the economy's fundamentals. Arbitrarily large fluctuations in macroeconomic variables may result. We also provide a theoretical justification for the proposed family of contracts by demonstrating that they yield first-best outcomes for specific parameter choices.

Sprache
Englisch

Erschienen in
Series: Staff Report ; No. 531

Klassifikation
Wirtschaft
Business Fluctuations; Cycles
Compensation Packages; Payment Methods
Thema
delegation
executive compensation
indeterminacy and instability

Ereignis
Geistige Schöpfung
(wer)
Donaldson, John B.
Gershun, Natalia
Giannoni, Marc P.
Ereignis
Veröffentlichung
(wer)
Federal Reserve Bank of New York
(wo)
New York, NY
(wann)
2011

Handle
Letzte Aktualisierung
10.03.2025, 11:43 MEZ

Datenpartner

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Objekttyp

  • Arbeitspapier

Beteiligte

  • Donaldson, John B.
  • Gershun, Natalia
  • Giannoni, Marc P.
  • Federal Reserve Bank of New York

Entstanden

  • 2011

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