Working Paper: CEPR ID: DP12720
Authors: Sebastian Gryglewicz; Simon Mayer; Erwan Morellec
Abstract: We develop a dynamic agency model in which the agent controls current earnings via short-term effort and firm growth via long-term effort and the firm is subject to both short- and long-run shocks. Under the optimal contract, agency conflicts can induce both over- and underinvestment in short- and long-term efforts compared to first best, leading to short- or long-termism in corporate policies. Exposure to long-run shocks introduces pay-for-luck in incentive compensation but only after sufficiently good performance due to incentive compatibility, thereby rationalizing the asymmetric benchmarking observed in the data. Correlated short- and long-run shocks to earnings and firm size lead to externalities in incentive provision over different time horizons.
Keywords: Agency conflicts; Multitasking; Pay-for-luck; Optimal short and long-termism
JEL Codes: No JEL codes provided
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| agency conflicts (G34) | overinvestment in short-term efforts (G31) |
| agency conflicts (G34) | underinvestment in long-term efforts (H54) |
| financial condition of the firm (G32) | agency conflicts (G34) |
| financial weakness (G32) | overinvestment in short-term efforts (G31) |
| financial strength (G32) | underinvestment in long-term efforts (H54) |
| long-run shocks (E32) | 'pay-for-luck' in incentive compensation (J33) |
| correlated short and long-run shocks (E44) | externalities in incentive provision (D62) |
| externalities in incentive provision (D62) | managerial effort choices (M54) |