Working Paper: CEPR ID: DP3961
Authors: Lucian Arye Bebchuk; Jesse Fried
Abstract: This Paper provides an overview of the main theoretical elements and empirical underpinnings of a ?managerial power? approach to executive compensation. Under this approach, the design of executive compensation is viewed not only as an instrument for addressing the agency problem between managers and shareholders but also as part of the agency problem itself. Boards of publicly traded companies with dispersed ownership, we argue, cannot be expected to bargain at arm?s length with managers. As a result, managers wield substantial influence over their own pay arrangements, and they have an interest in reducing the saliency of the amount of their pay and the extent to which that pay is de-coupled from managers? performance. We show that the managerial power approach can explain many features of the executive compensation landscape, including ones that many researchers have long viewed as puzzling. Among other things, we discuss option plan design, executive loans, retirement benefits, payments to departing executives, the use of compensation consultants, and the observed relationship between CEO power and pay. We also explain how managerial influence might lead to substantially inefficient arrangements that produce weak or even perverse incentives.
Keywords: agency costs; boards; compensation consultants; corporate governance; directors; executive compensation; executive loans; expensing; golden parachutes; managers; principal-agent problem; rent extraction; shareholders; stock options
JEL Codes: D23; G32; G34; G38; J33; J44; K22; M14
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| managerial power (M54) | executive compensation (M12) |
| managerial power (M54) | agency problems (G34) |
| weak boards (G34) | managerial power (M54) |
| lack of large outside shareholders (G34) | managerial power (M54) |
| antitakeover provisions (G34) | managerial power (M54) |
| managerial power (M54) | inefficient compensation arrangements (J33) |
| consulting practices (L84) | executive pay (M12) |
| managerial influence (M54) | compensation structures (M52) |
| compensation structures (M52) | shareholder value (G34) |