Dynamic Compensation under Uncertainty Shocks and Limited Commitment

Felix Feng
Additional contact information
Felix Feng: University of Notre Dame

No 159, 2018 Meeting Papers from Society for Economic Dynamics

Abstract: This paper studies dynamic compensation and risk management when firms face cash flow volatility shock. Back-loaded compensation with a penalty upon the arrival of the shock is used to incentivize effort and prudence from managers. Thus, implications of the volatility shock depend critically on firms’ ability to commit to future compensa- tion: firms with full commitment power impose high pay-performance sensitivity and large penalties to implement low risk, and defer compensation more when volatility becomes higher. In contrast, firms with limited commitment ability optimally allow excessive risk-taking from managers in exchange for a low pay-performance sensitivity; they expedite compensation when volatility is higher because commitment to future payments becomes less feasible. These predictions shed light on empirical observations particularly the controversial compensation practices during the recent financial crisis.

Date: 2018
New Economics Papers: this item is included in nep-dge and nep-hrm
References: View references in EconPapers View complete reference list from CitEc
Citations:

Downloads: (external link)
https://red-files-public.s3.amazonaws.com/meetpapers/2018/paper_159.pdf (application/pdf)

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:red:sed018:159

Access Statistics for this paper

More papers in 2018 Meeting Papers from Society for Economic Dynamics Society for Economic Dynamics Marina Azzimonti Department of Economics Stonybrook University 10 Nicolls Road Stonybrook NY 11790 USA. Contact information at EDIRC.
Bibliographic data for series maintained by Christian Zimmermann ().