Executive Compensation: The View from General Equilibrium

Jean-Pierre Danthine and John B Donaldson

No 6555, CEPR Discussion Papers from Centre for Economic Policy Research

Abstract: We study the dynamic general equilibrium of an economy where risk averse shareholders delegate the management of the firm to risk averse managers. The optimal contract has two main components: an incentive component corresponding to a non-tradable equity position and a variable 'salary' component indexed to the aggregate wage bill and to aggregate dividends. Tying a manager's compensation to the performance of her own firm ensures that her interests are aligned with the goals of firm owners and that maximizing the discounted sum of future dividends will be her objective. Linking managers' compensation to overall economic performance is also required to make sure that managers use the appropriate stochastic discount factor to value those future dividends.

Keywords: Incentives; Optimal contracting; Stochastic discount factor (search for similar items in EconPapers)
JEL-codes: E32 E44 (search for similar items in EconPapers)
Date: 2007-11
New Economics Papers: this item is included in nep-bec, nep-dge and nep-mac
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Working Paper: Executive Compensation: The View from General Equilibrium (2007)
Working Paper: Executive Compensation: The View from General Equilibrium (2007)
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