Contractual Managerial Incentives with Stock Price Feedback

Tse-Chun Lin, Qi Liu and Bo Sun

American Economic Review, 2019, vol. 109, issue 7, 2446-68

Abstract: We study the effect of financial market frictions on managerial compensation. We embed a market microstructure model into an otherwise standard contracting framework, and analyze optimal pay-for-performance when managers use information they learn from the market in their investment decisions. In a less frictional market, the improved information content of stock prices helps guide managerial decisions and thereby necessitates lower-powered compensation. Exploiting a randomized experiment, we document evidence that pay-for-performance is lowered in response to reduced market frictions. Firm investment also becomes more sensitive to stock prices during the experiment, consistent with increased managerial learning from the market.

JEL-codes: D83 G12 G14 G32 G34 M12 M52 (search for similar items in EconPapers)
Date: 2019
Note: DOI: 10.1257/aer.20151310
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Citations: View citations in EconPapers (14)

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