A Model of Operational Slack: The Short-Run, Medium-Run, and Long-Run Consequences of Limited Attention Capacity

Peter Iliev and Ivo Welch

The Journal of Law, Economics, and Organization, 2013, vol. 29, issue 1, 2-34

Abstract: When multiple projects can require attention at unpredictable times, institutions (firms) can respond by choosing the number of projects they simultaneously undertake (medium term) and by acquiring attention capacity (long term). Idleness is an optimal response and not a sign of shirking. In the medium term, firms tend to idle more when their projects require more attention. In the long term, firms tend to idle even more when their projects require more attention and also when they have acquired less attention capacity. We discuss briefly how the model can be tested. Moreover, natural model extensions suggest that managers who want to signal higher quality or who are overly optimistic take on too many projects. This can explain overinvestment and the diversification discount even when managers are not agency conflicted. The Author 2011. Published by Oxford University Press on behalf of Yale University. All rights reserved. For Permissions, please email: journals.permissions@oup.com, Oxford University Press.

Date: 2013
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