Executive Compensation and Stock Options: An Inconvenient Truth

Jean-Pierre Danthine and John B Donaldson

No 6890, CEPR Discussion Papers from Centre for Economic Policy Research

Abstract: We reexamine the issue of executive compensation within a general equilibrium production context. Intertemporal optimality places strong restrictions on the form of a representative manager's compensation contract, restrictions that appear to be incompatible with the fact that the bulk of many high-profile managers' compensation is in the form of various options and option-like rewards. We therefore measure the extent to which a convex contract alone can induce the manager to adopt near-optimal investment and hiring decisions. To ask this question is essentially to ask if such contracts can effectively align the stochastic discount factor of the manager with that of the shareholder-workers. We detail exact circumstances under which this alignment is possible and when it is not.

Keywords: Convex contracts; Executive compensation; Stock options; Corporate governance; Optimal contracting; Business cycles (search for similar items in EconPapers)
JEL-codes: E32 E44 (search for similar items in EconPapers)
Date: 2008-06
New Economics Papers: this item is included in nep-bec, nep-dge and nep-mac
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Working Paper: Executive Compensation and Stock Options: An Inconvenient Truth (2008)
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