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Is CEO pay really inefficient? A survey of new optimal contracting theories

Journal

European Financial Management

Subject

Finance

Publishing details

European Financial Management 2009 June Vol 15:3 p 486-496

Authors / Editors

Edmans A;Gabaix X

Biographies

Alex Edmans

Publication Year

2009

Abstract

Bebchuk and Fried (2004) argue that executive compensation is set by CEOs themselves rather than boards on behalf of shareholders, since many features of observed pay packages may appear inconsistent with standard optimal contracting theories. However, it may be that simple models do not capture several complexities of real-life settings. This article surveys recent theories that extend traditional frameworks to incorporate these dimensions, and show that the above features can be fully consistent with efficiency. For example, optimal contracting theories can explain the recent rapid increase in pay, the low level of incentives and their negative scaling with firm size, pay-for-luck, the widespread use of options (as opposed to stock), severance pay and debt compensation, and the insensitivity of incentives to risk.

Keywords

Executive compensation; CEO incentives; Optimal contracting

Publication Research Centre

Institute of Finance and Accounting

Available on ECCH

No


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