Optimal CEO turnover

We study a dynamic principal-agent/firm-CEO relationship that is subject simultaneously to moral hazard, limited commitment, and shocks to the CEO's market value. Termination is used as (a) an incentive instrument to punish the CEO for bad performance, (b) a cost minimization device that uses t...

Full description

Saved in:
Bibliographic Details
Published inJournal of economic theory Vol. 203; p. 105475
Main Authors Wang, Cheng, Yang, Youzhi
Format Journal Article
LanguageEnglish
Published Elsevier Inc 01.07.2022
Subjects
CEO compensation and turnover
Limited commitment
Moral hazard
Optimal contracting
Outside option
Optimal contracting
Outside option
D86
CEO compensation and turnover
J63
Limited commitment
M12
Moral hazard
Online AccessGet full text

Cover

More Information
Summary:We study a dynamic principal-agent/firm-CEO relationship that is subject simultaneously to moral hazard, limited commitment, and shocks to the CEO's market value. Termination is used as (a) an incentive instrument to punish the CEO for bad performance, (b) a cost minimization device that uses the CEO's outside value as an external means for compensation, and (c) as a means for replacing the incumbent CEO with a less expensive new CEO. Termination occurs after the CEO receives either a sufficiently high or a sufficiently low outside value. The model generates both voluntary and involuntary/forced turnovers, and counter-offers occur on the equilibrium path. The model is calibrated to the U.S. data to capture the key observed features of CEO pay and turnover. It shows that increased moral hazard offers an explanation for the observed increase in the level and variance of CEO compensation, as well as the increase in forced CEO turnover.
ISSN:0022-0531
DOI:10.1016/j.jet.2022.105475