Lecture12 - 13 - agency moral hazard adverse selection

Gdiversifythe firm

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Unformatted text preview: ­ pH) * (πL – wL) (8) The principal will offer the performance­based contract and induce high effort if: pH * (πH –wH) + (1­ pH) * (πL – wL) ≥ pL * πH + (1­ pL) * πL– w The principal will otherwise offer the flat wage w = eL, and induce low effort. 14 Separation of Ownership & Control Most managers own a small fraction of the shares of the firm that they run. ⇒ Conflict of interests with shareholders. Shareholders typically care only about stock prices. Managers, however, may have very different interests Managers often say they represent: – Investors (shareholders and debtholders) – Customers and suppliers – Employees. But they may also care about their own wealth, their career concerns, and comfortable working conditions 15 How can managers not max share prices? Managers may not maximize share prices Perk consumption: use of corporate resources for personal benefit Several distortions in investment decisions – Choose those that fit the manager’s expertise – Choose those in visible/f...
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This document was uploaded on 03/09/2014 for the course COMM 371 at UBC.

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