A simple explanation of the relative performance evaluation puzzle

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dc.contributor.author Celentani, Marco
dc.contributor.author Loveira, Rosa
dc.date.accessioned 2012-10-03T15:32:54Z
dc.date.available 2012-10-03T15:32:54Z
dc.date.issued 2006-07
dc.identifier.bibliographicCitation Review of Economic Dynamics, july 2006, vol. 9, n. 3, p. 525-540
dc.identifier.issn 1094-2025
dc.identifier.uri http://hdl.handle.net/10016/4824
dc.description.abstract We study a simple moral hazard model in which two risk-neutral owners establish incentives for their risk-averse managers to exert effort. Because the probability distributions over output realizations depend on a common aggregate shock, optimal contracts make the compensation of each manager contingent on own performance but also on a performance benchmark—the performance of the other firm. If the marginal return of effort depends on the aggregate state, optimal contracts are not monotonically decreasing in the performance benchmark. This provides a simple explanation of the Relative Performance Evaluation (RPE) Puzzle—the documented lack of a negative relationship between CEO compensation and comparative performance measures, such as industry or market performance. Our simple model can also explain one-sided RPE—the documented tendency to insulate a CEO's rewards from bad luck, but not from good luck. We clarify that our results are robust in several dimensions and we discuss other applications of our findings.
dc.description.sponsorship Marco Celentani acknowledges the financial support of Fundación BBVA. Marco Celentani and Rosa Loveira acknowledge the financial support of project BEC2002-03715 of Ministerio de Ciencia y Tecnología and of project SEJ2005-08462 of Ministerio de Educación y Ciencia
dc.format.mimetype text/plain
dc.format.mimetype application/pdf
dc.language.iso eng
dc.publisher Elsevier
dc.rights © Elsevier
dc.subject.other Relative performance evaluation
dc.subject.other Optimal contracts
dc.subject.other Executive compensation
dc.title A simple explanation of the relative performance evaluation puzzle
dc.type article
dc.type.review PeerReviewed
dc.description.status Publicado
dc.relation.publisherversion http://dx.doi.org/10.1016/j.red.2006.04.001
dc.subject.jel C72
dc.subject.jel D82
dc.subject.jel M52
dc.subject.eciencia Economía
dc.identifier.doi 10.1016/j.red.2006.04.001
dc.rights.accessRights openAccess
dc.type.version acceptedVersion
dc.identifier.publicationfirstpage 525
dc.identifier.publicationissue 3
dc.identifier.publicationlastpage 540
dc.identifier.publicationtitle Review of Economic Dynamics
dc.identifier.publicationvolume 9
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