Optimal Performance Targets

2020 ◽  
Author(s):  
Keri (Peicong) Hu ◽  
Yiwen Li ◽  
Korok Ray
Keyword(s):  
Moral Hazard ◽  
Optimal Performance ◽  
Risk Averse ◽  
Performance Targets ◽  
Moral Hazard Problem ◽  
Optimal Target ◽  
Increases In Risk ◽  
Performance Target

We study a class of contracts that is becoming ever more common among executives, in which the manager earns a discrete bonus if performance clears an explicit threshold. These performance targets provide the firm with an additional instrument to resolve its moral hazard problem with its manager. The performance target can achieve first-best under risk neutrality, with a target precisely equal to the desired effort that the firm seeks to induce. The optimal bonus increases in risk. If the manager is sufficiently risk averse, the firm will shade the optimal target below equilibrium effort to provide a form of insurance to the manager, outside of the standard reduction in the bonus.

Performance Target Revisions in Incentive Contracts: Do Information and Trust Reduce Ratcheting and the Ratchet Effect?

2015 ◽  
Vol 90 (5) ◽  
pp. 1755-1778 ◽  
Author(s):  
Jasmijn C. Bol ◽  
Jeremy B. Lill
Keyword(s):  
Structural Changes ◽  
Data Availability ◽  
Performance Information ◽  
Ratchet Effect ◽  
Past Performance ◽  
Performance Targets ◽  
Positive Performance ◽  
Confidentiality Agreement ◽  
To Receive ◽  
Performance Target

ABSTRACT In this study, we examine a setting where principals use past performance to annually revise performance targets, but do not fully incorporate the past performance information in their target revisions. We argue that this situation is driven by some principals and agents having an implicit agreement where the principal “allows” the agent to receive economic rents from positive performance-target deviations that are the result of superior effort or transitory gains by not revising targets upward, while the agent “accepts” target revisions by not restricting output when these revisions are the result of structural changes in the operation's true economic capacity. Although both the principal and the agent can benefit from an implicit agreement, we argue that for the implicit agreement to be maintainable, the principal either needs information on the cause of the performance-target deviation or there needs to be trust between the principal and the agent. Using archival data across multiple years and independent bank units, we find a pattern of ratchet attenuation and output restriction that is consistent with the existence of implicit agreements for those principal-agent dyads where information asymmetry is sufficiently reduced or mutual trust exists. Data Availability: Data used in this study cannot be made public due to a confidentiality agreement with the participating firm.

scholarly journals Responsibility Center Budgeting as a Mechanism to Deal with Academic Moral Hazard

2019 ◽  
Vol 49 (3) ◽  
pp. 13-23
Author(s):  
Gordon M. Myers
Keyword(s):  
Moral Hazard ◽  
Risk Averse ◽  
Central Administration ◽  
Financial Responsibility ◽  
The Right ◽  
Responsibility Center Budgeting ◽  
The University ◽  
Large Research ◽  
Responsibility Center

Universities face inherent informational asymmetries. These make university budgeting prone to various challenges including moral hazard. The last forty years has seen some large research- intensive universities move from centralized incremental budgeting to decentralized Responsibility Center Budgeting (RCB). It is assumed that a faculty chooses a level of costly effort in generating revenue for the university. The level of faculty effort is not observable by the central administration. When there is no revenue uncertainty or when the faculty is not risk averse, pure RCB is best from the perspective of the administration. The intuition is that pure RCB fully aligns financial responsibility with academic authority, that is, it makes the faculty the residual claimant. Once the faculty is risk averse, partial RCB is optimal. Partial RCB provides a balance between providing the right incentives to the faculty and the university reducing the revenue risk faced by the faculty.

Modelling the public moral hazard problem of international remittance inflows in Bangladesh

2021 ◽  
Vol 13 (2) ◽  
pp. 166
Author(s):  
Muntasir Murshed ◽  
Syed Rashid Ali ◽  
Mohammad Haseeb ◽  
Solomon Prince Nathaniel
Keyword(s):  
Moral Hazard ◽  
The Public ◽  
Moral Hazard Problem

Monsters to Destroy

2020 ◽  
Author(s):  
Navin A. Bapat
Keyword(s):  
Moral Hazard ◽  
War On Terror ◽  
Energy Markets ◽  
Economic Security ◽  
Global Markets ◽  
Energy Market ◽  
Reserve Currency ◽  
American Military ◽  
Moral Hazard Problem ◽  
The U.S

This study argues that the war on terror can be explained as an effort to cement the U.S. dollar as the world’s foremost reserve currency by expanding American control over the global energy markets. Since the 1970s, the states of OPEC agreed to denominate their oil sales in U.S. dollars in exchange for American military protection. The 9/11 attacks gave the U.S. cover to eliminate current challengers to this system while simultaneously striking new security agreements with host states throughout the Middle East, Africa, and central Asia that are critical to the extraction, sale, and transportation of energy to global markets. However, the U.S. security guarantee soon created a moral hazard problem. Since the host states had American protection, they were free to engage in corrupt behaviors—while labeling their political opponents as terrorists. To make matters worse, these states had incentives to keep terrorists in their territory, given that doing so would force the U.S. to protect them indefinitely. As a result of this moral hazard problem, terrorists in the host states gradually grew in power and transitioned to insurgencies, which caused a rapid escalation in violence. Facing the increasing cost of securing the host states, the U.S. was forced to scale back its security guarantee, which in turn contributed to greater violence in the energy market. Although the U.S. began the war to maintain its economic dominance, it now finds itself locked into a seemingly permanent war for its economic security.

A moral solution to the moral hazard problem

2010 ◽  
Vol 35 (1) ◽  
pp. 125-139 ◽  
Author(s):  
Douglas E. Stevens ◽  
Alex Thevaranjan
Keyword(s):  
Moral Hazard ◽  
Moral Hazard Problem
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