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Journal of Financial Economics Vol. 130 No. 2 2018

Does improved information improve incentives?

Pierre Chaigneau1,2; Alex Edmans3,4,5; Daniel Gottlieb6

1 Queen's University · 2 HEC Montréal · 3 Centre for Economic Policy Research · 4 European Corporate Governance Institute · 5 London Business School · 6 Washington University in St. Louis

open access

Abstract

This paper studies the value of more precise signals on agent performance in an optimal contracting model with endogenous effort. With limited liability, the agent’s wage is increasing in output only if output exceeds a threshold, else it is zero regardless of output. If the threshold is sufficiently high, the agent only beats it, and is rewarded for increasing output through greater effort, if there is a high noise realization. Thus, a fall in output volatility reduces effort incentives—information and effort are substitutes—offsetting the standard effect that improved information lowers the cost of compensation. We derive conditions relating the incentive effect to the underlying parameters of the agency problem.

DOI
10.1016/j.jfineco.2018.05.002
Volume
130
Issue
2
Pages
291-307
Language
en
Sources
bibtex:phds-export.bib openalex crossref

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