27 Pages Posted: 28 Feb 2011
Date Written: February, 28 2011
The paper integrates agency theory with the asset-pricing model to explore causes of subprime mortgage crisis regarding the role of CEOs in financial firms. When maximizing their interests, CEOs behave under the influence of incentive structures, peer pressure and market power. Increasing peer pressure, high-incentive compensation schedule and declining market power increase CEOs’ appetite for risk. For avoiding CEOs’ procyclical behavior and aligning the interests of both firms and CEOs, we conclude that pay incentives could be reversed against the changes in market conditions; the relative performance evaluation be embedded into CEOs’ compensation schedule; the time span for performance evaluation be lengthened.
Keywords: subprime mortgage, financial crisis, incentive structures, peer performance index, market power
JEL Classification: D01, G21, M52
Suggested Citation: Suggested Citation
By Kevin Murphy