Managerial Short-Termism and Market Competition

Posted: 30 Jul 2018 Last revised: 25 Aug 2021

See all articles by Yan Xiong

Yan Xiong

The Hong Kong University of Science and Technology

Date Written: March 3, 2020

Abstract

This paper studies managerial short-termism by considering a model in which two firms compete for a new investment opportunity. It shows that under competition firms may deliberately induce short-termism by tying managerial pay to short-term stock prices. Due to information asymmetry between managers and financial markets regarding the investment profitability, managers under such compensation contracts tend to overinvest to signal good profitability, which gives their respective firms a competitive advantage. The intensified competition ultimately erodes firms' profits. So short-termism can arise from a prisoner's dilemma type of coordination failure among firms. Yet this collective action problem can be socially optimal.

Keywords: Short-termism; commitment; coordination failure; market competition

JEL Classification: G34, L13, M12, M52

Suggested Citation

Xiong, Yan, Managerial Short-Termism and Market Competition (March 3, 2020). Available at SSRN: https://ssrn.com/abstract=3221727 or http://dx.doi.org/10.2139/ssrn.3221727

Yan Xiong (Contact Author)

The Hong Kong University of Science and Technology ( email )

HKUST
Kowloon
Hong Kong
Hong Kong

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