Career Concerns and Contingent Compensation

CEMFI Working Paper No. 0205

44 Pages Posted: 3 Dec 2002

See all articles by Guillermo Caruana

Guillermo Caruana

Centre for Monetary and Financial Studies (CEMFI)

Marco Celentani

Universidad Carlos III de Madrid - Department of Economics

Date Written: February 2003

Abstract

This paper considers a two-period model in which managers have superior information about their ability to forecast the realization of given investment projects. Firms compete for managers by offering short-run contracts. As future salaries depend on current play through its impact on managerial reputation, managers' investment decisions are affected by their concern for their future careers. We analyze the interaction between these implicit incentives, created by managers' career concerns, and the explicit incentives made possible by contingent compensation. We show that managers' career concerns create perverse incentives that are robust to the introduction of contingent contracting. We also find that while managerial compensation is monotonically increasing in profit at date 2, it is not at date 1. Two numerical exercises relate the implications of our results to the literature on the link between pay and performance. In line with empirical findings, we find that: i) the pay-performance sensitivity is highest in the final period of managers' employment; ii) higher pay-performance sensitivities are associated with a lower variance of profits.

Keywords: Compensation, career concerns, pay-performance, risk

JEL Classification: C73, D82, G30, J33, L14

Suggested Citation

Caruana, Guillermo and Celentani, Marco, Career Concerns and Contingent Compensation (February 2003). CEMFI Working Paper No. 0205. Available at SSRN: https://ssrn.com/abstract=336940 or http://dx.doi.org/10.2139/ssrn.336940

Guillermo Caruana (Contact Author)

Centre for Monetary and Financial Studies (CEMFI) ( email )

Casado del Alisal 5
28014 Madrid
Spain
34 91 429 0551 (Phone)
34 91 429 1056 (Fax)

Marco Celentani

Universidad Carlos III de Madrid - Department of Economics ( email )

Calle Madrid 126
Getafe, 28903
Spain
+34-91-624 9546 (Phone)
+34-91-624 9875 (Fax)

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