Lying to Speak the Truth: Selective Manipulation and Improved Information Transmission

62 Pages Posted: 3 Dec 2019 Last revised: 13 Dec 2022

See all articles by Paul Povel

Paul Povel

University of Houston - Department of Finance, C.T. Bauer College of Business

Günter Strobl

University of Vienna - Department of Finance

Date Written: November 16, 2019

Abstract

We analyze a principal-agent model in which an effort-averse agent can manipulate a publicly observable performance report. The principal cannot observe the agent's cost of effort, her effort choice, and whether she manipulated the report. An optimal contract links compensation to the eventually realized output and, in certain situations, to the (possibly manipulated) report. We show that the optimal contract may incentivize selective manipulation of an unfavorable report by an agent who exerted a high level of effort. Doing so can convert a "falsely" negative report into a positive one, thereby making the report more informative about the agent's effort choice.

Keywords: Adverse Selection, Moral Hazard, Performance Manipulation, Earnings Management, Corporate Governance, Executive Compensation

JEL Classification: D82, D86, G34, M12, M41

Suggested Citation

Povel, Paul and Strobl, Günter, Lying to Speak the Truth: Selective Manipulation and Improved Information Transmission (November 16, 2019). Available at SSRN: https://ssrn.com/abstract=3488734 or http://dx.doi.org/10.2139/ssrn.3488734

Paul Povel (Contact Author)

University of Houston - Department of Finance, C.T. Bauer College of Business ( email )

University of Houston
334 Melcher Hall
Houston, TX 77204
United States
713-743-4759 (Phone)

HOME PAGE: http://www.bauer.uh.edu/povel

Günter Strobl

University of Vienna - Department of Finance ( email )

Oskar-Morgenstern-Platz 1
Vienna, 1090
Austria

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