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How to Control and Reward Managers? The Paradox of the 90s. From Optimal Contract Theory to a Political Economy Approach

Опубликовано на портале: 25-03-2008
Research & Regulation Working Papers. 2005.  No. 2005-1.
Why did CEOs remuneration exploded during the 90s and persisted to high levels, even after the bursting out of the Internet bubble? This article surveys the alternative explanations that have been given of this paradox mainly by various economic theories with some extension to political science, business administration, social psychology, moral philosophy, network analysis. Basically, it is argued that the diffusion of stock-options and financial market related incentives, that were supposed to discipline managers, have entitled them to convert their intrinsic power into remuneration and wealth, both at the micro and macro levels. This is the outcome of a de facto alliance of executives with financiers, who have thus exploited the long run erosion of wage earners’ bargaining power. At the company level, the power of top-managers derives from their control over financial information, and from a better knowledge than outsiders of the sources of company profitability. This power of top-managers is directly linked to the ability for a company to generate profits, via the complementarity of specific assets, at odds with the conventional neoclassical theory that assumes a cybernetic approach concerning the substitution of factors of production in response to the price signal of markets. Insider trading, the low sensitivity of CEOs compensation with respect to performance in large companies, the contradictory impact of mergers and acquisitions upon managers on one side shareholder on the other side, and the rarity of indexed stock-options are relevant empirical evidences of this intrinsic, micro founded, power of managers. Why financial scandals about excessive CEOs compensation took place at the end of the 90s and not before? A political economy approach complements the previous one and conveys the hypothesis that CEOs and CFOs have converted a part of their economic power into a political power, expressed at the society wide level. Generous stock-options grants derive from the impact of financial liberalisation, contemporary societies seem to accept more easily the widening of inequalities, whereas many governments tend to be pro-business: they lower the taxation of capital but they increase households taxation and weaken the redistributive role of tax and welfare systems. The article finally discusses the possible reforms that could reduce the probability and the adverse consequences of CEOs and top-managers opportunism: reputation, business ethic, legal sanctions, public auditing of companies, or shift from a shareholder to a stakeholder conception).

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