Executive Pay

Prior Successes and Future Incentives

Abstract

Executive compensation has become a field of intense (agency-)theoretical and empirical research. A theoretically rather unexplored area is the absolute level of pay and what accounts for differences in absolute pay. In this paper a two-period agency model is developed to determine a pay structure that provides incentives for managerial effort and uses informative signals about the agent's ability. The resulting pay structure does not always award the most successful agent with the highest pay. A more risky distribution of the agent's ability generates a less costly information system.