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A model of managerial compensation, firm leverage and credit stimulus

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  • Chakraborti, Rajdeep
  • Dahiya, Sandeep
  • Ge, Lei
  • Gete, Pedro

Abstract

We study a model in which leverage and compensation are both choice variables for the firm and borrowing spreads are endogenous. First, we analyze the correlation between leverage and variable compensation. We show that allowing for endogenous compensation and leverage can explain the conflicting findings of the empirical literature. We uncover a new channel of complementarity between effort and leverage that induces a correlation sign opposite to what current theoretical models predict. Second, we study the dynamics of leverage and compensation design after a credit stimulus. We derive a set of new empirical predictions. For outward-shifts in credit supply, variable compensation is increasing in leverage growth. Moreover, variable compensation increases after the credit stimulus, especially for firms with low idiosyncratic risk.

Suggested Citation

  • Chakraborti, Rajdeep & Dahiya, Sandeep & Ge, Lei & Gete, Pedro, 2024. "A model of managerial compensation, firm leverage and credit stimulus," Journal of Financial Stability, Elsevier, vol. 72(C).
    • Handle: RePEc:eee:finsta:v:72:y:2024:i:c:s1572308924000330
    DOI: 10.1016/j.jfs.2024.101248
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    References listed on IDEAS

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    More about this item

    Keywords

    Compensation; Credit policies; Executive ownership; Leverage;
    All these keywords.

    JEL classification:

    • E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy
    • G28 - Financial Economics - - Financial Institutions and Services - - - Government Policy and Regulation
    • G30 - Financial Economics - - Corporate Finance and Governance - - - General
    • G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill
    • G34 - Financial Economics - - Corporate Finance and Governance - - - Mergers; Acquisitions; Restructuring; Corporate Governance

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