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Myopic Agency

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  • John Y Zhu

Abstract

I consider a dynamic principal-agent setting in which the agent repeatedly chooses between hidden long-term and short-term actions. Relative to the long-term action, the short-term action boosts output today but hurts output tomorrow. I explicitly characterize the optimal contract that always induces the long-term action. It features a cliff-like arrangement that rewards high output today based on the streak of consecutive high outputs the agent has generated leading up to today: The longer the streak, the larger the reward. The optimal contract can be implemented as a bonus bank. Bonus banks feature prominently in the recent debate on bonus reform. I shed light on the opposing arguments driving this debate by formally comparing the myopic agency optimal contract and optimal contracts that arise from traditional effort-shirking agency models.

Suggested Citation

  • John Y Zhu, 2018. "Myopic Agency," The Review of Economic Studies, Review of Economic Studies Ltd, vol. 85(2), pages 1352-1388.
    • Handle: RePEc:oup:restud:v:85:y:2018:i:2:p:1352-1388.
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    File URL: http://hdl.handle.net/10.1093/restud/rdx034
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    Cited by:

    1. Alex Edmans & Xavier Gabaix, 2016. "Executive Compensation: A Modern Primer," Journal of Economic Literature, American Economic Association, vol. 54(4), pages 1232-1287, December.

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