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A theory of managerial compensation and taxation with endogenous risk

Author

Listed:
  • C. Gizem Korpeoglu

    (University College London)

  • Stephen E. Spear

    (Carnegie Mellon University)

Abstract

We study the impact of endogenous shocks driven by collective actions of managers. We analyze how such endogenous shocks impact social welfare by employing an overlapping-generations model. We first prove that the competitive equilibrium allocation is suboptimal because of the externalities in managers’ wages and in equity market. We establish that a socially optimal allocation can be achieved if the planner imposes wage taxes (or subsidies) on managers and equity taxes. Our results help provide an alternative explanation as to why managers are compensated and taxed differently than other workers. We then extend the model by incorporating unobservable actions for managers and show that a second-best allocation can be implemented if the planner imposes equity taxes.

Suggested Citation

  • C. Gizem Korpeoglu & Stephen E. Spear, 2018. "A theory of managerial compensation and taxation with endogenous risk," Economic Theory Bulletin, Springer;Society for the Advancement of Economic Theory (SAET), vol. 6(1), pages 81-100, April.
    • Handle: RePEc:spr:etbull:v:6:y:2018:i:1:d:10.1007_s40505-017-0125-4
    DOI: 10.1007/s40505-017-0125-4
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    References listed on IDEAS

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    More about this item

    Keywords

    Endogenous uncertainty; Social welfare; Externality; Overlapping generations;
    All these keywords.

    JEL classification:

    • D51 - Microeconomics - - General Equilibrium and Disequilibrium - - - Exchange and Production Economies
    • D61 - Microeconomics - - Welfare Economics - - - Allocative Efficiency; Cost-Benefit Analysis
    • D62 - Microeconomics - - Welfare Economics - - - Externalities

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