Performance standards and optimal incentives

Reward for failure and executive compensation in institutional investors

“…16 As in this mixed bonus scheme w bf 1 ¼ w bf 2 ¼ w, the term Dw bf ¼ w bf 3 À w also represents only a reward for success. 17 The remarkable performance of this bonus plus fixed compensation scheme in our model is consistent with the results of Gutiérrez and Salas-Fumás (2008). In fact, this work characterizes the second-best incentive scheme when uncertain output is governed by a random process with fat tails, showing that this scheme resembles a performance-standard contract that pays a fixed salary plus a capped bonus.…”

Agency Contracts under Maximum-Entropy

“…Besides, Proposition 5(b) suggests that (theoretical) second-best optimal contracts can also be concave. A pattern first convex and then concave, which resembles incentives based on performance standards, is also compatible with the MEP, for example, if the MED is the Laplace distribution (the corresponding contract can be seen as a particular case of the second-best schemes based on performance standards obtained in [43]). In sum, the MEP approach can accommodate empirical regularities observed in actual contracts.…”

Shaping Incentives through Measurement and Contracts

“…and Wang 2016) and are now part of most top executives' compensation packages (Edmans, Gabaix, and Jenter 2017, p. 419). Arnaiz and Salas-Fumás (2008) and Hemmer (2012) show that these shapes arise when the production function has bounded likelihood ratios, and Arya, Glover, and Mittendorf (2007) show that bonus caps can improve upon linear wages in certain organizational hierarchies. Hébert (2018), Mattsson and Weibull (2023),…”