Abstract Executive Compensation Models: Some Problems with Traditional Methods of Estimation

Abstract

The author argues, in this paper, that there are at least three reasons why a simultaneous equation bias may exist and be significant in single equation estimates of executive compensation when one of the independent variables is a measure of firm performance. First, there is simultaneity between the determination of the MRP of the executive input and profit maximizing output in the classical microeconomic sense. Second, where firm performance is used as a measure of executive quality, then a simultaneous bias may develop. Third, the presence of expense preference behavior could result in simultaneous but inverse effects on executive compensation and firm performance.