ADVERSE SELECTION AND MANAGERIAL INCENTIVES

Abstract

We analyze managerial contracts (i.e. incentive schemes based on a linear combination of profits and sales) under asymmetric information about costs. In the competitive setting with ex ante symmetric information, standard strategic effects appear. Under adverse selection in both, monopolistic and competitive settings, we show that, in order to decrease the manager's expected informational rents, the owner will optimally pay the manager to keep sales low or, on the contrary, keep them high. Moreover, the interactions between the strategic and the informational rent effects have a non-additive nature, implying non-standard results. Unlike the monopolistic framework, we show that, in the competitive framework, the manager may become aggressive under ex ante symmetric information than under adverse selection. Unlike the setting with ex ante symmetric information, we show that, under adverse selection, the manager may become more aggressive in the monopolistic framework than in the competitive one.Managerial incentives, Adverse selection, Quantity competition.