Has Moral Hazard Become a More Important Factor in Managerial Compensation?

We estimate a principal–agent model of moral hazard with longitudinal data on …rms and managerial compensation over two disjoint periods spanning 60 years to investigate increased value and variability in managerial compensation. We …nd exogenous growth in …rm size largely explains these secular trends in compensation. In our framework, exogenous …rm size works through two channels: Con‡icts of interest between shareholders and managers are magni…ed in large …rms, so optimal compensation plans are now more closely linked to insider wealth. Also, the market for managers has become more di¤erentiated, increasing the premium paid to managers of large versus small …rms. (JEL M53, L1, J3). * Tepper School of Business, Carnegie Mellon University, 5000 Forbes Ave, Pittsburgh, PA 15213, [email protected] ; Tepper School of Business, Carnegie Mellon University, 5000 Forbes Ave, Pittsburgh, PA 15213, [email protected]. We would like to thank Martin Burda for his excellent research assistance and Vesna Prasnikar for her comments. We also like to thank seminar participants at SOLE 2006, Econometric Society summer meetings 2006, Carnegie Mellon University, Cornell University, Duke University, University of Essex, Georgia State University, London School of Economics, University of Maryland, New York University, University of Pennsylvania, and Princeton University.