Stock-Related Compensation and Product-Market Competition

Download or read book Stock-Related Compensation and Product-Market Competition written by Giancarlo Spagnolo and published by . This book was released on 2003 with total page 33 pages. Available in PDF, EPUB and Kindle. Book excerpt: This paper shows that as long as agents in financial markets have rational expectations and firms pay out dividends, most common stock-based managerial compensation plans greatly facilitate tacit collusion in long-run (repeated) oligopolies. They may make the joint monopoly agreement supportable at any level of the discount factor. Stock-based incentives link managers' present compensation to the stock market's expectations about firms' future profitability. When a breach of a tacit collusive agreement occurs, a stock market with rational expectations anticipates the negative effect of the breach on firms' future profitability due to the forthcoming market war, and immediately discounts it on the stock price. Because this effect occurs in the same period in which a manager deviates, incentives linked to stock price directly reduce managers' gains from breaking any collusive agreement. When stock-based incentives are deferred, the pro-collusive effect is reinforced since the already limited beneficial effect on the stock price of short-run profits from a unilateral breach of a collusive agreement may be completely gone at the time when the manager receives the bonus.