Nation of Beancounters

Why do we pay the managers of sinking firms huge bonuses?

Posted in Imperfect Information Problem, Incentives Matter, On The Contrary by Navin Kumar on November 20, 2012

Words of wisdom from Megan McArdle:

…once they know that your company is headed for bankruptcy, employees are going to want to leave.  How do you prevent this?  By paying them to stay.

Bah! you are probably saying to yourself.  Let them leave!  They clearly aren’t very good at their jobs anyway!

Perhaps not.  But you can’t prove it simply by pointing to the firm’s problems; bad management is neither a necessary nor a sufficient condition for corporate failure.  Even if it were, it would not therefore be true that all the managers are incompetent.

And who is the most likely to leave you in your time of crisis?  The most competent ones–exactly the people you need if there is to be any hope of turning the crisis around.

…We’re faced with an ugly tradeoff: give managers some room to loot, and also some incentive to save the firm, or restrict executive pay, and see an exodus of the very workers you most need.  I’m not sure what the right tradeoff is.  But I am sure that there’s a tradeoff.

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