Tirole
What is happening to earnings of highly-skilled workers vs earnings of low-skilled workers
Earnings have rapidly grown and remained stagnant, respectively
How do investors react to a company's high pay ratio (high levels of income inequality within the firm)?
Most investors are in favor of decreasing inequality according to Pan, so the company will lose these investors. The firm's equity prices will decrease and the cost of capital will increase.
What does ESG stand for?
Environmental, Social, and Governance factors
What is Bertrand's research question?
Who sets CEO pay?
Why is understanding equity markets' reaction to income inequality important?
- Equity markets allocate capital and control valuation, which shape corporate policies
- More allocation of capital into socially responsible investments
What 3 restrictions does Carney suggest for performance-based metrics?
1.) Be based on financial and non-financial metrics
2.) Tailored to company’s specific risks
3.) Clawback clauses that allow firms to take back compensation if executives do not meet up to expectations
Name and explain the two views on CEO pay
1.) Contracting view --> Shareholders set CEO pay
2.) Skimming view --> CEO sets their own pay by manipulating the pay process
Explain Tirole's housing price ceiling example and how it can backfire
Price ceilings on rent illustrate how egalitarian policies meant to help disadvantaged people backfire on them. Landlords will have no incentive to maintain the housing and there will be a shortage of housing on the market.
What are the three potential reasons for inequality aversion?
- self-centered (wanting to increase your own income)
- reflects future concern about income inequality's impact on society and economic growth
- goes against personal views of resource allocation and distribution of wealth
Prioritizing equity and debt packages that extend the executive's interest in company over long period of time
BONUS (2x points): the "slang" for the variable name
The presence of large shareholders
BONUS: Blockholders
Name all the limitations of incentives Tirole lists
Can easily distort the purpose of a task (teacher example), needs to be accompanied with supervision and maintenance, difficult to implement when agent's role in a team can't be measured or it's unclear, dangerous in hierarchy
Pan tries to correlate two preferences/characteristics of investors with their reaction to income inequality. Name and explain them
1.) Location-based preference --> location firm and its shareholders are based in affect investors' views on income inequality (political leanings, care for social issues)
2.) Holdings preferences --> measures investors' social preferences based on their portfolio stock holdings
What example company did Carney use to illustrate poorly implemented non-financial metrics?
BONUS (2x points): Describe what the company did
Carney cites Alcoa, an aluminum producer.
BONUS: Alcoa exploited the ESG metric system by "compensating" for their failed environmental targets with over 100% in certain categories in the "free cash flow" category. They presented to the public as sustainable when they manipulated data.
What are the two tests that Bertrand references from an older research article of Bertrand & Mullainathan?
BONUS (2x): Explain the outcomes of each.
1.) Are CEOs rewarded for luck?
Outcome: CEO pay is as sensitive to luck as normal money. However, CEO pay is less responsive to luck in well-governed firms and more responsive to luck in poorly-governed firms.
2.) Are stock option grants gifts?
Outcome: Poorly-governed firms charge less for the options grants, which contradicts the contracting model (other components of CEO pay must be adjusted down).
Name and explain the three factors that move people to participate in pro-social behavior.
BONUS (2x points): explain Titmuss's view on how these factors can conflict with each other
1.) Intrinsic motivation
2.) Extrinsic motivation
3.) Attention they get by creating favorable image of themselves
BONUS: Someone contributes more to a good cause when they know other people are watching (affirms factor 3). But when you introduce financial incentives, this may crowd out the person's intrinsic motivations because they're scared to be perceived as superficial and greedy.
What is CAPM (explain how it's related to Pan's study) and CARs?
Capital Asset Pricing Model (CAPM) --> calculates expected ROI, Pan uses CAPM as a control amount to compare with abnormal returns on investment
Cumulative Abnormal Returns (CARs) --> sum of abnormal returns over period of time
How does ESG factor into CST's definition of the common good?
ESG ties firm value and compensation to environmental, social, and governance factors in addition to traditional financial metrics. Managers are incentivized to contribute to the greater good of society without sacrificing their pay.
What surprising conclusion did Bertrand arrive at, and when did they first present it?