Limited Liability and the Risk-Incentive Relationship

Budde, Jörg and Kräkel, Matthias (March 2008): Limited Liability and the Risk-Incentive Relationship. SFB/TR 15 Discussion Paper No. 232

Abstract

Several empirical findings have challenged the traditional view on the trade-off between risk and incentives. By combining risk aversion and limited liability in a standard principal-agent model the empirical puzzle on the positive relationship between risk and incentives can be explained. Increasing risk leads to a less informative performance signal. Under limited liability, the principal may optimally react by increasing the weight on the signal and, hence, choosing higher-powered incentives.

• Item Type: Paper
• Keywords: moral hazard, limited liability, risk-incentive relationship
• Faculties: Special Research Fields > Discussion Paper Series of SFB/TR 15 Governance and the Efficiency of Economic Systems; Special Research Fields > Discussion Paper Series of SFB/TR 15 Governance and the Efficiency of Economic Systems > B4 - Die Gestaltung von Turnieren im Rahmen der Corporate Governance
• Subjects: 300 Social sciences > 330 Economics
• JEL Classification: D82, D86
• Language: English