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Biased Monitors : Corporate Governance When Managerial Ability is Mis-assessed

Author: Benjamin Hermalin; National Bureau of Economic Research.
Publisher: Cambridge, Mass. National Bureau of Economic Research 2017.
Series: Working paper series (National Bureau of Economic Research), no. w23776.
Edition/Format:   eBook : Document : EnglishView all editions and formats
Summary:
An important aspect of corporate governance is the assessment of managers. When managers vary in ability, determining who is good and who is not is vital. Moreover, knowing they will be assessed can lead those being assessed to behave in ways that make them appear better. Such signal-jamming behavior can be beneficial (e.g., an executive works harder on behalf of shareholders) or harmful (e.g., the behavior is  Read more...
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Details

Material Type: Document, Internet resource
Document Type: Internet Resource, Computer File
All Authors / Contributors: Benjamin Hermalin; National Bureau of Economic Research.
OCLC Number: 1008876103
Notes: September 2017.
Description: 1 online resource
Series Title: Working paper series (National Bureau of Economic Research), no. w23776.
Responsibility: Benjamin Hermalin.

Abstract:

An important aspect of corporate governance is the assessment of managers. When managers vary in ability, determining who is good and who is not is vital. Moreover, knowing they will be assessed can lead those being assessed to behave in ways that make them appear better. Such signal-jamming behavior can be beneficial (e.g., an executive works harder on behalf of shareholders) or harmful (e.g., the behavior is myopic, boosting short-term performance at the expense of long-term success). In standard models of assessment, it is assumed those doing the assessing behave according to Bayes Theorem. But what if the assessors suffer from one of many well-documented cognitive biases that makes them less-than-perfect Bayesians? This paper begins an exploration of that issue by considering the consequence of one such bias, the base-rate fallacy, for two of the canonical assessment models: career-concerns and optimal monitoring and replacement. Although firms can suffer due to the base-rate fallacy, they can also benefit from this bias.

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