We survey recent theoretical research on the eﬀects of short-term share-price based marginal incentive schemes. Such schemes can induce ineﬀicient managerial behaviour in both hidden action and hidden type contexts. These problems arise from informational asymmetries: managers take actions to manipulate the information flow rather than to maximize ﬁrm value. More generally, imperfect transmission of information between managers and shareholders or between managers of diﬀerent ﬁrms can lead to similar distortions even when the parties’ interests are aligned.
Published in Journal of Economic Surveys (March 1996), 10(1): 1-21 [DOI]