EXECUTIVE-COMPENSATION AND PRINCIPAL-AGENT THEORY

The empirical literature on executive compensation generally fails to specify a model of executive pay on which to base and test hypotheses regarding its determinants. In contrast, this paper analyzes a simple principal-agent model to determine how well it explains variations in CEO incentive pay and salaries. Many findings are consistent with the basic intuition of principal-agent models that compensation is structu red to trade off incentives with insurance. However, statistical signi ficance for some of the effects is weak, although the magnitudes are l arge. Also, there is little evidence of the use of relative performanc e pay. Nevertheless, while puzzles remain, it seems clear that princip al-agent considerations play a role in setting executive compensation.