TY - JOUR
T1 - The effects of insider trading on insiders effort in good and bad times
AU - Bebchuk, Lucian Arye
AU - Fershtman, Chaim
N1 - Funding Information:
Correspondence to: C&aim Fershimaii, M EDS Northwestern University, Evanston, IL 40208, USA. *We would like to thank Howard Chang arraa Chiistine and three anonymous referees for helpful corn Bshuk’s work has been provided by t M. Olin Foundation; partial financial support by funds granted to the Foerdei snstiwre for E
PY - 1993/11
Y1 - 1993/11
N2 - We analyze the effects of insider trading on insiders' effort decisions and on the value of firms. We consider a situation in which the final output of a firm and the productivity of managerial effort will depend on whether the firm is in a good or a bad state. When the state is not verifiable, the managerial contract cannot be made explicitly contingent on it: consequently, a contract that does not allow for insider trading would lead to the insiders' facing the same incentive scheme in good and bad times. Under a contract that allows for insider trading, however, insiders will buy shares on receiving (ahead of the market) good news and will sell shares on receiving bad news; consequently, they will end up facing different incentive scheme in good and bad times. Whether this effect is desirable depends on how the marginal productivity of managerial effort in good times compares with that in bad times. In particular, we show that allowing insider trading may improve managers' effort decisions and consequently may increase corporate value and benefit shareholders.
AB - We analyze the effects of insider trading on insiders' effort decisions and on the value of firms. We consider a situation in which the final output of a firm and the productivity of managerial effort will depend on whether the firm is in a good or a bad state. When the state is not verifiable, the managerial contract cannot be made explicitly contingent on it: consequently, a contract that does not allow for insider trading would lead to the insiders' facing the same incentive scheme in good and bad times. Under a contract that allows for insider trading, however, insiders will buy shares on receiving (ahead of the market) good news and will sell shares on receiving bad news; consequently, they will end up facing different incentive scheme in good and bad times. Whether this effect is desirable depends on how the marginal productivity of managerial effort in good times compares with that in bad times. In particular, we show that allowing insider trading may improve managers' effort decisions and consequently may increase corporate value and benefit shareholders.
UR - http://www.scopus.com/inward/record.url?scp=33745122864&partnerID=8YFLogxK
U2 - 10.1016/0176-2680(93)90034-R
DO - 10.1016/0176-2680(93)90034-R
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AN - SCOPUS:33745122864
SN - 0176-2680
VL - 9
SP - 469
EP - 481
JO - European Journal of Political Economy
JF - European Journal of Political Economy
IS - 4
ER -