Board Governance and Managerial Short-term Incentives

Abstract

This paper examines the relationship between board independence degree and managerial short-term incentives in investment decisions using a game-theoretical framework which is based on the model of Narayanan (1985). Because the model here connects corporate governance by a board and investment decisions by a manager, we can see clearly how the board affects the manager's investment decisions using its wage policy for the manager. According to the results here, although corporate governance by the board can alleviate managerial short-term incentives in investment decisions, it can not solve these kinds of biases completely. Therefore, to accomplish our final target of eliminating managerial short-term incentives in investment decisions, the only way we can do is to make the information between board and manager completely symmetric. In the comparative statics analysis here, we also know that board independence degree may also change as firms' characteristics change when manager has a certain short-term incentive. Therefore, sometimes a board with lower independence degree would also be appropriate. Key words: Board of directors; corporate governance; Investment decisions