Excessive Perks to Restrain the Hidden Saving Problem

Abstract

We oer an explanation to why perks are over-provided to high prole CEOs. Hidden saving of an agent makes it dicult for a principal to control the agent’s moral hazard problem, e.g. Rogerson (1985). However, an agent typically cannot save perks, for example, a CEO who owns the right to use a private jet for personal use cannot bank the unused airplane hours. Thus, the principal may over-supply the agent perks to avoid the hidden saving problem. When the agent can both exert lower eort and save wage income, i.e., in the presence of double deviation problem, we show that the principal over-supplies perks more than the agent would have purchased on their own under two fairly standard environments: (i) when there are two states of outcome, or (ii) when the probability distribution satises the monotone likelihood ratio property, and the agent’s utility function exhibits constant absolute risk aversion. More generally, we show that excessive perks are a part of the second-best compensation if the optimal wage increases in the outcome, or if the condition of increasing wage is imposed.