Socially responsible investment: Ex-ante contracting or ex-post bargaining?

Abstract

This paper shows how a socially and environmentally aware firm principal can motivate a profit-oriented manager to pursue positive environmental, social, and governance (ESG) outcomes. In the model, the manager produces a verifiable output that creates social costs but also engages in an unverifiable output that promotes ESG. The paper demonstrates that an ex-post bargaining contract is preferred to an ex-ante commitment contract if the unverifiable output substantially improves ESG or if there exist substantial social costs. The paper also examines how social impact bonds can be more effective than short-term debt when used to finance social programs.