Expense Preference Research Articles

Imports and Domestic Wages: Is the Relationship Consistent with Expense Preference Behavior?

The relatively recent emergence of strong import competition has dramatically altered the employment relationship in a wide variety of industries. While previous analysis of imports has frequently been limited to effects on employment levels, it is inappropriate to presume that other job conditions remain unchanged. This study joins a growing number that examine the association between domestic wage levels and the degree of import penetration. As such, it can be considered part of a larger literature examining the influence of product-market structure on wages. Unfortunately, this literature is largely bereft of satisfactory theoretical underpinnings and has not convincingly explained why more monopolistic firms pay higher wages for otherwise equal workers. My agenda is threefold. First, I will present a theory for the association between market structure and wages that integrates two disparate literatures: expense preference behavior and notions of an efficiency wage. Second, I will demonstrate that import penetration (as one element of market structure) behaves roughly as predicted and in tandem with other elements of market structure. Third, I will suggest, and to the extent possible test, other rationales

Management Ownership and Firm Compensation Policy: Evidence from Converting Savings and Loan Associations

We examine the relationship between management ownership and compensation for a sample of savings and loan associations which have recently converted to stock organizations. Previous expense preference literature has indicated that the stock form of organization lessens the potential for non-value-maximizing behavior that may be manifested in the payment of employee compensation. Our results confirm those of Morck, et al, which suggest that support for the convergence of interests hypothesis (management acts in the interests of the owners) and the entrenchment hypotheses (management acts in its own interests) is conditional on the magnitude of management ownership in the firm.

A Test of Executive Behavior in the Local Public Sector

This paper provides an empirical framework to test three competing theories regarding the behavior of public executives in the local public sector. These alternative theo- ries are the public interest, median-voter and expense preference (or surplus-maximizing Leviathan) models. This study tests these various theories by determining whether aggregate property values, the median-value of housing or administra- tive expenditures is a more significant determinant of the salary of a representative school executive in Connecticut. The empirical results lend some support for the expense preference model (Leviathan model) of public executive be- havior.

The effects of mutual to stock conversions of thrift institutions on managerial behavior

Considerable discussion has surrounded the mutual versus the stock form of organizational structure for savings and loan associations (SLAs). Masulis (1987) found that conversion from a mutual to a stock organization yields abnormal returns for stockholders. The effect of conversion on management behavior, however, was not examined. In this study, the impact on management behavior is tested for conversions during the years 1985 and 1986. Using path analysis, we examine the direct effect of conversion on return on equity as well as the indirect effects due to altered management behavior. While a direct relationship between conversion and return on equity is observed, the results also suggest that conversion itself does not equally affect the expense preference behavior and risk-taking propensity of management. To examine the issue of managerial behavior effectively, we test the relationship between the new stock issued to the management of the converting SLA and managerial behavior. Above the levels of ownership identified by a switching regression model, expense preference behavior increases and risk-taking propensity decreases. The results suggest that the benefits of conversion and increased ownership control on managerial behavior have been at least partially offset by the exercising of subscription rights by existing management.

How Managerial Ownership Affects Profit Maximization in Newspaper Firms

Owner managers tend to place less emphasis on profits. A fundamental assumption of neoclassical microeconomic price theory is that managers in firms make decisions designed to maximize profits. This assumption allows economists to predict seller behavior in various market situations.1 A good deal of microeconomic theory would be threatened if this assumption is not true. One commonly explored issue in the economics literature is whether the separation of ownership and managerial control affects the drive for profit maximization. Such a bias of firm or manager behavior would need to be considered in any model that attempts to predict seller behavior in a market. This issue may appear to be esoteric to the study of newspaper economic behavior. In fact, the issue of whether newspapers owned by larger corporations or chains have a greater interest in profits than family or locally-owned newspapers is a fairly common concern. Ownership is more likely to be separated from managerial control in chain or corporate newspapers where the key manager is less likely to have a substantial personal ownership stake. The conventional wisdom in journalistic circles is that chain or corporate newspapers tend to be more concerned with profit maximization. There is some anecdotal and case study evidence to support this view.2 In particular, Soloski's participant observation of a small daily recently acquired by a chain found staff cutbacks, higher story counts and a publisher worried that low profits would cost him his job. This research attempts to go beyond the single instance nature of previous efforts. With a small sample of newspapers this research will explore the issue of whether different levels of a manager's ownership of a newspaper affects the manager's profit maximizing attitudes and behavior. Theoretical Framework Managers have a wide variety of goals they can pursue as the bases for making their decisions. Neoclassical theory relies on profit maximization as the motivator for managers. However, several rival goals have been proposed. Corporate size and its rate of growth have been identified as possible managerial goals.' This would make maximizing assets, sales revenue, or the growth of these factors the targets of managerial decisions.4 A manager's compensation may be more related to these factors than to maximizing profits, particularly if the manager has no ownership interest in the firm. Risk avoidance may be another goal as this affords the manager the opportunity of ignoring tough decisions that might backfire-but that might lead to higher profits as well.5 Williamson has proposed the expense preference This theory states that in management-controlled firms, managers maximize their own utility rather than the firm's profit. This utility was found to be a function of such items as staff size, office furnishings, a high salary and other perquisites.6 Several studies have grappled with the issue of manager ownership in a firm as a possible factor that may systematically alter profit maximizing behavior. Typically, these studies divide firms into two groups: owner-controlled firms where one individual owns a sufficient proportion of equity to effectively control the firm's decisions, and firms where no individual has such ownership control. We might suspect that an ownercontrolled widgets firm may be more concerned with profit maximization than a manager-controlled widgets firm. In such a firm the owner controls managerial decisions and has a greater stake in the profitability of the firm as the key source of personal income. The key manager in a manager-controlled widgets firm might be more concerned with maximizing sales, personal salary, perquisites and avoiding risk, and only incidentally concerned with profits. A brief review of the literature on this topic of the separation of ownership from managerial control shows the majority of empirical evidence supports this theory. …

Testing for Expense Preference Behavior: Mutual versus Stock Savings and Loans

This article investigates expense preference behavior in the savings and loan industry. Previous studies used an intercept test and, in general, concluded that managers of mutual S&Ls exhibit expense preference behavior. I derive the necessary and sufficient conditions on cost functions for the intercept test to be valid. These restrictions are rejected for the savings and loan industry. Stock and mutual S&Ls have different cost structures, and both have non-Cobb-Douglas production technologies. I derive a new, more general test for expense preference behavior that does not require the restrictive assumptions of the intercept test. The results of this test do not support earlier conclusions of managerial expense preferences.

The Federal Reserve as a Bureaucracy: An Examination of Expense-Preference Behavior

In this paper, the Federal Reserve System is viewed as a bureaucracy with a bureau's incentive to increase expenses beyond the profit maximizing point. Moreover, the bureau consists of divisions, the district banks, that exhibit their own expense-prefer ence behavior. An empirical investigation of labor demand by the Boar d and district banks reported in this paper demonstrates that the Fed eral Reserve has engaged in expense-preference behavior and that the centralization of the monetary authority amplified this type of behav ior. Copyright 1988 by Ohio State University Press.

EXPENSE PREFERENCE AND MINORITY BANKING: A NOTE

ABSTRACTPrevious research has concluded that, in comparison to nonminority institutions, minority‐owned banks have lower profitability and higher operating costs. This note examines such findings in the context of the expense preference theory of managerial behavior. Rather than focusing on the effect of regulated product markets, however, this research investigated whether imperfections in the capital markets, introduced through government deposit programs making low‐cost funds available to participating minority banks, were associated with expense preference practices by minority bank managers. The results suggest that managers of minority banks did not practice the traditional forms of expense preference but instead appeared to act in a manner consistent with public policy objectives.

Expense preference behavior in mutual life insurers

The effect of alternative ownership structures, stock versus mutual, on the cost of production is studied for firms in the life insurance industry. The effect of differential incentives on the cost structure of both groups of firms is examined by means of a multiproduct cost function. This research shows that despite differences in legal form and incentives of managers, stock and mutual firms in the life insurance industry are similar in terms of the types of products sold, the average cost of production, and the form of the relationship between cost and production.

Managerial Discretion and Expense Preference Behavior

Considerable debate has raged over the economic assumption that the large corporation, through the decisions of its managers, attempts to maximize its profits. Closely related to the notion of profit maximization is expense behavior of managers which would indicate a preference for expenses over firm profit. This study examines the market structure effects on expense behavior and, for the first time, tests are made using data which unambiguously reflect market structure differences between firms in the sample. The results provide evidence that is contrary to the expense hypothesis. 1E~ CONOMISTS have long been interested in managerial motivation. As Ciscel and Carroll ((1980); Carroll and Ciscel (1982)) recently explain, considerable debate has raged over the economic assumption that the large corporation, through the decisions of its managers, attempts to maximize its profits. Closely related to the notion of profit maximization is expense behavior of managers which would indicate a preference for expenses over firm profits. The tension between profit maximization behavior and expense behavior of managers has been discussed by Larner (1970). One condition which could affect a firm's ability and willingness to engage in expense behavior is the market structure in which it operates. This study examines the market structure effects on expense behavior and, for the first time, tests are made using data which unambiguously reflect market structure differences. The results provide evidence contrary to the expense hypothesis and the findings are quite consistent with the previous research of Ciscel and Carroll (1980), Larner (1970), Rhoades (1980), and Glassman and Rhoades (1980).

Agency costs in banking firms: An analysis of expense preference behavior

Behavioral approaches to the theory of the firm contend that the agency relationship that must develop when a separation exists between management and ownership may have various agency costs. One such cost is the cost of monitoring managers to avoid expense preference behavior on their part. Managers may engage in expense preference behavior any time they manage firms in noncompetitive markets and ownership of the firm is dispersed enough to put control in the hands of management. This research reports on an analysis of the existence and influence of expense preference behavior on the salaries of chief operating officers of banks. Various studies have resulted in conflicting conclusions about the effect of expense preference behavior on various input costs facing banks. Only the study by Hannan and Mavinga (1980) includes an explicit measure of the separation of ownership from control of the firm. However, that study does not analyze executive compensation. Using such a measure, this study reports that the salaries of chief operating officers in banks are significantly higher if both the necessary and sufficient conditions for expense preference behavior are satisfied.

THE CONSEQUENCES OF GROWTH MAXIMISATION AND EXPENSE PREFERENCE POLICIES OF MANAGERS: EVIDENCE FROM UK BUILDING SOCIETIES. A STUDY OF THE CAUSES OF PROFIT INSUFFICIENCY DURING A PERIOD OF INCREASED COMPETITION USING DISCRIMINANT ANALYSIS

It has often been argued that the monopolistic position of building societies and the lack of constraints on policies of their managers has brought inefficiencies and managerial utility maximising results. This may be seen in society growth policies and their expense preference behaviour. When there is increased competition affecting margins some building societies may earn insufficient profits so as to threaten their financial stability. The present study uses multiple discriminant analysis to study the period 1978–1980 and verifies the hypothesis that both growth and expense preferences caused profit insufficiency which could lead to financial distress.

THE STRUCTURE AND PERFORMANCE OF THE UK BUILDING SOCIETY INDUSTRY 1970–78

This article seeks to discuss some of the issues concerning the evolving structure of the Building Society Movement in the UK during the 1970's and to present some statistical evidence for certain hypotheses concerning the performance during this period. It is hypothesized that the successful operation of the price cartel affected its performance in a number of ways; for instance, with regard to its discretionary policies. The article cites branching policies particularly of the medium sized Societies and the regression results presented cast doubt upon the efficacy of such policies, validating in turn the hypotheses of expense preference and X inefficiency. In addition, evidence is offered on the concentration and competition within the Movement which together with the apparent discretionary policies found, provide a justification, in the view of the authors, for future legislative action.

Public Utility Economics

The economic theory underlying pricing and investment problems of public utilities is presented from the point of view of welfare maximization as well as from an applied, institutional design perspective. The book begins with a reexamination of the welfare foundations of public-utility economics, with special emphasis on consumers' surplus as a measure of social welfare. The authors then present a comprehensive analysis of peak-load pricing, including traditional theory, multi-period, multi-plant, interdependent demand, stochastic demand, and dynamic analysis. Recent developments in reliability and time-varying demands are examined. Regulation and public ownership are reviewed, and the theory of regulation is examined in the light of recent developments in agency theory, expense preference, and the traditional Averch-Johnson analysis. The theoretical framework is applied to the electricity supply industry and the problem of energy conservation. Important features of the book include a full exposition of the interactions of technology and pricing policy and a linking of dynamic and static theories of pricing. Numerous exercises, together with solutions and hints to many of the problems, are included. 68 references, 24 figures, 11 tables.

Monopoly and Expense Preference Behavior: An Empirical Investigation of a Behavioralist Hypothesis

One of the most interesting developments in the theory of the firm has been the ad hoc extensions by behavioralists intent on introducing a more complete and realistic utility function for the firm.' Within the behavioralist framework, the notion of expense-preference behavior is of particular interest because, in addition to having implications for theory, it has implications for empirical work that estimates the welfare loss due to monopoly2 and tests the structure-performance relationship. At present, empirical evidence on the notion of expense-preference behavior is dreadfully limited. This is most unfortunate since, as Williamson noted [34, 1034], this is an empirical question and such evidence would have important implications for both theoretical and empirical work. Moreover, the evidence that does exist, [34; 5] and even the theoretical work, seems based on the assumption that expense-preference behavior will be manifested solely through excess salary or staff.3 This seems unlikely, and ironically, unrealistic. This paper expands the scope of expenses through which expense-preference behavior may be manifested and conducts a detailed test of the expense-preference hypothesis. In order to give empirical content to the expanded scope of expenses, it is necessary to focus on the banking industry because a unique set of data on expenses exists for that industry. There is another good reason for conducting a test of the expense-preference hypothesis on the banking industry. In particular, the structure-performance studies in banking generally indicate, like their counterparts in the industrial sector, that market structure has a statistically significant effect on prices and rates of return.4 However, in contrast to findings in the industrial sector, those for banking reveal that the quantitative effect of structure is very small. This suggests the possibility that expense-preference behavior in banking may be important

Expense Preference and Managerial Control: The Case of the Banking Firm

This article presents a test of the expense-preference theoty of the firm as it applies to the banking industry. We use a model which incorporates explicitly the role of control by the firm's owners in determining the level of firm's inputs chosen by managers and yields implications which allow ownership information to be used in a more extensive test of the expense-preference hypothesis than heretofore has been conducted. We test the model by using detailed information on the dispersion of ownership and on other characteristics of a large number of individual bankingfirms. Consistent with the implications of expense-preference behavior, manager-controlled banks operating in noncompetitive markets are found to spend more on items likely to be preferred by managers than do owner-controlled banks in the same situation. This, along with other results, lends support to the expense-preference model over the more traditional one of profit maximization.

On the evaluation of corporate contributions

L-S conclude by stating that their ... tests of three hypotheses reveal a number of interesting relationships: Corporations' philanthropy depends upon their sizes, incomes, and especially their levels of advertising. Moreover, aggregate giving by corporations is affected by the government through tax policy and is related closely to dividends paid to stockholders. Finally, the current data do not disprove Williamson's hypothesis that contributions may be a preferred expense or emolument to the managers (p. 27). In fact, the relationships most frequently investigated in the corporate contributions literature have giving as a function of corporate size usually measured in terms of income, and giving as a function of the corporate tax rate or the cost of giving. Johnson, Schwartz, and Whitehead (1976) in a later study, reported evidence indicating a positive and significant relationship between contributions and various measures of corporate income. There is some question as to whether very small and large firms, when grouped by asset class, give relatively less than other firms. The analysis by L-S adds little to the literature on this issue. The inverse relationship between price and giving is also clearly demonstrated in the existing literature. Differences do exist, however, in price elasticity estimates between Schwartz and Nelson's work. L-S do not attempt to obtain price elasticity measures. The finding that advertising and giving are positively correlated was demonstrated in earlier work by Schwartz and Whitehead. Finally, the third test constructed by L-S does not bear on the expense preference notion as developed by Williamson. Thus, it is our conclusion that the paper by L-S adds little to the existing literature on corporate contributions. It conveys the impression that there exists no other empirical work in this area. This is an important area for further study. We hope our comments provide a more complete picture of the state of the art, and will stimulate further research.

Expense-Preference Behavior in Banking: A Reexamination

In a recent issue of this Journal, Franklin Edwards develops a test designed to distinguish between expense-preference and profitmaximizing behavior and applies it to the banking industry. Using a pooled time series of aggregate SMSA data, he finds that both the number of banking employees and bank wage and salary expenditures are greater in banking markets exhibiting monopoly power, indicating "that an expense-preference model may be a more useful framework for describing and predicting bank behavior than is the traditional profit-maximization model" (Edwards 1977, p. 158). This finding is suggested to have relevance to regulated firms in general. The present paper reports a further empirical test of expensepreference behavior in banking-one based on different and in many respects superior data. Reported estimates are found to be consistent with predictions of the expense-preference hypothesis as derived from Edwards's model and in fact conform reasonably well to estimates reported by Edwards. Two empirical findings, however, bring some of the assumptions underlying Edwards's model into question. The data employed in this study describe 49 different local banking markets and the behavior of 367 individual banks in the state of Pennsylvania during 1970. This data set differs from that used by Edwards in a number of respects. Most important, it allows observation of the behavior of individual banks rather than the SMSA aggre-

Abstract Executive Compensation Models: Some Problems with Traditional Methods of Estimation

The author argues, in this paper, that there are at least three reasons why a simultaneous equation bias may exist and be significant in single equation estimates of executive compensation when one of the independent variables is a measure of firm performance. First, there is simultaneity between the determination of the MRP of the executive input and profit maximizing output in the classical microeconomic sense. Second, where firm performance is used as a measure of executive quality, then a simultaneous bias may develop. Third, the presence of expense preference behavior could result in simultaneous but inverse effects on executive compensation and firm performance.

A Reconsideration of the Expense Preference Theory of the Firm

A Reconsideration of the Expense Preference Theory of the Firm