We are grateful to Onur Özgür and Paolo Siconolfi for numerous discussions. We also thank two anonymous referees, Patrick Bolton, Piero Gottardi, Michael Riordan, Tano Santos, and the participants in the Finance Lunch Seminar at Columbia Business School for valuable comments. Please address correspondence to: Boğaçhan Çelen, Graduate School of Business, Columbia University, 3022 Broadway, 602 Uris Hall, New York, NY 10027. Phone: 212-854 7209. E-mail: firstname.lastname@example.org.
ACQUISITION OF INFORMATION TO DIVERSIFY CONTRACTUAL RISK*
Article first published online: 22 FEB 2012
© (2012) by the Economics Department of the University of Pennsylvania and the Osaka University Institute of Social and Economic Research Association
International Economic Review
Volume 53, Issue 1, pages 133–156, February 2012
How to Cite
Çelen, B. and Özertürk, S. (2012), ACQUISITION OF INFORMATION TO DIVERSIFY CONTRACTUAL RISK. International Economic Review, 53: 133–156. doi: 10.1111/j.1468-2354.2011.00674.x
Manuscript received February 2008; revised March 2009.
- Issue published online: 22 FEB 2012
- Article first published online: 22 FEB 2012
Are hedging transactions that diversify a manager’s compensation risk detrimental to incentives, or can they improve contracting efficiency? If hedging provides efficiency benefits, should the manager or the firm undertake it? In our model, both the firm and the manager can trade financial portfolios to diversify the manager’s compensation risk. Prior to the portfolio selection, the parties need to acquire information on how different financial portfolios fit their diversification purposes. We illustrate that financial portfolios correlated with firm-specific risk improve contracting efficiency. For equal information costs, it is optimal for the firm to undertake the hedging on the manager’s behalf.