Product Market Competition and Executive Compensation: An Empirical Investigation

Funk, Patricia; Wanzenried, Gabrielle (June 2003). Product Market Competition and Executive Compensation: An Empirical Investigation (Diskussionsschriften 03-09). Bern: Universität Bern Volkswirtschaftliches Institut

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There is an ongoing theoretical debate about whether firm-owners would optimally use stronger or weaker incentive schemes for their managers as product market competition increases. Schmidt (1997) shows that the outside options of the managers play a crucial role: if the market for managers is soft, an increase in competition is more likely to result in stronger incentive schemes than if the market for managers is tough. In this paper, we for the first time analyze the effect of product market competition on the level and structure of executive compensation. With panel-data for firms in the the U.S. manufacturing industries (NAICS 32-33), we investigate (a) how an increase in product market competition affects the use of incentive contracts and (b) whether this relationship depends on the outside options of the managers as predicted by theory.

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