Should CEOs in Financial Firms have Risk Incentives?



The evidence in this paper suggests that within financial institutions, managerial risk incentives serve two conflicting interests. From 2007 to 2010, risk incentives lead to non-negative or positive returns in subsequent years, in line with shareholder objectives. However, risk incentives also increase financial institutions' downside risk in subsequent years. This imposes significant externalities upon society. The findings indicate a risk-shifting problem between shareholders and society, rather than the standard manager-shareholder agency problem addressed by recent regulation. More specifically, risk incentives increase downside risk over and above leverage effects, partly by inducing managers to implement more aggressive leverage policy.
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Sebastian Gryglewicz                          Agnieszka Markiewicz
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