A risk-averse manager is hired to run a firm for shareholders. If shareholders cannot observe the manager's effort, which would be the best employment contract?
a. a high-powered incentive contract to elicit maximum effort.
b. a fixed salary.
c. a moderately powered incentive scheme that elicits some effort without exposing the manager to too much risk.
d. an incentive scheme that provides maximum incentives and maximum insurance.
Question 2
A risk-averse manager is hired to run a firm for shareholders. If the manager's effort can be observed and specified in a contract, which would be the best employment contract?
a. a high-powered incentive contract to elicit the most effort.
b. a fixed salary paid as long as the required effort is undertaken.
c. a proportion of profits paid as long as the required effort is undertaken.
d. a wage well in excess of his or her outside opportunity.
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