Monitoring the efforts versus aligning the incentives of managers with those of their stakeholders

Abstract

I examine the case where a firm bids on a private contract. To win the award, the firm may choose to comply with a demand by the corrupt manager for a share of the value of the project to avoid being excluded from trade. My analysis shows that in countries with weak enforcement of property rights and under the prevalence of corruption, we will arrive at an equilibrium that is sub-optimal in the sense that stakeholders’ welfare is not maximized. My analysis also shows that the optimal way to avoid this sub-optimality is to align managers’ incentives with those of their stakeholders.