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Compliance and Incentive Contracts

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Competition Law Compliance Programmes

Abstract

In the discussion of competition law compliance programmes it is important to address the internal delegation problems within the firm. Hard core cartels are typically triggered by economic developments having a strong impact on industry profits, and are formed on a higher level of the firm’s hierarchy. One way to control managerial behaviour is by designing incentive contracts. This chapter argues that compliance measures such as training programmes or internal monitoring should be complemented by an appropriate design of incentive pay. Insights from the economic literature on agency problems and cartels show that particularly profit thresholds that must be met to receive a bonus and bonus caps have a crucial impact on managerial incentives to engage in collusive activity. Properly designed incentive contracts complement other compliance measures and improve deterrence.

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Notes

  1. 1.

    See http://goo.gl/IZshkg.

  2. 2.

    This definition is taken from the European Commission (DG Comp), see http://goo.gl/8l1lqT (last visit: October 13, 2015).

  3. 3.

    For an extensive review of fines and other components of the European Commission’s decisions, see Carree et al. (2010).

  4. 4.

    In a recent bribery case, Siemens sued a former member of its board for not having stopped and reported internally detected misconduct (see http://goo.gl/zemslQ).

  5. 5.

    See e.g. d’Aspremont et al. (1983) and Prokop (1999).

  6. 6.

    Theoretical findings in the theory of collusion with respect to demand fluctuations are manifold. Some relevant papers are Green and Porter (1984), Rotemberg and Saloner (1986), Haltiwanger and Harrington (1991), Staiger and Wolak (1992), Fabra (2006) and Paha (2013).

  7. 7.

    See: http://ec.europa.eu/competition/antitrust/cases/dec_docs/37152/37152_72_1.pdf.

  8. 8.

    There is also earlier work analysing the internal operation of a firm and contracts, e.g. Berhold (1971) and the book of Barnard, originally published in 1938 as well as the work of Herbert Simon in the 1950s.

  9. 9.

    For instance, Bagwell and Staiger (1997) analyse cartel stability over the business cycle from a firm’s perspective. Future research could examine how their analysis translates into a principal-agent relationship.

  10. 10.

    Some important papers are Arrow (1970), Pauly (1974), Harris and Raviv (1979), Shavell (1979), Holmström (1979), Grossman and Hart (1983) and Innes (1990).

  11. 11.

    The selected articles do not provide a complete overview of the problem. I refer to these papers due to their relevance for our topic.

  12. 12.

    One example of a firm that employs a comparable remuneration scheme is ThyssenKrupp, see https://www.thyssenkrupp.com/en/investor/verguetungsbericht.html.

  13. 13.

    In a Nash Equilibrium, no player (here: firm) has an incentive to unilaterally choose a different strategy given the other firms play their equilibrium strategies.

  14. 14.

    The term ‘efficient’ in this case covers allocative efficiency. In a cartel, both firms realise profits K. Higher profits are only possible if one firm deviates: however, the other firm is worse off in this case. The profits of one firm cannot be increased without decreasing the profits of another firm.

  15. 15.

    To be more precise, the authors (ibid.) show that collusion is a subgame perfect Nash Equilibrium. Subgame perfection is a refinement of the original Nash Equilibrium concept. If the latter is subgame perfect, it does not contain any non-credible threats. In most games it is important to determine an optimal reaction for every player to any choice of the other players (best response). Subgame perfection requires every possible action to be a best response, even those who are not played (threats).

  16. 16.

    It also has to hold that B < K − C because otherwise the principal would not have an incentive to offer the contract.

  17. 17.

    This is a slight modification of the original model which also incorporates a stochastic influence of effort on profits. I abstract from the stochastics arising from the state of nature θ outlined above in order to focus on the intuition. Note that the results in the original paper are less straightforward.

  18. 18.

    In the paper, the agent can exert effort. When an attempt to collude failed, it is shown that profits are generally lower than if there was no collusion at all.

  19. 19.

    For instance, in the LIBOR case bonuses of former bankers were cut or not paid at all. In one case, this process is the subject of lawsuits (see Bloomberg, http://goo.gl/qN43z1). One bank actually plans to use the bonus pool to pay the fines imposed by the authorities (see Financial Times, http://goo.gl/5A6I0z).

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Authors and Affiliations

  1. Department of Economics, Justus Liebig University Giessen, VWL I - Industrial Organization, Regulation and Antitrust, Giessen, Germany

    Daniel Herold

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Correspondence to Daniel Herold .

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Editors and Affiliations

  1. Department of Economics and Business, Justus-Liebig-University, Gießen, Germany

    Johannes Paha

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Herold, D. (2016). Compliance and Incentive Contracts. In: Paha, J. (eds) Competition Law Compliance Programmes. Springer, Cham. https://doi.org/10.1007/978-3-319-44633-2_5

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  • DOI: https://doi.org/10.1007/978-3-319-44633-2_5

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