Assume the compensation of a manager is given by the equation W = S + b, where i

Question

Assume the compensation of a manager is given by the equation W = S + b, where is the profit of the business. Then, an increase in the bonus rate (b) and a decrease in the base salary (S) will create

Stronger incentives and more risk for the manager

Weaker incentives and more risk for the manager

Stronger incentives and less risk for the manager

Weaker incentives and less risk for the manager

PLEASE SHOW WORK OR GIVE AN EXPLANATION TO YOUR ANSWER

Stronger incentives and more risk for the manager

Weaker incentives and more risk for the manager

Stronger incentives and less risk for the manager

Weaker incentives and less risk for the manager

Explanation / Answer

Stronger incentives and more risk for the manager

Once the basic salary of the manager is reduced he will get lesser fixed pay and most of his income will now depend on the profit level of the company. This will increase the incentives in case the company earns profits but is also risky as the basic salary has reduced which means that in case of no profits he will not get any bonus or incentives and also now his basic income has gone down. In this case manager will always try to achieve maximum profitability for the business so that he earns bonuses.

Stronger incentives and more risk for the manager

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