What Do Corporate Directors Maximize? (Not Quite What Everybody Thinks)

Research output: Contribution to journalArticlepeer-review


The agency problem at the core of corporate law stems from a chronic potential conflict of interest between directors' self-interest and that of shareholders. Corporate law views directors' self-interest in terms of diverting welfare to directors at the expense of shareholders. Another component of directors' self-interest--being perceived as maximizing shareholders' welfare--is seen not as part of the agency problem, but as part of the solution (aligning directors' incentives with shareholders'). This is true only if taking actions that maximize shareholders' welfare is also the optimal manner for a director to be perceived as maximizing welfare. However, directors have more appealing ways to be positively perceived. In conducting bias arbitrage, directors identify risks that shareholders over-estimate, take action to address the risk, and then take credit for the 'lowered' risk (i.e., shareholders' corrected assessment of the risk). Bias arbitrage is more attractive as shareholders' misperception of a risk increases. The opportunity to bias arbitrage thus leads directors to address highly misperceived risks instead of highly remediable risks.
Original languageEnglish (US)
Pages (from-to)47-53
Number of pages7
JournalJournal of Institutional Economics
Issue number1
StatePublished - Mar 1 2010


  • Asymmetric and Private Information
  • Mergers
  • Business and Securities Law
  • Mechanism Design
  • Corporate Governance
  • Proxy Contests
  • Voting
  • Restructuring
  • Acquisitions
  • agency problem
  • corporate governance
  • Conflict of interest
  • business judgment rule
  • bias arbitrage


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