Publications:
Limits to Relative Performance Evaluation: Evidence from Bank Executive Turnover
by Irina Barakova and Ajay Palvia
Abstract: To the extent that executives' contribution to firm performance is independent of exogenous factors, theory suggests that managers should be evaluated based on firm performance only after filtering out average peer-firm performance. Past empirical literature, however, provides no conclusive evidence that either compensation or turnover is fully independent of exogenous industry shocks. We argue that top management's actions are not likely to be independent of economic conditions, which implies that relative performance evaluation (RPE) may not be applicable. We test for the presence of RPE in a large sample of community banks and find that exogenous factors do influence bank executive turnover. Furthermore, this sensitivity of turnover to exogenously determined performance is more pronounced for better governed banks. Our findings reject the RPE hypothesis and are consistent with the view that executives, especially in cyclical industries such as banking, are expected to anticipate and prepare for exogenous shocks.
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Any whole or partial reproduction of material in this paper should include the following citation: Irina Barakova and Ajay Palvia, "Limits to Relative Performance Evaluation: Evidence from Bank Executive Turnover," Office of the Comptroller of the Currency, Economics Working Paper 2008-3, October 2008.
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