Firm-specific human capital, organizational incentives, and agency costs: Evidence from retail banking

Abstract

This paper explores conflicting implications of firm-specific human capital (FSHC) for firm performance. Existing theory predicts aproductivity effectthat can be enhanced with strong incentives. We propose an offsettingagency effect:FSHC may facilitate more-sophisticated ‘gaming’ of incentives, to the detriment of firm performance. Using a unique dataset from a multiunit retail bank, we document both effects and estimate their net impact. Managers with superior FSHC are more productive in selling loans but are also more likely to manipulate loan terms to increase incentive payouts. We find that resulting profits are two percentage pointslowerfor high-FSHC managers. Finally, profit losses increase more rapidly for high-FSHC managers, indicating adverse learning. Our results suggest that FSHC can create agency costs that outweigh its productive benefits. Copyright © 2013 John Wiley & Sons, Ltd.