Income Smoothing as Rational Equilibrium Behavior? A Second Look
The Accounting Review · 2020 · Volume 95 · Issue 5
Abstract
In this paper I revisit the issue of real income smoothing in the setting used byLambert (1984). I demonstrate that the particular effect identified in his paper is actually an error: under his assumptions, there is no input-driven equilibrium income smoothing of the type he suggests. There are, however, several other drivers of equilibrium behavior ignored in that paper. In this paper, I identify those and, for the particular model structure, show that when all effects are considered together, there is little support for the suggestion that second-best earnings generally are being smoothed through the equilibrium behavior.
Keywords
agency theory, multi-period contracts, income smoothing
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