Was Sarbanes-Oxley Costly? Evidence from Optimal Contracting on CEO Compensation

This paper investigates the effects of regulatory interventions on contracting relationships within firms by examining the impacts of the Sarbanes-Oxley Act (SOX) on CEO compensation. Using panel data of the S&P 1500 firms, it quantifies welfare gains from a dynamic principal-agent model of hidden information and hidden actions. It finds that SOX: (i) did not change CEOs' risk attitude, (ii) improved the shareholders -- CEOs interest alignment by reducing shareholders' loss from CEOs shirking and CEOs' benefits from shirking, and (iii) slightly reduced the administrative costs and mainly increased the agency costs embedded in CEO compensation. Cross-sectionally, it finds favorable impacts of SOX most often in the consumer goods sector, which is the least regulated among the three sectors we study. It finds no systematic patterns of SOX's impact varying with firm size