Skip to main content
About HEC About HEC Faculty & Research Faculty & Research Master’s programs Master’s programs MBA Programs MBA Programs PhD Program PhD Program Executive Education Executive Education Summer School Summer School HEC Online HEC Online About HEC Overview Overview Who We Are Who We Are Egalité des chances Egalité des chances Career Center Career Center International International Campus Life Campus Life Stories Stories The HEC Foundation The HEC Foundation Coronavirus Coronavirus Faculty & Research Overview Overview Faculty Directory Faculty Directory Departments Departments Centers Centers Chairs Chairs Knowledge Knowledge Master’s programs Master in
Management Master in
MSc International
Finance MSc International
Masters Specialized
programs X-HEC
programs Dual-Degree
students Visiting
Certificates Certificates Student
Life Student
Stories Student
MBA Programs MBA MBA Executive MBA Executive MBA TRIUM EMBA TRIUM EMBA PhD Program Overview Overview HEC Difference HEC Difference Program details Program details Research areas Research areas HEC Community HEC Community Placement Placement Job Market Job Market Admissions Admissions Financing Financing Executive Education Executive Masters Executive Masters Executive Certificates Executive Certificates Executive short programs Executive short programs Online Online Train your teams Train your teams Executive MBA Executive MBA Summer School Summer programs Summer programs Youth Leadership Initiative Youth Leadership Initiative Admissions Admissions FAQ FAQ HEC Online Overview Overview Degree Program Degree Program Executive certificates Executive certificates MOOCs MOOCs


Optimal Firm Management and Welfare Maximizing Policies


In early 2020, the European Research Council (ERC) granted €450 million for Europe’s long-term research, because “Europe’s future depends on science and research", reminded Mariya Gabriel, European Commissioner for Innovation, Research, Culture, Education and Youth. Among 185 winning researchers, with expertise ranging across all fields, HEC Paris Professor Bruno Biais was awarded for his research project in finance, entitled "Welfare, Incentives, Dynamics, and Equilibrium". He explains it in this interview.

market equilibrium graph on a world map - aa amie on adobe stock

©aa amie on Adobe stock

Can you explain the intellectual origins of your research project?

Since The Wealth of Nations (Adam Smith, 1776) and the Éléments d'économie politique pure (Léon Walras, 1874), economics endeavored to study whether market forces can deliver socially efficient outcomes. Is market equilibrium a Pareto optimum, i.e., a situation in which the allocation of resource is optimal, in the sense that no other allocation would make everybody better off? This line of research culminated in the 1950s with the works of Ken Arrow and Gérard Debreu. Under the assumptions that markets are complete and information symmetric, they proved the two fundamental theorems of welfare: 1) any market equilibrium is a Pareto optimum, and 2) any Pareto optimum can be reached as an equilibrium, after appropriate redistribution of resources via lump sum taxes and subsidies.

Prior, we showed how financial structure and managerial compensation can be designed to align managers and investors’ incentives, and thus increase firm performance.

When these assumptions don’t hold, in particular because of information asymmetry, market equilibrium can entail inefficiencies and lead to socially suboptimal outcomes (as was shown by Joseph Stiglitz, 1982). For example, Ken Arrow (1963, 1971) showed that information asymmetry hinders insurance and risk sharing, while George Akerlof (1970) showed that it could generate market breakdowns, in which no gains from trade can be reaped. Then, Bengt Holmstrom and Jean Tirole (1997) showed that moral hazard could generate credit rationing and financial crises. Biais, Mariotti, Plantin and Rochet (2007) extended this analysis to a dynamic context, showing how financial structure and managerial compensation can be designed to align managers and investors’ incentives, and thus increase firm performance.

What are the goals of your research and how do you plan to proceed?

     The goal of my research project (WIDE) is to develop further the equilibrium analysis of financial markets and corporate investment dynamics under incentive constraints, and obtain implications both for firm management and for welfare maximizing policies. 

First, with my coauthors Sylvain Catherine (now Assistant Professor at Wharton, after a Ph.D. at HEC Paris), Augustin Landier (HEC Paris), Jean Charles Rochet (University of Geneva) and Luke Taylor (Wharton), we will empirically study the dynamic link between managers’ compensation, financial structure and corporate performance. We will use data on managers’ jobs and compensation, as well as on firms’ performance, investment and financial structure. To the extent that it is possible, we will try to study data on small and medium size firms, in which the entrepreneur manager plays a central role, and often owns a significant fraction of the equity. In addition to being vital to the economy, these firms are those for which the theory we want to test is most relevant. 

     The goal of this project is to quantify the importance of moral hazard, to test whether it curbs investment and amplifies bankruptcy risk, and to study how financial structures and incentives can be optimized. 

Second, with my coauthors (Johan Hombert (HEC Paris) and Pierre Olivier Weill (UCLA), we will theoretically analyze dynamic equilibrium in financial markets subject to incentive constraints. One of the major functions of financial markets is to enable investors and institutions to share risk, in particular via derivative markets. If sufficiently rich, these trading opportunities could make markets complete, as in the seminal analysis of Arrow and Debreu. Incentive constraints, however, can prevent trades and thus make markets endogenously incomplete. The intuition is the following: Should investors or financial institutions promise too much insurance in certain states, they would end up in financial distress in those states, which would distort their incentives, and eventually generate counterparty risk. 

The goal of this project is to study whether an optimal, incentive compatible, taxation mechanism involves financial transaction taxes. In particular, we will examine whether levying financial transactions taxes can enable the government to reduce taxes on capital and labor income, and thus increase investment and economic efficiency. 

     The goal of this project is to derive the implications of incentive constraints on the equilibrium pricing of assets, and to study how regulations and optimal contracting can better align market participants’ incentives, and thus improve their ability to share risk.

Third, with my coauthor Jean Charles Rochet (University of Geneva), we will study whether it is socially optimal to tax transactions. Keynes (1936), Tobin (1978) and Stiglitz (1989) have called for financial transactions taxes, arguing they would curb excessive speculation and volatility. We will take a completely different route. In our model, financial markets will be efficient, but information asymmetry between taxpayers and governments will make taxes distortive, as in the seminal analysis of James Mirrlees (1971). While Mirrlees and the following literature focused on private information about individual productivity, in line with the empirical observation that private businesses are hard to evaluate and to tax, we will assume agents have private information on their wealth. Tax mechanisms must then be designed under the incentive compatibility condition that agents truthfully reveal their wealth. Empirical observation suggests that wealthier agents have larger financial wealth and larger transaction volume, so that taxing financial transactions could be helpful to overcome, at least in part, information asymmetries.

     The goal of this project is to study whether an optimal, incentive compatible, taxation mechanism involves financial transaction taxes. In particular, we will examine whether levying financial transactions taxes can enable the government to reduce taxes on capital and labor income, and thus increase investment and economic efficiency.


Market equilibrium: In equilibrium, agent’s optimal actions and prices are such that supply and demand are equal. 

Welfare economics: A branch of economics that uses microeconomic techniques to evaluate well-being (welfare) at the aggregate (economy-wide) level.

Dynamics: In contrast with static analyses, dynamic analyses examine how agents’ behavior evolve through time, in interaction with changes in their environment.

Economic incentives: The set of cost and rewards which motivate agents, with given preferences, to behave in a certain way.


Related content on Finance

Entrepreneurship and Startups

How Unemployment Insurance Can Foster Business Dynamism

By Johan Hombert

Jean-Michel Gauthier HEC
Jean-Michel Gauthier
Energy & Finance Professor (Education Track)
woman talking at a meeting - Seventyfour-AdobeStock

How Corporate Political Activism Fuels Innovation

By Alexei Ovtchinnikov

black swan on a lake - vignette - Tatiana-AdobeStock

A New Theory in Economics Helps Predict Future Events

By Itzhak Gilboa

Entrepreneurship and Startups
Building Trust between Investors and Entrepreneurs
Helene Loning - HEC Paris
Hélène Löning
Associate Professor and Academic Director