Final answer:
Managerial risk aversion is influenced by the compensation mix offered by the firm, which can affect workforce stability and manager behavior. The adverse selection of wage cuts argument and efficiency wage theory underline the importance of strategic compensation decisions to motivate and retain employees.
Step-by-step explanation:
Risk aversion by managers should be recognized when revising compensation plans because compensation mix (salary, bonus) can influence a manager's risk aversion. The adverse selection of wage cuts argument supports this by showing the negative effects of wage cuts on retaining top talent, leading to a potential increase in employees with fewer employment alternatives. Moreover, the efficiency wage theory suggests that worker productivity is tied to pay, and thus paying employees more can lead to higher motivation and reduced turnover.
Firms need to consider that while some reduction in pay might be accepted by employees during tough times, significant or across-the-board wage cuts may lead to the departure of the most qualified workers and an increase in voluntary turnover. Instead, a more tailored approach such as layoffs or offering a diverse mix of compensation can be more effective in managing how risk aversion impacts managerial behavior and overall workforce stability.