Centralization versus Delegation in anExperimental Capital Budgeting Setting

In an experiment, we model two stylized facts about capital budgeting practice, budgetary slack creation and delegationof decision-making authority. In our setting, under centralization, headquarters announces a budget, the divisionmanager gives a cost report, and headquarters decides on the project. Under delegation, headquarters allocates abudget to the manager, and the manager is authorized to make the investment decision. We argue that the ability ofheadquarters to commit to a budget moderates the effect of delegation, and we find evidence in favor of our argumentas there is an interaction effect of delegation and commitment to budgets. The effects of delegation are particularlystrong when budgets are non-binding as delegation serves as a substitute for commitment in this case. This leads tosmaller expenditures and to a higher headquarters’ payoff under delegation than under centralization. In contrast,when headquarters can commit to the budget, the descriptive data are consistent with our conjectures about the effectsof honesty preferences, but the effects are too small to be significant.