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You Don’t Always Get What You Pay For: Bonuses, Perceived Income and Effort

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  • Schnedler Wendelin

    (University of Heidelberg, Heidelberg, Germany)

Abstract

Consider a principal-agent relationship in which more effort by the agent raises the likelihood of success. This paper provides conditions such that no success bonus induces the agent to exert more effort and the optimal contract is independent of success. Moreover, success bonuses may even reduce effort and thus the probability of success. The reason is that bonuses increase the perceived income of the agent and can hence reduce his willingness to exert effort. This perceived income effect has to be weighed against the incentive effect of the bonus. The tradeoff is determined by the marginal effect of effort on the success probability in relation to this probability itself (success hazard-rate of effort). The paper also discusses practical implications of the finding.

Suggested Citation

  • Schnedler Wendelin, 2011. "You Don’t Always Get What You Pay For: Bonuses, Perceived Income and Effort," German Economic Review, De Gruyter, vol. 12(1), pages 1-10, February.
    • Handle: RePEc:bpj:germec:v:12:y:2011:i:1:p:1-10
    DOI: 10.1111/j.1468-0475.2010.00508.x
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    References listed on IDEAS

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    Cited by:

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    3. Robert Butler & Liam J. A. Lenten & Patrick Massey, 2020. "Bonus incentives and team effort levels: Evidence from the “Field”," Scottish Journal of Political Economy, Scottish Economic Society, vol. 67(5), pages 539-550, November.

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    More about this item

    Keywords

    Bonus; premium; incentives; income effect; moral hazard;
    All these keywords.

    JEL classification:

    • H00 - Public Economics - - General - - - General
    • H11 - Public Economics - - Structure and Scope of Government - - - Structure and Scope of Government
    • H20 - Public Economics - - Taxation, Subsidies, and Revenue - - - General
    • H30 - Public Economics - - Fiscal Policies and Behavior of Economic Agents - - - General
    • H71 - Public Economics - - State and Local Government; Intergovernmental Relations - - - State and Local Taxation, Subsidies, and Revenue

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