You Don't Always Get What You Pay For
AbstractConsider a principal-agent relationship in which more effort by the agent raises the likelihood of success. Does rewarding success, i.e., paying a bonus, increase effort in this case? I find that bonuses have not only an incentive but also an income effect. Overall, bonuses paid for success may well reduce effort and hence the probability of success. I also identify conditions under which the income effect dominates the incentive effect, and single out the hazard-rate of effort as a crucial determinant of this trade-off.
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Bibliographic InfoPaper provided by University of Heidelberg, Department of Economics in its series Working Papers with number 0452.
Length: 7 pages
Date of creation: Sep 2007
Date of revision: Sep 2007
bonus; premium; incentives; income effect; moral hazard;
Other versions of this item:
- D8 - Microeconomics - - Information, Knowledge, and Uncertainty
- J3 - Labor and Demographic Economics - - Wages, Compensation, and Labor Costs
- M5 - Business Administration and Business Economics; Marketing; Accounting - - Personnel Economics
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