The Impact of Risk Aversion and Stress on the Incentive Effect of Performance Pay
AbstractWe demonstrate that effectiveness of performance-contingent incentives is inversely related to individual risk-aversion levels through two mechanisms: 1) rational optimizing decisions about the amount of effort to supply when effort is positively correlated with risk exposure and 2) the possibly choke-inducing stress accompanying financial uncertainty. In two laboratory studies using real-effort tasks, we find a significant inverse relationship between productivity improvement under performance pay and risk-aversion levels. Moreover, we show that both mechanisms help explain this result. For about 25% of participants, performance actually deteriorates under performance pay, and the probability of such deterioration increases with risk aversion and stress.
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Bibliographic InfoPaper provided by University of Guelph, Department of Economics and Finance in its series Working Papers with number 0912.
Length: 38 pages
Date of creation: 2009
Date of revision:
risk aversion; performance pay; incentive; stress; choking under pressure; productivity; pay for performance; piece rate; experiment; compensation.;
Find related papers by JEL classification:
- C91 - Mathematical and Quantitative Methods - - Design of Experiments - - - Laboratory, Individual Behavior
- M52 - Business Administration and Business Economics; Marketing; Accounting - - Personnel Economics - - - Compensation and Compensation Methods and Their Effects
- J33 - Labor and Demographic Economics - - Wages, Compensation, and Labor Costs - - - Compensation Packages; Payment Methods
This paper has been announced in the following NEP Reports:
- NEP-ALL-2009-11-21 (All new papers)
- NEP-BEC-2009-11-21 (Business Economics)
- NEP-CBE-2009-11-21 (Cognitive & Behavioural Economics)
- NEP-EXP-2009-11-21 (Experimental Economics)
- NEP-LAB-2009-11-21 (Labour Economics)
- NEP-UPT-2009-11-21 (Utility Models & Prospect Theory)
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- Marco A. Marini & Paolo Polidori & Desiree Teobaldelli & Davide Ticchi, 2014.
"Optimal Incentives in a Principal-Agent Model with Endogenous Technology,"
DIAG Technical Reports
2014-01, Department of Computer, Control and Management Engineering, Universita' degli Studi di Roma "La Sapienza".
- Marco Marini & Paolo Polidori & Davide Ticchi & Désirée Teobaldelli, 2013. "Optimal Incentives in a Principal-Agent Model with Endogenous Technology," Working Papers 1304, University of Urbino Carlo Bo, Department of Economics, Society & Politics - Scientific Committee - L. Stefanini & G. Travaglini, revised 2013.
- Zubanov, N.V., 2012. "Risk Aversion and Effort in an Incentive Pay Scheme with Multiplicative Noise: Theory and Experimental Evidence," ERIM Report Series Research in Management ERS-2012-005-STR, Erasmus Research Institute of Management (ERIM), ERIM is the joint research institute of the Rotterdam School of Management, Erasmus University and the Erasmus School of Economics (ESE) at Erasmus Uni.
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