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Performance pay and adverse selection

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  • Moen, Espen R.

    ()
    (Norwegian School of Management (BI))

  • Rosén, Åsa

    ()
    (Swedish Institute for Social Research, Stockholm University)

Abstract

We study equilibrium wage contracts in a labour market with adverse selection and moral hazard. Firms offer incentive contracts to their employees to motivate them to exert effort. Providing incentives comes, however, at a cost, as it leads to misallocation of effort across tasks. With ex ante identical workers, the optimal wage contract is linear, and the equilibrium resource allocation optimal. With ex ante heterogenous workers, firms may increase the incentive power of the wage contract to attract the better workers. The resulting equilibrium is separating, in the sense that workers self-select on contracts. Furthermore, the contracts offered to the good workers are too high powered compared to the contracts that maximise welfare.

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Bibliographic Info

Paper provided by Swedish Institute for Social Research in its series Working Paper Series with number 2/2001.

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Length: 20 pages
Date of creation: 18 Dec 2001
Date of revision:
Handle: RePEc:hhs:sofiwp:2001_002

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  1. Holmstrom, Bengt & Milgrom, Paul, 1991. "Multitask Principal-Agent Analyses: Incentive Contracts, Asset Ownership, and Job Design," Journal of Law, Economics and Organization, Oxford University Press, Oxford University Press, vol. 7(0), pages 24-52, Special I.
  2. Oliver Hart & Bengt Holmstrom, 1986. "The Theory of Contracts," Working papers, Massachusetts Institute of Technology (MIT), Department of Economics 418, Massachusetts Institute of Technology (MIT), Department of Economics.
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Cited by:
  1. Thiele, Veikko, 2007. "Task-Specific Abilities in Multi-Task Agency Relations," MPRA Paper 2470, University Library of Munich, Germany.
  2. Bénabou, Roland & Tirole, Jean, 2012. "Bonus Culture: Competitive Pay, Screening and Multitasking," IDEI Working Papers, Institut d'Économie Industrielle (IDEI), Toulouse 756, Institut d'Économie Industrielle (IDEI), Toulouse, revised Mar 2013.
  3. Cornelissen, Thomas & Heywood, John S. & Jirjahn, Uwe, 2011. "Performance pay, risk attitudes and job satisfaction," Labour Economics, Elsevier, Elsevier, vol. 18(2), pages 229-239, April.
  4. Reuben, Ernesto & Wiswall, Matthew & Zafar, Basit, 2013. "Preferences and Biases in Educational Choices and Labor Market Expectations: Shrinking the Black Box of Gender," IZA Discussion Papers 7579, Institute for the Study of Labor (IZA).
  5. Josse Delfgaauw & Robert Dur, 2004. "Incentives and Workers’ Motivation in the Public Sector," CESifo Working Paper Series 1223, CESifo Group Munich.
  6. Josse Delfgaauw & Robert Dur, 2004. "Incentives and Workers' Motivation in the Public Sector," Tinbergen Institute Discussion Papers 04-060/1, Tinbergen Institute.

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