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On the Elasticity of Effort for Piece Rates: Evidence from the British Columbia Tree-Planting Industry

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  • Paarsch, Harry J.
  • Shearer, Bruce S.

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Abstract

If policy prescriptions for compensation systems are to be useful, then they must be based on the empirical analysis of incentive effects; i.e., the elasticity of worker effort with respect to changes in the compensation system. We measure the elasticity of worker effort with respect to changes in the piece rate using panel data collected from the payroll records of a British Columbia tree-planting firm. Our data contain information on daily worker productivity and the piece rate received over a five-month period. We highlight the endogeneity problems inherent in traditional empirical analyses of compensation systems. In particular, employing regression methods, which use the sample covariance between piece rates and daily productivity to identify the incentive effect, we consistently estimate the elasticity of effort with respect to changes it the piece rate to be negative. Using a structural model to control for the endogeneity of the piece rate, we estimate this elasticity to be approximately 2.2. Structural estimation also allows us to perform policy experiments and to compare firm profits under alternative compensation systems. Our results suggest that profits would increase by at least 17 percent were the firm to implement the optimal contract as predicted by principal-agent theory.

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File URL: http://www.ecn.ulaval.ca/w3/recherche/cahiers/1997/piece.pdf
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File URL: http://www.ecn.ulaval.ca/w3/recherche/cahiers/1997/piece.ps
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Paper provided by Université Laval - Département d'économique in its series Cahiers de recherche with number 9713.

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Date of creation: 1997
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Handle: RePEc:lvl:laeccr:9713

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  1. Paarsch, Harry J. & Shearer, Bruce, 1996. "Piece Rates, Fixed Wages, and Incentive Effects: Statistical Evidence from Payroll Records," Cahiers de recherche 9623, Université Laval - Département d'économique.
  2. Oliver Hart & Bengt Holmstrom, 1986. "The Theory of Contracts," Working papers 418, Massachusetts Institute of Technology (MIT), Department of Economics.
  3. Goldin, Claudia, 1986. "Monitoring Costs and Occupational Segregation by Sex: A Historical Analysis," Scholarly Articles 2666727, Harvard University Department of Economics.
  4. Baker, George P, 1992. "Incentive Contracts and Performance Measurement," Journal of Political Economy, University of Chicago Press, vol. 100(3), pages 598-614, June.
  5. Edward P. Lazear, 1996. "Performance Pay and Productivity," NBER Working Papers 5672, National Bureau of Economic Research, Inc.
  6. Daniel Parent, 1997. "Methods of Pay and Earnings: A Longitudinal Analysis," CIRANO Working Papers 97s-14, CIRANO.
  7. Ferrall, Christopher & Shearer, Bruce, 1999. "Incentives and Transactions Costs within the Firm: Estimating an Agency Model Using Payroll Records," Review of Economic Studies, Wiley Blackwell, vol. 66(2), pages 309-38, April.
  8. Edward P. Lazear & Sherwin Rosen, 1979. "Rank-Order Tournaments as Optimum Labor Contracts," NBER Working Papers 0401, National Bureau of Economic Research, Inc.
  9. Shapiro, Carl & Stiglitz, Joseph E, 1984. "Equilibrium Unemployment as a Worker Discipline Device," American Economic Review, American Economic Association, vol. 74(3), pages 433-44, June.
  10. 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, vol. 7(0), pages 24-52, Special I.
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