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A Comparison of Tournaments and Contracts

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  • Jerry R. Green
  • Nancy L. Stokey

Abstract

Tournaments, reward structures based on rank order, are compared with individual contracts in a model with one risk-neutral principal and many risk-averse agents. Each agents' output is a stochastic function of his effort level plus an additive shock term that is common to all the agents. The principal observes only the output levels of the agents. It is shown that in the absence of a common shock, using optimal independent contracts dominates using the optimal tournament. Conversely, if the distribution of the common shock is sufficiently diffuse, using the optimal tournament dominates using optimal independent contracts. Finally, it is shown that for a sufficiently large number of agents, a principal who cannot observe the common shock but uses the optimal tournament, does as well as one who can observe the shock and uses independent contracts.

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Bibliographic Info

Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 0840.

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Date of creation: Jan 1982
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Publication status: published as Green, Jerry R. and Nancy L. Stokey. "A Comparison of Tournaments and Contracts." Journal of Political Economy, Vol. 91, Vo. 3, (June 1983), pp. 349- 364.
Handle: RePEc:nbr:nberwo:0840

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  1. Mirrlees, J A, 1999. "The Theory of Moral Hazard and Unobservable Behaviour: Part I," Review of Economic Studies, Wiley Blackwell, Wiley Blackwell, vol. 66(1), pages 3-21, January.
  2. Lazear, Edward P & Rosen, Sherwin, 1981. "Rank-Order Tournaments as Optimum Labor Contracts," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 89(5), pages 841-64, October.
  3. Bengt Holmstrom, 1979. "Moral Hazard and Observability," Bell Journal of Economics, The RAND Corporation, The RAND Corporation, vol. 10(1), pages 74-91, Spring.
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