IDEAS home Printed from https://ideas.repec.org/p/trf/wpaper/399.html
   My bibliography  Save this paper

Subjective Evaluation versus Public Information

Author

Listed:
  • Bester, Helmut
  • Münster, Johannes

Abstract

This paper studies a principal-agent relation in which the principal's private information about the agent's effort choice is more accurate than a noisy public performance measure. For some contingencies the optimal contract has to specify ex post inefficiencies in the form of inefficient termination (firing the agent) or third-party payments (money burning). We show that money burning is the less efficient incentive device: it is used at most in addition to firing and only if the loss from termination is small. Under an optimal contract the agent's wage may depend only on the principal's report and not on the public signal. Nonetheless, public information is valuable as it facilitates truthful subjective evaluation by the principal.

Suggested Citation

  • Bester, Helmut & Münster, Johannes, 2013. "Subjective Evaluation versus Public Information," Discussion Paper Series of SFB/TR 15 Governance and the Efficiency of Economic Systems 399, Free University of Berlin, Humboldt University of Berlin, University of Bonn, University of Mannheim, University of Munich.
    • Handle: RePEc:trf:wpaper:399
    as

    Download full text from publisher

    File URL: https://epub.ub.uni-muenchen.de/15340/1/399.pdf
    Download Restriction: no
    ---><---

    Other versions of this item:

    References listed on IDEAS

    as
    1. Sherstyuk, Katerina, 2000. " Performance Standards and Incentive Pay in Agency Contracts," Scandinavian Journal of Economics, Wiley Blackwell, vol. 102(4), pages 725-736, December.
    2. Ján Zábojník, 2014. "Subjective evaluations with performance feedback," RAND Journal of Economics, RAND Corporation, vol. 45(2), pages 341-369, June.
    3. Lang, Matthias, 2019. "Communicating subjective evaluations," Journal of Economic Theory, Elsevier, vol. 179(C), pages 163-199.
    4. Jonathan Levin, 2003. "Relational Incentive Contracts," American Economic Review, American Economic Association, vol. 93(3), pages 835-857, June.
    5. Bester, Helmut & Krähmer, Daniel, 2013. "Exit Options and the Allocation of Authority," Discussion Paper Series of SFB/TR 15 Governance and the Efficiency of Economic Systems 401, Free University of Berlin, Humboldt University of Berlin, University of Bonn, University of Mannheim, University of Munich.
    6. Canice Prendergast, 1999. "The Provision of Incentives in Firms," Journal of Economic Literature, American Economic Association, vol. 37(1), pages 7-63, March.
    7. Bentley W. MacLeod, 2003. "Optimal Contracting with Subjective Evaluation," American Economic Review, American Economic Association, vol. 93(1), pages 216-240, March.
    8. HOLMSTROM, Bengt, 1979. "Moral hazard and observability," LIDAM Reprints CORE 379, Université catholique de Louvain, Center for Operations Research and Econometrics (CORE).
    9. Myerson, Roger B, 1979. "Incentive Compatibility and the Bargaining Problem," Econometrica, Econometric Society, vol. 47(1), pages 61-73, January.
    10. Bester, Helmut & Krähmer, Daniel, 2012. "Exit options in incomplete contracts with asymmetric information," Journal of Economic Theory, Elsevier, vol. 147(5), pages 1947-1968.
    11. William Fuchs, 2007. "Contracting with Repeated Moral Hazard and Private Evaluations," American Economic Review, American Economic Association, vol. 97(4), pages 1432-1448, September.
    12. O. Ashenfelter & D. Card (ed.), 1999. "Handbook of Labor Economics," Handbook of Labor Economics, Elsevier, edition 1, volume 3, number 3.
    13. Katerina Sherstyuk, 2000. "Performance Standards and Incentive Pay in Agency Contracts," Scandinavian Journal of Economics, Wiley Blackwell, vol. 102(4), pages 725-736, December.
    14. Schmitz, Patrick W., 2002. "On the Interplay of Hidden Action and Hidden Information in Simple Bilateral Trading Problems," Journal of Economic Theory, Elsevier, vol. 103(2), pages 444-460, April.
    15. Rachel M. Hayes & Scott Schaefer, 2000. "Implicit Contracts and the Explanatory Power of Top Executive Compensation for Future Performance," RAND Journal of Economics, The RAND Corporation, vol. 31(2), pages 273-293, Summer.
    16. George Baker & Robert Gibbons & Kevin J. Murphy, 1994. "Subjective Performance Measures in Optimal Incentive Contracts," The Quarterly Journal of Economics, President and Fellows of Harvard College, vol. 109(4), pages 1125-1156.
    17. Josh Lerner & Ulrike Malmendier, 2010. "Contractibility and the Design of Research Agreements," American Economic Review, American Economic Association, vol. 100(1), pages 214-246, March.
    18. repec:eme:rlepps:v:18:y:1999:i:1999:p:177-242 is not listed on IDEAS
    19. Curtis R. Taylor & Huseyin Yildirim, 2011. "Subjective Performance and the Value of Blind Evaluation," The Review of Economic Studies, Review of Economic Studies Ltd, vol. 78(2), pages 762-794.
    20. Holtfrerich, Carl-Ludwig, 2013. "Government debt in economic thought of the long 19th century," Discussion Papers 2013/4, Free University Berlin, School of Business & Economics.
    21. Baker, George P, 1992. "Incentive Contracts and Performance Measurement," Journal of Political Economy, University of Chicago Press, vol. 100(3), pages 598-614, June.
    22. Massarrat-Mashhadi, Nima, 2013. "The mutual impact of deferral labour taxation and capital income taxation on risk-taking behaviour: An experimental analysis," Discussion Papers 2013/1, Free University Berlin, School of Business & Economics.
    23. Lewis, Tracy R & Sappington, David E M, 1997. "Information Management in Incentive Problems," Journal of Political Economy, University of Chicago Press, vol. 105(4), pages 796-821, August.
    24. Fahad Khalil & Jacques Lawarrée & Troy J. Scott, 2015. "Private monitoring, collusion, and the timing of information," RAND Journal of Economics, RAND Corporation, vol. 46(4), pages 872-890, October.
    25. Myerson, Roger B, 1986. "Multistage Games with Communication," Econometrica, Econometric Society, vol. 54(2), pages 323-358, March.
    26. Jimmy Chan & Bingyong Zheng, 2011. "Rewarding improvements: optimal dynamic contracts with subjective evaluation," RAND Journal of Economics, RAND Corporation, vol. 42(4), pages 758-775, December.
    27. Philipp Engler & Simon Voigts, 2013. "A Transfer Mechanism for a Monetary Union," SFB 649 Discussion Papers SFB649DP2013-013, Sonderforschungsbereich 649, Humboldt University, Berlin, Germany.
    28. Chwe, Michael Suk-Young, 1990. "Why Were Workers Whipped? Pain in a Principal-Agent Model," Economic Journal, Royal Economic Society, vol. 100(403), pages 1109-1121, December.
    29. Grossman, Sanford J & Hart, Oliver D, 1983. "An Analysis of the Principal-Agent Problem," Econometrica, Econometric Society, vol. 51(1), pages 7-45, January.
    30. Pearce, David G. & Stacchetti, Ennio, 1998. "The Interaction of Implicit and Explicit Contracts in Repeated Agency," Games and Economic Behavior, Elsevier, vol. 23(1), pages 75-96, April.
    31. repec:eme:rleczz:s0147-9121(2012)0000035044 is not listed on IDEAS
    32. Bolton, Patrick & Scharfstein, David S, 1996. "Optimal Debt Structure and the Number of Creditors," Journal of Political Economy, University of Chicago Press, vol. 104(1), pages 1-25, February.
    33. Kahn, Charles & Huberman, Gur, 1988. "Two-sided Uncertainty and "Up-or-Out" Contracts," Journal of Labor Economics, University of Chicago Press, vol. 6(4), pages 423-444, October.
    34. Bengt Holmstrom, 1979. "Moral Hazard and Observability," Bell Journal of Economics, The RAND Corporation, vol. 10(1), pages 74-91, Spring.
    35. Sappington, David, 1983. "Limited liability contracts between principal and agent," Journal of Economic Theory, Elsevier, vol. 29(1), pages 1-21, February.
    36. Harris, Milton & Raviv, Artur, 1979. "Optimal incentive contracts with imperfect information," Journal of Economic Theory, Elsevier, vol. 20(2), pages 231-259, April.
    Full references (including those not matched with items on IDEAS)

    Citations

    Citations are extracted by the CitEc Project, subscribe to its RSS feed for this item.
    as


    Cited by:

    1. Matthias Lang, 2023. "Stochastic contracts and subjective evaluations," RAND Journal of Economics, RAND Corporation, vol. 54(1), pages 104-134, March.

    Most related items

    These are the items that most often cite the same works as this one and are cited by the same works as this one.
    1. Helmut Bester & Matthias Dahm, 2018. "Credence Goods, Costly Diagnosis and Subjective Evaluation," Economic Journal, Royal Economic Society, vol. 128(611), pages 1367-1394, June.
    2. W. Bentley MacLeod & Teck Yong Tan, 2016. "Optimal Contracting with Subjective Evaluation: The Effects of Timing, Malfeasance and Guile," NBER Working Papers 22156, National Bureau of Economic Research, Inc.
    3. Lang, Matthias, 2019. "Communicating subjective evaluations," Journal of Economic Theory, Elsevier, vol. 179(C), pages 163-199.
    4. Matthias Lang, 2023. "Stochastic contracts and subjective evaluations," RAND Journal of Economics, RAND Corporation, vol. 54(1), pages 104-134, March.
    5. Luis Garicano & Luis Rayo, 2016. "Why Organizations Fail: Models and Cases," Journal of Economic Literature, American Economic Association, vol. 54(1), pages 137-192, March.
    6. Helmut Bester & Daniel Krähmer, 2008. "Delegation and incentives," RAND Journal of Economics, RAND Corporation, vol. 39(3), pages 664-682, September.
    7. Shingo Takahashi & Hideo Owan & Tsuyoshi Tsuru & Katsuhito Uehara, 2014. "Perceptions to climatic changes and cooperative attitudes toward flood protection in Bangladesh," Working Papers EMS_2014_11, Research Institute, International University of Japan.
    8. Madhav V. Rajan & Stefan Reichelstein, 2006. "Subjective Performance Indicators and Discretionary Bonus Pools," Journal of Accounting Research, Wiley Blackwell, vol. 44(3), pages 585-618, June.
    9. Alex Edmans & Xavier Gabaix, 2016. "Executive Compensation: A Modern Primer," Journal of Economic Literature, American Economic Association, vol. 54(4), pages 1232-1287, December.
    10. Terstiege, Stefan, 2013. "Objective versus Subjective Performance Evaluations," Discussion Paper Series of SFB/TR 15 Governance and the Efficiency of Economic Systems 430, Free University of Berlin, Humboldt University of Berlin, University of Bonn, University of Mannheim, University of Munich.
    11. Bentley W. MacLeod, 2003. "Optimal Contracting with Subjective Evaluation," American Economic Review, American Economic Association, vol. 93(1), pages 216-240, March.
    12. Robert Gibbons, 2010. "Inside Organizations: Pricing, Politics, and Path Dependence," Annual Review of Economics, Annual Reviews, vol. 2(1), pages 337-365, September.
    13. Bag, Parimal K. & Qian, Neng, 2019. "Money burning in subjective evaluation and limited liability: A case for pay for performance," Economics Letters, Elsevier, vol. 174(C), pages 208-213.
    14. Eduard Marinov, 2016. "The 2016 Nobel Prize in Economics," Economic Thought journal, Bulgarian Academy of Sciences - Economic Research Institute, issue 6, pages 97-149.
    15. Oyer, Paul & Schaefer, Scott, 2011. "Personnel Economics: Hiring and Incentives," Handbook of Labor Economics, in: O. Ashenfelter & D. Card (ed.), Handbook of Labor Economics, edition 1, volume 4, chapter 20, pages 1769-1823, Elsevier.
    16. Edward P. Lazear, 1995. "Personnel Economics," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262121883, December.
    17. Orlov, Dmitry, 2022. "Frequent monitoring in dynamic contracts," Journal of Economic Theory, Elsevier, vol. 206(C).
    18. David Rietzke & Yu Chen, 2020. "Push or pull? Performance‐pay, incentives, and information," RAND Journal of Economics, RAND Corporation, vol. 51(1), pages 301-317, March.
    19. Bushman, Robert M. & Smith, Abbie J., 2001. "Financial accounting information and corporate governance," Journal of Accounting and Economics, Elsevier, vol. 32(1-3), pages 237-333, December.
    20. repec:eee:labchp:v:3:y:1999:i:pb:p:2373-2437 is not listed on IDEAS
    21. James M. Malcomson, 2012. "Relational Incentive Contracts [The Handbook of Organizational Economics]," Introductory Chapters,, Princeton University Press.

    More about this item

    Keywords

    Subjective evaluation; moral hazard; termination clauses; third-party payments;
    All these keywords.

    JEL classification:

    • D23 - Microeconomics - - Production and Organizations - - - Organizational Behavior; Transaction Costs; Property Rights
    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
    • D86 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Economics of Contract Law
    • J41 - Labor and Demographic Economics - - Particular Labor Markets - - - Labor Contracts
    • M12 - Business Administration and Business Economics; Marketing; Accounting; Personnel Economics - - Business Administration - - - Personnel Management; Executives; Executive Compensation

    NEP fields

    This paper has been announced in the following NEP Reports:

    Statistics

    Access and download statistics

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:trf:wpaper:399. See general information about how to correct material in RePEc.

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If CitEc recognized a bibliographic reference but did not link an item in RePEc to it, you can help with this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: Tamilla Benkelberg (email available below). General contact details of provider: https://edirc.repec.org/data/vfmunde.html .

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service. RePEc uses bibliographic data supplied by the respective publishers.