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Strategic Framing in Contracts

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  • Katharina Hilken

    ()

  • Kris De Jaegher

    ()

  • Marc Jegers

    ()

Abstract

We provide a hidden-action principal-agent model where the agent has reference- dependent preferences. The loss-averse agent considers the base wage as reference point, and bonuses and/or penalties as gains and losses, respectively. When choosing optimal payments, the principal strategically sets the base wage, knowing that this determines the agent's reference point. We consider two variants of the model. In a first variant, the agent's reservation utility is not reference-dependent. We show that it is always optimal in this case for the principal to employ bonuses. In a second variant, the reservation utility is reference-dependent and the principal may use penalties.

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Bibliographic Info

Paper provided by Utrecht School of Economics in its series Working Papers with number 13-04.

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Length: 26 pages
Date of creation: Mar 2013
Date of revision:
Handle: RePEc:use:tkiwps:1304

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Related research

Keywords: Strategic Framing; Reference-Dependent Preferences; Principal-Agent Theory; Optimal Payment Schemes; Employment Contracts;

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References

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Cited by:
  1. Katharina Hilken & Stephanie Rosenkranz & Kris De Jaegher & Marc Jegers, 2013. "Reference Points, Performance and Ability: A Real Effort Experiment on Framed Incentive Schemes," Working Papers 13-15, Utrecht School of Economics.

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