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Fairness, Incentives, and Contractual Choices

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  • Ernst Fehr
  • Klaus M. Schmidt

Abstract

This paper examines how the presence of a non-negligible fraction of reciprocally fair actors changes the provision of incentives through contracts. We provide experimental evidence that principals have a strong preference for less complete contracts although the standard self-interest model predicts that they should prefer the more complete contract. Our theoretical analysis shows that fairness concerns can explain this preference for less completeness. Fair principals keep their promises which provides strong pecuniary incentives through an incomplete contract. Selfish principals free-ride and exploit the agents. Counter-intuitively, selfish agents are induced to work by an incomplete contract while fair agents shirk.

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Paper provided by Institute for Empirical Research in Economics - University of Zurich in its series IEW - Working Papers with number 020.

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Handle: RePEc:zur:iewwpx:020

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Keywords: Fairness; Reciprocity; Incomplete Contracts; Incentives;

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  1. Armin Falk & Urs Fischbacher, 2001. "A Theory of Reciprocity," CESifo Working Paper Series 457, CESifo Group Munich.
  2. Agell, J. & Lundborg, P., 1992. "Theories of Pay and Unemployment: Survey Evidence from Swedish Manufacturing Firms," Papers 1993-8, Uppsala - Working Paper Series.
  3. Bewley, Truman F, 1995. "A Depressed Labor Market as Explained by Participants," American Economic Review, American Economic Association, vol. 85(2), pages 250-54, May.
  4. Andrew E. Clark and Andrew J. Oswald, . "Satisfaction and Comparison Income," Economics Discussion Papers 419, University of Essex, Department of Economics.
  5. Fehr, Ernst & Schmidt, Klaus M., 1999. "A theory of fairness, competition, and cooperation," Munich Reprints in Economics 20650, University of Munich, Department of Economics.
  6. Ernst Fehr & Simon Gachter & Georg Kirchsteiger, 1997. "Reciprocity as a Contract Enforcement Device: Experimental Evidence," Econometrica, Econometric Society, vol. 65(4), pages 833-860, July.
  7. Georg Kirchsteiger & Martin Dufwenberg, 2004. "A theory of sequential reciprocity," ULB Institutional Repository 2013/5899, ULB -- Universite Libre de Bruxelles.
  8. Goeree, Jacob K. & Holt, Charles A., 2000. "Asymmetric inequality aversion and noisy behavior in alternating-offer bargaining games," European Economic Review, Elsevier, vol. 44(4-6), pages 1079-1089, May.
  9. Gary E Bolton & Axel Ockenfels, 1997. "A Theory of Equity, Reciprocity, and Competition," Levine's Working Paper Archive 1889, David K. Levine.
  10. Ernst Fehr & Simon Gachter & Georg Kirchsteiger, 2001. "Reciprocity as a Contract Enforcement Device," Levine's Working Paper Archive 563824000000000143, David K. Levine.
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