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Optimal Contracting with Subjective Evaluation

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  • Bentley W. MacLeod

Abstract

This paper extends the standard principal-agent model to allow for subjective evaluation. The optimal contract results in more compressed pay relative to the case with verifiable performance measures. Moreover, discrimination against an individual implies lower pay and performance, suggesting that the extent of discrimination as measured after controlling for performance may underestimate the level of true discrimination. Finally, the optimal contract entails the use of bonus pay rather than the threat of dismissal, hence neither "efficiency wages" nor the right to dismiss an employee are necessary ingredients for an optimal incentive contract.

Suggested Citation

  • Bentley W. MacLeod, 2003. "Optimal Contracting with Subjective Evaluation," American Economic Review, American Economic Association, vol. 93(1), pages 216-240, March.
  • Handle: RePEc:aea:aecrev:v:93:y:2003:i:1:p:216-240 Note: DOI: 10.1257/000282803321455232
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