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Friends or foes? Optimal incentives for reciprocal agents

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  • Livio, Luca
  • De Chiara, Alessandro

Abstract

Widely used performance-based contracts put (positive or negative) externalities on co-workers. These externalities have been proven to shape an organization’s working climate especially when workers exhibit social preferences. However, it is a priori unclear whether a more friendly or a more competitive working environment should be encouraged. In this paper, we develop a theoretical model in which a self-interested principal has to motivate a set of agents to work hard. Agents are symmetric, potentially risk-averse, and exhibit reciprocity concerns towards each other. We show that the principal reduces the cost of achieving high effort provision by designing a psychological gift-exchange game, thereby replacing monetary with psychological incentives. We find that the optimal incentive scheme depends on the interplay between the agents’ attitudes towards risks and their preferences for reciprocity. In particular, the optimal scheme implements (i) a relative performance compensation scheme which induces an exchange of unkindness if agents are relatively little risk averse and (ii) a joint performance compensation scheme which induces an exchange of kindness if agents are sufficiently risk averse. Our findings can explain some puzzling empirical results.

Suggested Citation

  • Livio, Luca & De Chiara, Alessandro, 2019. "Friends or foes? Optimal incentives for reciprocal agents," Journal of Economic Behavior & Organization, Elsevier, vol. 167(C), pages 245-278.
  • Handle: RePEc:eee:jeborg:v:167:y:2019:i:c:p:245-278
    DOI: 10.1016/j.jebo.2018.07.012
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    Keywords

    Gift exchange; Group production; Incentives; Moral hazard; Reciprocity; Team; Tournament;

    JEL classification:

    • 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
    • M52 - Business Administration and Business Economics; Marketing; Accounting; Personnel Economics - - Personnel Economics - - - Compensation and Compensation Methods and Their Effects
    • M54 - Business Administration and Business Economics; Marketing; Accounting; Personnel Economics - - Personnel Economics - - - Labor Management

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