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Competition and the Ratchet Effect

  • Gary Charness
  • Peter Kuhn
  • Marie Claire Villeval

In labor markets, the ratchet effect refers to a situation where workers subject to performance pay choose to restrict their output, because they rationally anticipate that firms will respond to higher output levels by raising output requirements or by cutting pay. We model this effect as a multiperiod principal-agent problem with hidden information and study its robustness to labor market competition both theoretically and experimentally. Consistent with our theoretical model, we observe substantial ratchet effects in the absence of competition, which are nearly eliminated when competition is introduced; this is true regardless of whether market conditions favor firms or workers.

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Article provided by University of Chicago Press in its journal Journal of Labor Economics.

Volume (Year): 29 (2011)
Issue (Month): 3 ()
Pages: 513 - 547

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Handle: RePEc:ucp:jlabec:doi:10.1086/659347
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  1. Barry W. Ickes & Larry Samuelson, 1987. "Job Transfers and Incentives in Complex Organizations: Thwarting the Ratchet Effect," RAND Journal of Economics, The RAND Corporation, vol. 18(2), pages 275-286, Summer.
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  7. Dalen, Dag Morten, 1995. "Efficiency-improving investment and the ratchet effect," European Economic Review, Elsevier, vol. 39(8), pages 1511-1522, October.
  8. Jordi Brandts & Gary Charness, 2004. "Do Labour Market Conditions Affect Gift Exchange? Some Experimental Evidence," Economic Journal, Royal Economic Society, vol. 114(497), pages 684-708, 07.
  9. Gérard Roland & Khalid Sekkat, 2000. "Managerial career concerns, privatization and restructuring in transition economies," ULB Institutional Repository 2013/7340, ULB -- Universite Libre de Bruxelles.
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  12. Puller, Steven L., 2006. "The strategic use of innovation to influence regulatory standards," Journal of Environmental Economics and Management, Elsevier, vol. 52(3), pages 690-706, November.
  13. Freixas, Xavier & Guesnerie, Roger & Tirole, Jean, 1985. "Planning under Incomplete Information and the Ratchet Effect," Review of Economic Studies, Wiley Blackwell, vol. 52(2), pages 173-91, April.
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  15. Antonio Cabrales & Gary Charness & Marie-Claire Villeval, 2006. "Competition, Hidden Information and Efficiency: An Experiment," Post-Print halshs-00175051, HAL.
  16. Allen, Douglas W. & Lueck, Dean, 1999. "Searching For Ratchet Effects In Agricultural Contracts," Journal of Agricultural and Resource Economics, Western Agricultural Economics Association, vol. 24(02), December.
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