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Aligning Ambition and Incentives

  • Alexander K. Koch
  • Eloïc Peyrache

    ()

    (School of Economics and Management, University of Aarhus, Denmark)

Labor turnover creates longer term career concerns incentives that motivate employees in addition to the short term monetary incentives provided by the current employer. We analyze how these incentives interact and derive implications for the design of incentive contracts and organizational choice. The main insights stem from a trade-off between ‘good monetary incentives’ and ‘good reputational incentives’. We show that the principal optimally designs contracts to create ambiguity about agents’ abilities. This may make it optimal to contract on relative performance measures, even though the extant rationales for such schemes are absent. Linking the structure of contracts to organizational design, we show that it can be optimal for the principal to adopt an opaque organization where performance is not verifiable, despite the constraints that this imposes on contracts.

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Paper provided by School of Economics and Management, University of Aarhus in its series Economics Working Papers with number 2008-16.

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Length: 36
Date of creation: 05 Nov 2008
Date of revision:
Handle: RePEc:aah:aarhec:2008-16
Contact details of provider: Web page: http://www.econ.au.dk/afn/

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