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The Pygmalion Effect: An Agency Model with Reference Dependent Preferences

  • Kohei Daido
  • Hideshi Itoh

We attempt to formulate and explain two types of self-fulfilling prophecy, called the Pygmalion effect (if a supervisor thinks her subordinates will succeed, they are more likely to succeed) and the Galatea effect (if a person thinks he will succeed, he is more likely to succeed). To this purpose, we extend a simple agency model with moral hazard and limited liability by introducing a model of reference dependent preferences (RDP) by Kõszegi and Rabin (2004). We show that the agent with high expectations about his performance can be induced to choose high effort with low-powered incentives. We then show that the principal’s expectation has an important role as an equilibrium selection device.

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File URL: http://www.cesifo-group.de/portal/page/portal/DocBase_Content/WP/WP-CESifo_Working_Papers/wp-cesifo-2005/wp-cesifo-2005-04/cesifo1_wp1444.pdf
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Paper provided by CESifo Group Munich in its series CESifo Working Paper Series with number 1444.

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Date of creation: 2005
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Handle: RePEc:ces:ceswps:_1444
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  1. Falk, Armin & Knell, Markus, 2004. "Choosing the Joneses: Endogenous Goals and Reference Standards," IZA Discussion Papers 1152, Institute for the Study of Labor (IZA).
  2. Amos Tversky & Daniel Kahneman, 1979. "Prospect Theory: An Analysis of Decision under Risk," Levine's Working Paper Archive 7656, David K. Levine.
  3. Bateman, Ian J, et al, 1997. "A Test of the Theory of Reference-Dependent Preferences," The Quarterly Journal of Economics, MIT Press, vol. 112(2), pages 479-505, May.
  4. Munro, Alistair & Sugden, Robert, 2003. "On the theory of reference-dependent preferences," Journal of Economic Behavior & Organization, Elsevier, vol. 50(4), pages 407-428, April.
  5. Masatlioglu, Yusufcan & Ok, Efe A., 2005. "Rational choice with status quo bias," Journal of Economic Theory, Elsevier, vol. 121(1), pages 1-29, March.
  6. Roland Benabou & Jean Tirole, 2003. "Intrinsic and Extrinsic Motivation," Review of Economic Studies, Wiley Blackwell, vol. 70(3), pages 489-520, 07.
  7. Sugden, Robert, 2003. "Reference-dependent subjective expected utility," Journal of Economic Theory, Elsevier, vol. 111(2), pages 172-191, August.
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