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Subjective evaluation versus public information

  • Bester, Helmut
  • Münster, Johannes

This paper studies a principal-agent relation in which the principal's private information about the agent's effort choice is more accurate than a noisy public performance measure. For some contingencies the optimal contract has to specify ex post inefficiencies in the form of inefficient termination (firing the agent) or third-party payments (money burning). We show that money burning is the less efficient incentive device: it is used at most in addition to firing and only if the loss from termination is small. Under an optimal contract the agent's wage may depend only on the principal's report and not on the public signal. Nonetheless, public information is valuable as it facilitates truthful subjective evaluation by the principal.

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Paper provided by Free University Berlin, School of Business & Economics in its series Discussion Papers with number 2013/6.

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Date of creation: 2013
Date of revision:
Handle: RePEc:zbw:fubsbe:20136
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  1. Matthias Lang, 2012. "Communicating Subjective Evaluations," Working Paper Series of the Max Planck Institute for Research on Collective Goods 2012_14, Max Planck Institute for Research on Collective Goods, revised Mar 2014.
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  8. Schmitz, Patrick W., 2002. "On the Interplay of Hidden Action and Hidden Information in Simple Bilateral Trading Problems," MPRA Paper 12531, University Library of Munich, Germany.
  9. Baker, George P, 1992. "Incentive Contracts and Performance Measurement," Journal of Political Economy, University of Chicago Press, vol. 100(3), pages 598-614, June.
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  13. repec:eme:rlepps:v:18:y:1999:i:1999:p:177-242 is not listed on IDEAS
  14. Sanford Grossman & Oliver Hart, . "An Analysis of the Principal-Agent Problem," Rodney L. White Center for Financial Research Working Papers 15-80, Wharton School Rodney L. White Center for Financial Research.
  15. Harris, Milton & Raviv, Artur, 1979. "Optimal incentive contracts with imperfect information," Journal of Economic Theory, Elsevier, vol. 20(2), pages 231-259, April.
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  18. Ján Zábojník, 2014. "Subjective evaluations with performance feedback," RAND Journal of Economics, RAND Corporation, vol. 45(2), pages 341-369, 06.
  19. Rachel M. Hayes & Scott Schaefer, 2000. "Implicit Contracts and the Explanatory Power of Top Executive Compensation for Future Performance," RAND Journal of Economics, The RAND Corporation, vol. 31(2), pages 273-293, Summer.
  20. Pearce, David G. & Stacchetti, Ennio, 1998. "The Interaction of Implicit and Explicit Contracts in Repeated Agency," Games and Economic Behavior, Elsevier, vol. 23(1), pages 75-96, April.
  21. Curtis R. Taylor & Huseyin Yildirim, 2011. "Subjective Performance and the Value of Blind Evaluation," Review of Economic Studies, Oxford University Press, vol. 78(2), pages 762-794.
  22. Bolton, Patrick & Scharfstein, David S, 1996. "Optimal Debt Structure and the Number of Creditors," Journal of Political Economy, University of Chicago Press, vol. 104(1), pages 1-25, February.
  23. Bengt Holmstrom, 1997. "Moral Hazard and Observability," Levine's Working Paper Archive 1205, David K. Levine.
  24. Fahad Khalil & Jacques Lawarree & Troy J Scott, 2011. "Private Monitoring, Collusion and the Timing of Information," Working Papers UWEC-2011-08, University of Washington, Department of Economics.
  25. Jonathan Levin, 2000. "Relational Incentive Contracts," Working Papers 01002, Stanford University, Department of Economics.
  26. Jimmy Chan & Bingyong Zheng, 2011. "Rewarding improvements: optimal dynamic contracts with subjective evaluation," RAND Journal of Economics, RAND Corporation, vol. 42(4), pages 758-775, December.
  27. Canice Prendergast, 1999. "The Provision of Incentives in Firms," Journal of Economic Literature, American Economic Association, vol. 37(1), pages 7-63, March.
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