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Betrayal Aversion and the Effectiveness of Incentive Contracts

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  • Rau, Holger
  • Müller, Stephan

Abstract

In this paper we study the impact of betrayal aversion on agents' effort provision, when principals have discretion regarding agents' remuneration. We show theoretically that agents who work under a nonbinding bonus contract face a trade off in their effort choice between the likelihood and the level of betrayal. Thus, depending on which effect predominates, betrayal aversion may either undermine or underpin the effectiveness of bonus contracts to induce effort. The data of our experiment reveal a strong detrimental effect of betrayal aversion. If the principal promises to pay a bonus for sufficiently high effort, the message is ineffective when agents are characterized by a high degree of betrayal aversion. In strong contrast, employees with a low degree of betrayal aversion increase their performance by more than 50%, if they received this message. The findings in this article identify an additional hidden cost of economic incentives.

Suggested Citation

  • Rau, Holger & Müller, Stephan, 2018. "Betrayal Aversion and the Effectiveness of Incentive Contracts," VfS Annual Conference 2018 (Freiburg, Breisgau): Digital Economy 181638, Verein für Socialpolitik / German Economic Association.
    • Handle: RePEc:zbw:vfsc18:181638
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    References listed on IDEAS

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    JEL classification:

    • C91 - Mathematical and Quantitative Methods - - Design of Experiments - - - Laboratory, Individual Behavior
    • D03 - Microeconomics - - General - - - Behavioral Microeconomics: Underlying Principles
    • D81 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Criteria for Decision-Making under Risk and Uncertainty

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