Articles

Aligning Ambition and Incentives

A. Koch, E.-A. PEYRACHE

Journal of Law, Economics and Organization

October 2011, vol. 27, n°3, pp.655-688

Departments: Economics & Decision Sciences, GREGHEC (CNRS)

Keywords: Reputation, Asymmetric learning, Relative performance contracts, Transparency

http://ssrn.com/abstract=686087


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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