Optimal Tournament Contracts for Heterogenous Workers

Oliver Gürtler () and Matthias Kräkel ()

No 234, Discussion Papers from SFB/TR 15 Governance and the Efficiency of Economic Systems, Free University of Berlin, Humboldt University of Berlin, University of Bonn, University of Mannheim, University of Munich

Abstract: We analyze the optimal design of rank-order tournaments with heterogeneous workers. If tournament prizes do not differ between the workers(uniform prizes), as in the previous tournament literature, the outcome will be ineffcient. In the case of limited liability, the employer may benefit from implementing more than first-best effort. We show that the employer can use individual prizes that satisfy a self-commitment condition and induce effcient incentives at the same time, thus solving a fundamental dilemma in tournament theory. Individual prizes exhibit two major advantages - they allow the extraction of worker rents and the adjustment of individual incentives, which will be important for the employer if he cannot rely on handicaps.

Keywords: heterogenous workers. limited liability; rank-order tournaments; self commitment (search for similar items in EconPapers)
JEL-codes: J33 M12 M52 (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-cta and nep-lab
Date: 2008-05
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