Reference points and the tradeoff between risk and incentives

Thomas Dohmen, Arjan Non and Tom Stolp

Journal of Economic Behavior & Organization, 2021, vol. 192, issue C, 813-831

Abstract: We conduct laboratory experiments to investigate basic predictions of principal-agent theory about the choice of piece rate contracts in the presence of output risk, and provide novel insights that reference dependent preferences affect the tradeoff between risk and incentives. Subjects in our experiments choose their compensation scheme for performing a real-effort task from a menu of linear piece rate and fixed payment combinations. As classical principal-agent models predict, more risk averse individuals choose lower piece rates. However, in contrast to those predictions, we find that low-productivity risk averse workers choose higher piece rates when the riskiness of the environment increases. We hypothesize that reference points affect piece rate choice in risky environments, such that individuals whose expected earnings would exceed (fall below) the reference point in a risk-free environment behave risk averse (seeking) in risky environments. In a second experiment, we exogenously manipulate reference points and confirm this hypothesis.

Keywords: Incentive; Piece-rate; Risk; Reference point; Laboratory experiment (search for similar items in EconPapers)
Date: 2021
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Citations: View citations in EconPapers (6)

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Related works:
Working Paper: Reference Points and the Tradeoff between Risk and Incentives (2021)
Working Paper: Reference Points and the Tradeoff Between Risk and Incentives (2021)
Working Paper: Reference Points and the Tradeoff between Risk and Incentives (2021)
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Persistent link: https://EconPapers.repec.org/RePEc:eee:jeborg:v:192:y:2021:i:c:p:813-831

DOI: 10.1016/j.jebo.2021.11.008

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