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High-Powered Incentives vs. Low-Powered Incentives : Why Low-Powered Incentives within Firms?

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Authors
Kim, Sonku
Issue Date
1999
Publisher
Seoul Journal of Economics
Citation
Seoul Journal of Economics 12 (No. 1 1999): 27-50
Keywords
high-powered incentives; market arrangement; risk-neutral
Abstract
This paper explains why high-powered incentives are more common than low-powered incentives in market arrangements, while low-powered incentives are more common than high-powered incentives within firms. In a firmlike principal-agent framework in which a common principal participates in the multiple agents' production processes with his own productive efforts, social efficiency can be obtained by relative performance schemes when the agents are risk-neutral. We derive a group of relative performance schemes which achieve a socially efficient outcome. They are different in their pay-for-performance sensitivity, ranging from a high-powered pricelike relative contract to a seemingly low-powered promotion-based contract. We show that the high-powered relative contract is the most efficient among the first-best relative contracts when the agents have private information, and the promotion-based contract is the most efficient when the agents' limited liabilities are of serious concern.
ISSN
1225-0279
Language
English
URI
http://hdl.handle.net/10371/1147
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College of Social Sciences (사회과학대학)Institute of Economics Research (경제연구소)Seoul Journal of EconomicsSeoul Journal of Economics vol.12(1) (Spring 1999)
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