Risk Aversion and Effort in an Incentive Pay Scheme with Multiplicative Noise: Theory and Experimental Evidence
Erasmus University Rotterdam (EUR) - Erasmus School of Economics (ESE)
March 20, 2012
ERIM Report Series Reference No. ERS-2012-005-STR
The application of the classical "linear" model of incentive pay to the case when the noise is multiplicative to effort generates two predictions for a given strength of incentives: 1) more risk-averse workers will put in less effort, and 2) setting a performance target will weaken the negative risk aversion--effort link. The data from a real-effort laboratory experiment involving 85 student participants support both these predictions. Implications of the model and empirical findings to the literature on, and practice of, personnel management are discussed.
Number of Pages in PDF File: 30
Keywords: risk aversion, incentive pay, performance targets
JEL Classification: C91, M52, J33
Date posted: March 27, 2012
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