External Recruitment as an Incentive Device

Abstract:     
External recruitment has often been viewed as a necessary evil in that it trades off the need for outside talent with incentives of inside workers. This paper, however, shows that even from an incentive viewpoint, external recruitment has its positive role to play. Specifically, if promotion is based on relative performance, then negative activities in the form of sabotage are a valuable instrument to compete. This results in inefficiency of the workers' efforts. External recruitment, by reducing the marginal return of negative activity, can restore the incentives of the workers to engage in productive activity and enhances the firm's performance. We also show that even when negative activities are not a concern, external recruitment can sometimes avoid the shirking equilibrium, or prevents collusion of workers.

Keywords: External recruitment, Sabotage, promotion, relative performance, collusion

JEL Classifications: J2, J3, D2

Accepted Paper Series