The Effects of Risk Preference and Loss Aversion on Individual Behavior Under Bonus, Penalty, and Combined Contract Frames

Posted: 30 Jul 2008 Last revised: 11 Aug 2014

See all articles by Alisa Gabrielle Brink

Alisa Gabrielle Brink

Virginia Commonwealth University

Frederick W. Rankin

Colorado State University, Fort Collins - College of Business

Date Written: January 1, 2013

Abstract

This study examines the effects of risk preference and loss aversion on individual responses to differently framed, yet economically equivalent, incentive contracts. We extend prior research by examining contracts with combinations of bonus, penalty, and clawback incentives. Contracts framed as a combination of bonus and penalty incentives, especially those framed as a clawback, are less attractive to participants than contracts with bonus or penalty-only incentives. Further, research suggests that individuals’ contract preferences are due primarily to loss aversion. We test this conjecture with a new measure of loss aversion. Results indicate that our measure of loss aversion is well calibrated to encompass variation in loss aversion. In addition, participants’ loss preferences explain a significant portion of the differences in observed behavior. Importantly, this relation is less significant for clawback contracts indicating that other preferences may be driving individuals’ strong reactions to these contract frames.

Keywords: incentives, framing, clawback, loss aversion

JEL Classification: M41, M52

Suggested Citation

Brink, Alisa Gabrielle and Rankin, Frederick W., The Effects of Risk Preference and Loss Aversion on Individual Behavior Under Bonus, Penalty, and Combined Contract Frames (January 1, 2013). Behavioral Research in Accounting, 2013, Available at SSRN: https://ssrn.com/abstract=1187013 or http://dx.doi.org/10.2139/ssrn.1187013

Alisa Gabrielle Brink (Contact Author)

Virginia Commonwealth University ( email )

301 W. Main St.
PO Box 844000
Richmond, VA 23284
United States

Frederick W. Rankin

Colorado State University, Fort Collins - College of Business ( email )

Fort Collins, CO 80523
United States

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