Team Incentives and Reference-Dependent Preferences
41 Pages Posted: 6 Sep 2011 Last revised: 16 Sep 2012
Date Written: September 14, 2012
We investigate a multi-agent moral-hazard model where agents have expectation-based reference-dependent preferences a la Koszegi and Rabin (2006, 2007). We show that even when each agent's probability of success in a project is independent, team incentives can be optimal. Because the agents are loss averse, they have first-order risk aversion to wage uncertainty. This causes the agents to work harder when their own failure is stochastically compensated through other agents' performance. In the optimal contract, both high- and low-performance agents are equally rewarded if most agents accomplish their projects; otherwise only high-performance agents are rewarded.
Keywords: Moral Hazard, Team Incentives, Reference-Dependent Preferences, Loss Aversion, Performance Evaluation
JEL Classification: D86, M12, M52
Suggested Citation: Suggested Citation