Reputation and Pay Structure in Dynamic Contracts
39 Pages Posted: 11 Aug 2013 Last revised: 14 Aug 2013
Date Written: August 14, 2013
Assuming a liquidity constrained agent, we characterize the optimal implicit contract in a repeated game characterized by moral hazard. With longer expected contract duration, bonus pay is shown to decrease while salary promise and productivity increase. We test our model using personnel data of an insurance company: accounting for the trade-off between salary and performance pay, we confirm that the former (latter) is positively (negatively) correlated with productivity. Longer expected contract duration impacts all three key variables -- i. e. performance pay, salary promise, and productivity -- as predicted by our theoretic model.
Keywords: implicit contract, explicit bonus pay, premature contract termination, compensation and productivity estimates
JEL Classification: J3, M5
Suggested Citation: Suggested Citation