Can Group Incentives Alleviate Moral Hazard? The Role of Pro-Social Preferences

34 Pages Posted: 24 May 2016 Last revised: 30 Jan 2017

See all articles by Christian Biener

Christian Biener

Institute of Insurance Economics, University of St. Gallen; University of St. Gallen - School of Finance

Martin Eling

University of St. Gallen - Institute of Insurance Economics; University of Saint Gallen - School of Finance (SoF)

Andreas Landmann

Paris School of Economics (PSE)

Shailee Pradhan

University of Saint Gallen - School of Finance (SoF)

Date Written: May 23, 2016

Abstract

Incentivizing unobservable effort in risky environments, such as in insurance, credit, and labor markets, is vital as moral hazard may otherwise cause significant welfare losses including the outright failure of markets. Ensuring incentive-compatibility through state-contingent contracts between principal and agent, however, is undesirable for risk-averse agents. We provide theoretical intuition on how pro-social preferences between agents in a joint liability group contract can ensure incentive-compatibility. Two independent large-scale behavioral experiments framed in an insurance context support the hypotheses derived from our theory. In particular, effort decreases when making agents’ payoff less state-dependent, but this effect is mitigated with joint liability in a group scheme where agents are additionally motivated by pro-social concerns. Activating strategic motives slightly in-creases effort further; particularly in non-anonymous groups with high network strength. The results suggest that joint liability within groups of pro-social agents is a promising policy to improve efficiency under risk and asymmetric information.

Keywords: Moral hazard, Group joint liability, Pro-social preferences, Experiments

JEL Classification: D03, D81, D82, G22

Suggested Citation

Biener, Christian and Eling, Martin and Landmann, Andreas and Pradhan, Shailee, Can Group Incentives Alleviate Moral Hazard? The Role of Pro-Social Preferences (May 23, 2016). University of St.Gallen, School of Finance Research Paper No. 2016/10. Available at SSRN: https://ssrn.com/abstract=2783412 or http://dx.doi.org/10.2139/ssrn.2783412

Christian Biener (Contact Author)

Institute of Insurance Economics, University of St. Gallen ( email )

Girtannerstrasse 6
St. Gallen, St. Gallen 9010
Switzerland

HOME PAGE: http://sites.google.com/site/bienerresearchprofile/

University of St. Gallen - School of Finance ( email )

Unterer Graben 21
St.Gallen, CH-9000
Switzerland

Martin Eling

University of St. Gallen - Institute of Insurance Economics ( email )

Kirchlistrasse 2
St. Gallen, 9010
Switzerland

University of Saint Gallen - School of Finance (SoF) ( email )

Unterer Graben 21
St.Gallen, CH-9000
Switzerland

Andreas Landmann

Paris School of Economics (PSE) ( email )

48 Boulevard Jourdan
Paris, 75014 75014
France

Shailee Pradhan

University of Saint Gallen - School of Finance (SoF) ( email )

Unterer Graben 21
St.Gallen, CH-9000
Switzerland

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