The Management of Talent: Optimal Contracting for Selection and Incentives
55 Pages Posted: 17 Mar 2018 Last revised: 17 Apr 2020
Date Written: April 13, 2020
Optimally reallocating human capital to tasks is key for an organization to successfully navigate a transition. We study how to design employment contracts to allocate employees to different valuable projects within an organization given two simultaneous challenges: The employees have private information about their own cost of effort, and they exert unobservable effort. The organization has two types of valuable projects, high and low impact, only the former of which requires effort. It would like to assign only an employee with low effort cost to the high-impact project. We characterize the optimal contract and show how it separates the employee types. The optimal contract menu pairs a higher probability of assignment to the high-impact project with a lower bonus in case of success. A fixed salary may also be used for the employees with high cost of effort, but only in limited cases. We link our results to job design features encountered in practice.
Keywords: optimal employment contracts, internal labor markets, adverse selection, moral hazard
JEL Classification: D82, J31, M52
Suggested Citation: Suggested Citation