The Effects of Biasing Performance Measurement Systems on Incentives and Retention Decisions
Posted: 2 Aug 2018
Date Written: June 20, 2018
We examine a principal-agent setting in which the principal uses a performance measurement system for multiple purposes to provide incentives and for retention decisions. The principal chooses the nature and extent of bias in the system, which determines whether the performance report is stringent, neutral, or lenient relative to the unobservable actual outcome. We show that when the report is used only for incentive purposes, stringency alleviates moral hazard. On the other hand, there is a demand for leniency when the system is used only for retention decisions. Surprisingly, however, when the system serves an incentive role, we show that adding a fit evaluation role can accentuate the demand for stringency.
Keywords: incentive, retention, bias
Suggested Citation: Suggested Citation