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American Economic Journal: Microeconomics: Vol. 4 No. 2 (May 2012)

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Incentive Schemes, Sorting, and Behavioral Biases of Employees: Experimental Evidence

Article Citation

Larkin, Ian, and Stephen Leider. 2012. "Incentive Schemes, Sorting, and Behavioral Biases of Employees: Experimental Evidence." American Economic Journal: Microeconomics, 4(2): 184-214.

DOI: 10.1257/mic.4.2.184

Abstract

We investigate how the convexity of a firm's incentives interacts with worker overconfidence to affect sorting decisions and performance. We demonstrate, experimentally, that overconfident employees are more likely to sort into a nonlinear incentive scheme over a linear one, even though this reduces pay for many subjects and despite the presence of clear feedback. Additionally, the linear scheme attracts demotivated, underconfident workers who perform below their ability. Our findings suggest that firms may design incentive schemes that adapt to the behavioral biases of employees to "sort in" ("sort away") attractive (unattractive) employees; such schemes may also reduce a firm's wage bill. (JEL D03, D83, J24, J31, M12)

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Authors

Larkin, Ian (Harvard U)
Leider, Stephen (U MI)

JEL Classifications

D03: Behavioral Economics: Underlying Principles
D83: Search; Learning; Information and Knowledge; Communication; Belief
J24: Human Capital; Skills; Occupational Choice; Labor Productivity
J31: Wage Level and Structure; Wage Differentials
M12: Personnel Management; Executive Compensation

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