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http://hdl.handle.net/10419/30169
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| Title: | | When high-powered incentive contracts reduce performance: choking under pressure as a screening device  |
| Authors: | | Bannier, Christina E. Feess, Eberhard |
| Issue Date: | | 2010 |
| Series/Report no.: | | Working paper series // Frankfurt School of Finance & Management 135 |
| Abstract: | | Empirical and experimental papers find that high-powered incentives may reduce performance rather than improve it; a phenomenon referred to as choking under pressure. We show that competition for high ability workers nevertheless leads firms to offer high bonus payments, thereby deliberately accepting pressure-induced performance reductions. Bonus payments allow for a separating equilibrium in which only high ability workers choose high-powered incentive contracts. Low ability workers receive fixed payments and produce their maximum output which, however, is still below the reduced output of high ability workers. Bonus payments lead to a social loss which is increasing in the degree of competition. Our paper helps to explain why steep incentive schemes are persistent in highly-competitive industries such as investment banking, and why the observed performance sensitivity of CEO compensation is largely heterogeneous. |
| Subjects: | | Performance-related pay screening choking under pressure competition |
| JEL: | | D86 J31 J33 |
| Document Type: | | Working Paper |
| Appears in Collections: | | Frankfurt School - Working Paper Series, Frankfurt School of Finance and Management
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