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Title:Binary payment schemes: Moral hazard and loss aversion PDF Logo
Authors:Herweg, Fabian
Müller, Daniel
Weinschenk, Philipp
Issue Date:2010
Series/Report no.:Preprints of the Max Planck Institute for Research on Collective Goods 2010,38
Abstract:We modify the principal-agent model with moral hazard by assuming that the agent is expectation-based loss averse according to Köszegi and Rabin (2006, 2007). The optimal contract is a binary payment scheme even for a rich performance measure, where standard preferences predict a fully contingent contract. The logic is that, due to the stochastic reference point, increasing the number of different wages reduces the agent's expected utility without providing strong additional incentives. Moreover, for diminutive occurrence probabilities for all signals the agent is rewarded with the fixed bonus if his performance exceeds a certain threshold.
JEL:D82
M12
M52
Document Type:Working Paper
Appears in Collections:Preprints of the Max Planck Institute for Research on Collective Goods

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