Please use this identifier to cite or link to this item: https://hdl.handle.net/10419/273803 
Year of Publication: 
2022
Series/Report no.: 
Tinbergen Institute Discussion Paper No. TI 2022-090/I
Publisher: 
Tinbergen Institute, Amsterdam and Rotterdam
Abstract: 
This paper investigates the optimal design of incentives when agents distort probabilities. We show that the type of probability distortion displayed by the agent and its degree determine whether an incentivecompatible contract can be implemented, the strength of the incentives included in the optimal contract, and the location of incentives on the output space. Our framework demonstrates that incorporating descriptively-valid theories of risk in a principal-agent setting leads to incentive contracts that are typically observed in practice such as salaries, lump-sum bonuses, and high-performance commissions.
Subjects: 
Contracts
Probability Weighting
Incentives
Mechanism Design
Rank-Dependent Utility.
JEL: 
D82
D86
J41
M52
M12
Document Type: 
Working Paper

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