Designing credit agent incentives to prevent mission drift in pro-poor microfinance institutions

Credit agents in microfinance institutions (MFIs) must be given incentives to acquire information on potential borrowers and select them in accordance with the MFI's objectives. We show that while giving incentives has no cost in for-profit MFIs, it is costly in pro-poor MFIs: When repayment and wealth are positively correlated, a pro-poor MFI cannot obtain the selection of poor clients in the proportion it wishes with incentives based solely on repayment. It then becomes necessary to audit the share of very poor borrowers selected by an agent in order to provide the latter with adequate incentives. When audit costs are large, pro-poor MFIs may have to forego selection on wealth — and use other targeting devices such as working in impoverished geographical locations. Driven by donor concerns with ‘mission drift’ away from the poor, audits on the wealth status of clients have been introduced at the level of MFIs. We show that introducing pro-poor incentives requires extending such audits to the level of credit agents.     

Mixed up? that’s good for motivation

We show that career concerns can arise in the absence of ex ante uncertainty about an agent’s type, if his unobservable actions influence future productivity. Implementing effort in mixed strategies allows the principal to endogenously introduce uncertainty about the agent’s ex post productivity and generate reputational incentives. Creating such ambiguity can be optimal for the principal, even though this exposes the agent to additional risk and reduces output. This finding for an environment with imperfect commitment contrasts with standard agency models, where implementing mixed strategy actions typically is not optimal if pure strategies can also be implemented.     

Career concerns in a simple experimental labour market

We experimentally investigate a simple version of Holmström's career concerns model in which firms compete for agents in two consecutive periods. Profits of firms are determined by agents’ unknown ability and the effort they choose. Before making second-period wage offers firms are informed about first-period profits. In a different treatment firms additionally learn the abilities of agents. Theory suggests high first-period equilibrium effort in the hidden ability treatment but no effort elsewhere. However, we find that effort tends to be higher in the revealed ability treatment and therefore conclude that transparency does not weaken, but strengthen career concerns incentives.     

Career concerns and firm – sponsored general training

This article studies the provision of firm-sponsored general training in the presence of workers' career concerns. The model builds on the argument that the provision of general training reduces the employer's monopsony power. In this context, it is shown that the worker's implicit incentives to provide effort increase with the level of acquired general skills. The employer takes this reciprocal effect into account and becomes more willing to invest in general human capital. When the positive effect of training on worker's effort incentives is strong enough, the equilibrium outcome may involve overinvestment relative to the first-best. It is also shown that a sharper increase in worker's power associated with additional training may either strengthen or weaken the employer's investment incentives and can have either beneficial or detrimental effects on welfare.     

MARKET‐BASED INCENTIVES

In this article, we study market‐induced, external incentives similar to career concerns jointly with standard, contractual incentives linking compensation to performance. We consider a dynamic principal–agent problem in which the agent's outside option is determined endogenously in a competitive labor market. In equilibrium, strong performance increases the agent's market value. When this value becomes sufficiently high, the threat of the agent quitting forces the principal to increase the agent's compensation. The prospect of obtaining this raise gives the agent an incentive to exert effort, which reduces the need for standard incentives. In fact, whenever the agent's option to quit is sufficiently close to being “in the money,” the market‐induced incentive eliminates the need for standard incentives altogether: Compensation becomes completely insensitive to current performance.     

CAREER CONCERNS,MATCHING, AND OPTIMAL DISCLOSURE POLICY*

Raiders may suffer from information disadvantage since the current employer is often better informed about his workers' quality. When workers have career concerns and matching influences productivity, the initial employer can strategically disclose information to influence incentives and matching efficiency. Long‐term complete contracts induce full disclosure when raiders are perfectly competitive. The optimal short‐term contract induces full disclosure if raiders are perfectly competitive, and the workers are risk neutral and are not liquidity constrained. These conditions are not only sufficient but also “almost necessary” for full disclosure. Partial disclosure may be optimal if any of these conditions is relaxed.     

Reputational Herding in Financial Markets: A Laboratory Experiment

We study reputational herding in financial markets in a laboratory experiment. In the spirit of Dasgupta and Prat [2008], career concerns are introduced in a sequential asset market where wages for investors are set by subjects in the role of employers. Employers can observe investment behavior, but not investors' ability types. Thereby, reputational incentives may arise endogenously. We find that a sizable fraction of investors follows an established trend even in a setting where there are no reputational incentives. In a setting where there are reputational concerns, they do not seem to create substantial herd behavior.     

Moral hazard contracts: Does one size fit all?

We show that firms' practice of anonymous contracts (“one-size-fits-all”) can be reconciled with standard agency theory if careers are marked by frequent transitions between employers, and agents have career concerns because complete long-term contracts are not feasible.     

The Economics of Career Concerns, Part I: Comparing Information Structures

Many incentives in organizations arise not through explicit formal incentive contracts but rather implicitly through career concerns. This paper models career concerns through agents trying to manipulate the market assessment of their future productivity. The information flow from current actions to market assessment is therefore crucial in determining the nature of these incentives. Improved information may either increase or reduce incentives. The impact of information provides a major distinction between the explicit and implicit incentives model. The paper derives general results on comparisons of information structures which serve as counterparts to the standard results on information structures in the principal–agent model: sufficient statistic, impact of a Blackwell garbling, comparison of inclusive information structures.     

Collusion and biased tournaments

Tournaments are vulnerable to collusion. This paper finds that biased tournaments can be more effective at preventing collusion than unbiased ones. When agents can collude to exert low effort, introducing some bias into tournaments generates opposite effects on favored and disfavored agents׳ respective incentives to exert high effort and provides strong incentives for the favored agent to deviate from collusion. Introducing an adequate degree of bias reduces the principal׳s incentive cost for preventing collusion; however, granting excessive bias instead increases the incentive cost. We show that the optimal level of bias can be endogenously determined.     

Up or Out: Research Incentives and Career Prospects of Postdocs in Germany

Academic careers in Germany have been under debate for a while. We conduct a survey among postdocs in Germany to analyze the perceptions and attitudes of postdocs regarding their research incentives, their working conditions, and their career prospects. We conceptualize the career prospects of a postdoc in a life‐cycle perspective of transitions from academic training to academic or non‐academic jobs. Only about half of the postdocs sees strong incentives for academic research, but there is quite a strong confidence to succeed in an academic career. Furthermore, postdocs who attended a PhD program show better career prospects and higher research incentives compared to others. Academic career prospects and motivation are strongest for assistant professors. Apart from this small group, however, postdocs report only a small impact of the university reforms of the last decade. Female postdocs show significantly higher research incentives but otherwise we find little gender differences. Finally, good prospects in non‐academic jobs are not associated with a reduction in the motivation for research.     

Incentives and group identity

This paper investigates in a principal–agent environment whether and how group membership influences the effectiveness of incentives and when incentives can have “hidden costs”, i.e., a detrimental effect. We show experimentally that in all interactions control mechanisms can have hidden costs for reasons specific to group membership. In within-group interactions control has detrimental effects because the agent does not expect to be controlled and reacts negatively when being controlled. In between-group interactions, agents perceive control more hostile once we condition on their beliefs about principals' behavior. Our finding contributes to the micro-foundation of psychological effects of incentives.     

Trade-induced productivity gains reduce incentives to impose strategic tariffs

Strategic tariffs, which raise an economy's welfare by restricting trade and improving the terms of trade, can create an obstacle to free trade. We evaluate how far trade-induced productivity gains (technology spillovers) reduce or remove this obstacle, because more intensive trade enhances these potential gains. Based on theory and the World Input-Output Database (WIOD) we estimate stronger import-induced than export-induced productivity gains. We feed the theory and the estimates into a global Computable General Equilibrium (CGE) model calibrated to WIOD. We find that the USA's, China's and the EU's optimal tariffs are reduced by less than 20%, Russia's and India's by around 25% and Brazil's by 40% when taking endogenous trade-induced productivity gains into account. Nonetheless, incentives for single economies to impose strategic tariffs persist. Particularly large, trade-intensive downstream sectors producing distinct goods incentivize high sectoral optimal tariffs. A global free trade agreement could overcome such incentives and maximize the trade-induced productivity gains.     

Modelling countervailing incentives in adverse selection models: A synthesis

This paper is concerned with countervailing incentives in the adverse selection problems that typically arise in principal-agent relationships when the agent has private information. These incentives are present when the agent is tempted to either overstate or understate his private information depending upon the specific realization of his type. These problems were first analyzed by Lewis and Sappington (1989) and have been characterized and extended by Maggi and Rodríguez-Clare (1995a) and Jullien (2000). In this paper we propose a simple method of characterizing countervailing incentives in which the key element is the analysis of the properties of the full information problem. Our method for solving the principal problem, once identified the presence of countervailing incentives, follows closely the Baron’s (1989) approach, which does not require using optimal control theory. The methodology we present can be easily applied to many different economic settings. For example, in health economics, an insurer (or a hospital manager) might act as a principal and a physician as an agent. In labor settings, an employer may play the role of principal and a worker may act as the agent. In regulated industries, the regulatory agency might act as a principal designing incentive schemes for firms (the agents). In environmental regulation or resource exploitation, the principal might be an international agency dealing with national governments or firms.     

Disentangling managerial incentives from a dynamic perspective: The role of stock grants

We analyse the optimal contract between a risk‐averse manager and the initial shareholders in a two‐period model where the manager's investment effort, carried out in period 1, and his or her current effort, carried out in period 2, both impact the second‐period profit, so that it may be difficult to disentangle the incentives for these two types of effort. We show that stock grants play different roles according to whether the signal of investment effort is less noisy, or noisier, than that of current effort. We determine simultaneously the optimal stock grants and the optimal restrictions on sales of shares.     

Optimal personal bankruptcy design under moral hazard

In this paper, we develop a normative theory of unsecured consumer credit and personal bankruptcy based on the optimal trade-off between incentives and insurance. First, in order to characterize this trade-off, we solve a dynamic moral hazard problem in which agents' private effort decisions influence the life-cycle profiles of their earnings. We then show how the optimal allocation of individual effort and consumption can be implemented in a market equilibrium in which (i) agents and intermediaries repeatedly trade secured and unsecured debt instruments, and (ii) agents obtain (restricted) discharge of their unsecured debts in bankruptcy. The structure of this equilibrium and the associated restrictions on debt discharge closely match the main qualitative features of personal credit markets and bankruptcy law that actually exist in the United States.     

Government incentive strategies and private capital participation in China’s Shale gas development

Shale gas development investments are uncertain and irreversible in the initial stage in China. Flexible incentive strategy is needed for governments to guide private capital participation at different development stages. This study aims to provide analysis governments can use to encourage private investment in shale gas projects according to its plans in an extended real options framework. A social benefits variable is introduced to determine the threshold of social benefits that determine whether the government will choose a deferred or instant incentives strategy. By considering the efficiency factor, we show the optimal arrangements of two kinds of incentives: tax cuts and production subsidies, to implement incentive targets. The results indicate that current market demand and social benefits are the key factors that affect the government’s choice of incentive strategy. We also find that the optimal level of incentives, either tax cuts or production subsidies, are independent of current market demand and future market uncertainty under the delayed incentive strategy, but which affect the optimal level of incentives under the instant motivation strategy, and ignoring the negative influence of unpredictable random events on future market demand might lead to insufficient government incentives in this case.     

Prizes and patents: Using market signals to provide incentives for innovations

We consider environments in which agents other than innovator receive the signals about the quality of innovation. We study whether mechanisms can be found which exploit market information to provide appropriate incentives for innovation. If such mechanisms are used, the innovator has incentives to manipulate market signals. We show that if an innovator cannot manipulate market signals, then the efficient levels of innovation can be uniquely implemented without deadweight losses – for example, by using prizes. Patents are necessary if the innovator can manipulate market signals. For an intermediate case of costly signal manipulation, both patents and prizes may be optimal.     

Optimal dynamic risk sharing when enforcement is a decision variable

Societies provide institutions that are costly to set up, but able to enforce long-run relationships. We study the optimal decision problem of using self-governance for risk sharing or governance through enforcement provided by these institutions. Third-party enforcement is modelled as a costly technology that consumes resources, but permits the punishment of agents who deviate from ex ante specified allocations. We show that it is optimal to employ the technology whenever commitment problems prevent first-best risk sharing and fixed costs are sufficiently low, but never optimal to provide incentives exclusively via this technology. Commitment problems then persist and the optimal incentive structure changes dynamically over time with third-party enforcement monotonically increasing in the relative inequality between agents.     

On the strength of corporate cultures

We model corporate culture(s) as production technologies for which employees have to undertake culture-specific investments that improve their effectiveness. At a later date, the organization can adopt cultural changes that make this investment partially redundant. This leads to under-investment. However, as agents invest more, the organization's opportunity cost of a change increases, which in turn increases each agents' incentives to invest. This externality among agents leads to multiple equilibria. Otherwise similar organizations can thus exhibit either high investment levels and low probability of changes (strong culture) or low investment levels and high probability of changes (weak culture). We also explore some implications for the nature and management of corporate culture.