ABSTRACT

This chapter examines the empirical work on explicit performance pay in the United States focusing on two main empirical questions: What are the determinants of its use, and what are its effects, if any? It focuses on explicit individual measures of performance pay, such as piece rates or commissions. Economic theory offers a straightforward prediction when firms can observe the effort put forth by their workers: it simply does not matter whether workers are paid a piece rate or a salary. The principal-agent model emphasizes how risk aversion by workers combined with the inability to observe effort affects the optimal sharing of risks and the provision of incentives. The role of unions in adopting explicit performance pay is ambiguous. Although the use of explicit performance pay is not very common, the data show that firms use a wide array of other tools such as profit sharing plans and bonuses, to motivate workers.