Behavioural economics: a short run phenomena?

By Paul Walker 09/03/2014


Peter Klein at the Organizations and Markets blog points us to a paper which looked at an Indian tea plantation that changed its employment contract in such a way as to weaken the pay-for-performance incentives and found a substantial increase in output … at least in the beginning.

In the one month following the contract change, output increased by a factor between 30-60%, the exact number depending on the choice of counterfactual and the set of controls applied. This large and contrarian response to a flattening of marginal incentives is at odds with the standard model, including one that incorporates dynamic incentives, and it can only be partly accounted for by higher supervisory effort. We conclude that the increase is a “behavioral” response.

So the behavioural economists will be happy.

But,

Yet in subsequent months, the increase is comprehensively reversed. In fact, an entirely standard model with no behavioral or dynamic features that we estimate off the pre-change data, fits the observations four months after the contract change remarkably well.

So standard incentive theory strikes back.

The findings of the paper suggest that the behavioural responses may be transitory, especially in employment contexts in which the baseline relationship is delineated by financial considerations in the first place. This change over time does not sit well with the behavioral economics models. The paper’s results also suggest that when considering an empirical strategy for looking at changes in contracts it is better to examine responses to the change over an extended period of time.


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