Team Incentives in Relational Employment Contracts

The article analyzes conditions for implementing incentive schemes based on, respectively, joint, relative, and independent performance in a relational contract between a principal and a team of two interacting agents. A main result is that the optimal incentive regime depends crucially on the productivity of the agents. This occurs because agents’ productivities affect the principal’s temptation to renege on the relational contract. The analysis suggests that we will see a higher frequency of relative performance evaluation—and schemes that lie close to independent performance evaluation—as we move from low‐productive to high‐productive environments.