Economics of contests: theory and evidence

This thesis consists of three chapters devoted to the study of the economics of contests. Each chapter can be read independently. A special attention is placed on teams’ behaviour and team-incentive schemes. These questions are particularly important as the way in which institutions reward individuals shapes the inequality of the group to which these individuals belong. Chapter 1. Optimal Prize Allocations in Group Contests. We characterize the optimal prize allocation, namely the allocation that maximizes a group’s effectiveness, in a model of contests. The model has the following features: (i) it allows for heterogeneity between and within groups; (ii) it classifies contests as “easy” and “hard” depending on whether the marginal costs are concave or convex. Thus, we show that in an “easy” contest the optimal prize allocation assigns the entire prize to one group member, the most skilled one. Conversely, all group members receive a positive share of the prize when the contest is “hard” and players have unbounded above marginal productivities. If the contest is “hard” and the marginal productivities are bounded above, then only the most skilled group members are certain of receiving a positive share of the prize for any distribution of abilities. Finally, we study the effects of a change in the distribution of abilities within a group. Our analysis shows that if the contest is either “easy” or a particular subset of “hard”, then the more the heterogeneity within a group, the higher its probability of winning the prize. Chapter 2. Inequalities within Groups: Theory and Evidence. We study the design of a team in multi-team contests. Is it better to distribute prizes among players equally, or to just one player? And is it better to spend a budget on a diverse team with stars and rookies, or on an equal team? First, we study these questions theoretically. We find that depending on the production function, it is either optimal to (i) hire superstars and rookies, and reward superstars the most, or (ii) hire a homogeneous team and reward everyone equally. Then, we test the first set of predictions in the lab. Unlike the theory, superstars or concentrated rewards alone do not help a team win. Both must be used together. Chapter 3. Model of War of Attrition with Outside Options. We study a model of war of attrition with outside options. In a society that allocates rewards via tournaments, individuals decide how much resources dedicate towards winning the prize. Conflicts are of incomplete information and agents’ type consist of their drawn valuation of the prize and valuation of the outside option. We show that this model can be reduced to a standard war of attrition with one signal. Further, we derive the symmetric perfect Bayesian equilibrium of the game and discuss possible applications