Tournaments and Piece Rates Revisited : A Theoretical and Experimental Study of Premium Incentives

Tournaments represent an increasingly important component of organizational compensation systems. While prior research focused on xed-prize tournaments, i.e., on tournaments where the prize or prize sum to be awarded is set in advance, we introduce a new type of tournament into the literature: premium incentives. While premium incentives, just like xed-prize tournaments, are based on relative performance, the prize to be awarded is not set in advance but is a function of the rm's success: the prize is high if the rm is successful and low if it is not successful. Relying on a simple model of cost minimization, we are able to show that premium incentives outperform xed-prize tournaments as well as piece rates. Our theoretical result is qualitatively con rmed by a controlled laboratory experiment and has important practical implications for the design of organizational incentive systems