If effort is unobservable and revenues are riskless,firms can design incentive-compatible compensation schemes by offering workers:
A) profit shares.
B) increased nonmonetary benefits.
C) increased fixed salary.
D) decreased effort requirements.
E) increased future compensation in the form of retirement pay.

Question

Quizplus · Accepted Answer

Profit sharing allows workers to directly benefit from their efforts to increase revenues, creating a strong incentive for them to work hard and efficiently. Additionally, because revenues are riskless, there is no downside risk to profit sharing arrangements. Increased nonmonetary benefits or fixed salary can create some incentive, but workers may still lack motivation to perform at their highest level since they do not directly benefit from increased revenues. Decreased effort requirements or increased future compensation in the form of retirement pay would not address the issue of unobservable effort or provide any direct incentive for workers to increase revenues.

If Effort Is Unobservable and Revenues Are Riskless,firms Can Design