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Rewarding Successes Discourages Experimentation

Author

Listed:
  • Kimiko Terai
  • Amihai Glazer

Abstract

Consider a principal who allocates a fixed budget among risk-averse agents. Each agent first chooses a policy or project. After observing the outcomes of their choices, the principal allocates a larger budget to the agents who had adopted the policy with the superior outcome. A subgame perfect Nash equilibrium may have all agents make the same choice, though the principal would prefer that they experiment. If the number of agents is large, or if the principal commits to reducing the aggregate budget when no agent had the superior outcome, or if he commits to avoid funding a riskless policy, different agents can be induced to adopt different policies.

Suggested Citation

  • Kimiko Terai & Amihai Glazer, 2017. "Rewarding Successes Discourages Experimentation," FinanzArchiv: Public Finance Analysis, Mohr Siebeck, Tübingen, vol. 73(4), pages 361-381, December.
    • Handle: RePEc:mhr:finarc:urn:sici:0015-2218(201712)73:4_361:rsde_2.0.tx_2-k
    DOI: 10.1628/001522117X15006332556852
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    More about this item

    Keywords

    experimentation; risk aversion; budget allocation; innovation; federalism;
    All these keywords.

    JEL classification:

    • D23 - Microeconomics - - Production and Organizations - - - Organizational Behavior; Transaction Costs; Property Rights
    • D73 - Microeconomics - - Analysis of Collective Decision-Making - - - Bureaucracy; Administrative Processes in Public Organizations; Corruption
    • D81 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Criteria for Decision-Making under Risk and Uncertainty
    • H61 - Public Economics - - National Budget, Deficit, and Debt - - - Budget; Budget Systems
    • H77 - Public Economics - - State and Local Government; Intergovernmental Relations - - - Intergovernmental Relations; Federalism

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