INTENTION MATTERS IN EMPLOYMENT CONTRACT

ABSTRACT Two treatments are conducted to test the effect of employers' generosity on employees' effort level. In the first treatment, the intention is not observable to the employee while in the second treatment, the intention is observable. Higher wage is reciprocated with significantly higher effort level when the intention of generosity is observable. When intention of generosity is not observable, the positive relationship between wage and effort is not completely absent as employees still reciprocate to higher wage but with weaker tendency. Keywords: intention of generosity; gift-exchange; reciprocity 1. INTRODUCTION Many experimental results and field research have shown that people frequently choose actions that do not maximize monetary payoffs. For example, people reject unfair but positive offers in the ultimatum game (see, Guth et. al., 1982; Thaler, 1988, Camerer and Thaler, 1995) or make positive contribution in public goods game (see, Walker and Arlington, 1994; Sefton, et. al., 2007) or make positive allocations in a dictator game (see, Fowler, 2006; Hoffman et. al., 1994) . It is generally accepted in the literature that human behaviors are often governed by psychological and social preferences which lead them to sacrifice monetary payoffs in the course of maximizing utility. Considerable numbers of research have attempted to explain these behaviors. Altruistic behavior is among one of the explanations given, For an altruistic player, the increase in his utility is caused not by his own payoff but others'. (Andreoni and Miller, 1993; Dawes and Thaler, 1988). This suggests the existence of unconditional cooperation among the players. Another approach extends the unconditional altruism to incorporate distributive fairness. Fehr and Schmidt (1999) and Bolton and Ockenfels (2000) explain that reciprocal behaviour is not only motivated by own payoff but also relative payoff. This requires the model to measure the comparative performance such as in Clark and Oswald (1996) and Charness and Kuhn (2007) among others. The theory is further expanded to account for perceived kindness which emphasizes the importance of intention or one's belief about others' intention in a relationship. One leading model in this area is by Rabin (1993) and Falk et al. (2003). These papers investigate the roles of fair intention in Gift Exchange Game. A number of studies have shown that concerns for fairness are the main motivation for many economic transactions. The presence of this tendency has been proven to have important economic effects (Kahneman et. al., 1986; Camerer and Thaler, 1988 and Bewley, 1998). These models emphasize that in addition to preference for material payoff, humans also exhibit preference for fairness. The preference for fairness has been further modelled as the result of either intentional fairness or distributive fairness. Distributive fairness emphasizes on outcome of a fair or unfair action (Fehr and Schmidt, 1999; Bolton and Ockenfels, 2000 and Clark and Oswald, 1996), while intentional fairness dwells on intention of an action (Kelly and Stahelski, 1970; Greenberg and Frisch, 1972; Kahn and Tice, 1973; Rabin, 1993; Fehr and Gachter, 2000; Falk and Fischbacher, 2006; Dufwenberg and Kirchsteiger, 2004 and Falk et. al., 2008). While there are a number of studies that have incorporated intention in an experimental game setting, the role of intention in an experimental labor market setting remains unexplored. This paper examines the causes of reciprocity in a labor context. Do employees respond to fair or unfair distribution or do they respond to fair or unfair intention of the employers? Papers closest to our topic are Charness (2000) and Charness (2004). In Charness (2004), the responses of employees were compared when their wages were determined; by the experimenter, by random process and by the employers themselves. In all these treatments, employees behave based on the mechanism which determines the wage but do not know the intention. …