March 21, 2007
Presenter: Anja Sautmann
How does self-confidence play a role in an employment relationship?
In an employment contract, there is a crucial role for the employee's estimate of his or her own ability. This role comes from the need of incorporating incentives to work in the contract. Specifically, to make the employee work hard, the employer has to pay him based on his performance, or output. Confronted with an output-contingent contract, the employee in turn needs to decide about the amount of effort he wants to put in. But this decision depends on his own estimate of his "ability" - the level of output he thinks he can create with a certain amount of effort - or, in other words, his self-confidence.
The employer consequently needs to take into account how the employee will react to a given incentive scheme. In particular, she has to adjust the contract to the level of self-confidence of the employee. It can be shown that an employer who is aware of a self-confidence bias in her employee exploits this bias by making overconfident employees work harder, by providing them with stronger incentives.
A consequence of this is that individuals perceived as over- or underconfident obtain different payment schemes and wage contracts. Moreover, if self-confidence is correlated with other characteristics, we will observe a difference in wages according to these characteristics. The most striking example is gender: since there is ample evidence that women are less confident in their abilities than men are (or men are more overconfident), the employer rationally offers women lower incentives and thus induces lower effort from them. This true even if there is no difference in ability or productivity between men and women.