2011-052

Extra E¤ort

Horizontal Reciprocity

Negative Reciprocity

Whether friendship or competitive relationships deserve to be encouraged in the workplace is not obvious a priori. In this paper we derive the conditions under which a profit-aximizing employer finds it convenient to induce a rat race among workers exhibiting horizontal reciprocity in order to obtain underpaid or unpaid extra e¤ort. We characterize the optimal compensation scheme under both symmetric and asymmetric information about workers’actions, and we also derive conditions for our result to hold in the presence of vertical reciprocity.