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Theoretical and Applied Economics
No. 12 / 2010 (553)

Reputation and Market Wage as Contract Enforcement Device: An Experimental Evidence

Ch’ng KEAN SIANG
University Sains, Malaysia

Abstract. Shirking opportunity has always been present in an incomplete economic exchange in a labor-employer relation. Due to unverifiability of a contract, economic agents resort to reciprocal norm to enhance the co-operation and efficiency of the relation. This paper uses some data from Kean Siang et al. (2010) to investigate individual behavior. We experimentally show the reciprocal incentives can improve the relation by increasing the number of co-operations. In total we consider four experimental treatments, each treatment being distinguished by its type of information available to the workers and the type of interaction. We observe repetitive interaction and information about market wage enhance the reciprocal inclinations and co-operative behaviors of the workers. In our opinion repetitive interaction effect play a “punishment” role on the non-reciprocal workers and therefore force them to conform to the norm, and workers form the perception of fairness better when the information about market wage is available. We find that degree of conformation is higher when the information is available than the treatment when the information is not available. We conclude that the effectiveness of reciprocity as contract enforcement device can be improved if the workers can form perception of fairness based on relative wage.

Keywords: incomplete contract; reciprocal behavior; repeated game effect; wage differential; co-operation.

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