Market Competition and the Effectiveness of Performance Pay

Published online: December 24, 2020 at https://doi.org/10.1287/orsc.2020.1392

Commentary

It is well established that the effectiveness of Pay-for-Performance (PfP) schemes depends on employee and organization-specific factors. However, less is known about the moderating role of external forces such as market competition.

Researchers have theorized that competition produces two reactionary effects: residual market and competitor response.

Effect - depends on competition and jointly produces a curvilinear relationship between PfP effectiveness and competition.

Weak competition discourages effort response to PfP because there is little remaining market to gain from rivals, while strong competition weakens incentives because offsetting responses from competitors are more likely.

Thus, the results show that PfP has the strongest effect under moderate competition.

Field data from a bakery chain and its competitive environment are considered to have taken the opportunity to confirm this theory and to refute some alternative interpretations.