Does Mercy Bear Richer Fruits than Strict Justice? Implicit Effects of Subjective Rewards and Penalties in Tournaments

Abstract

This study explores the effects of subjective ex-post adjustments of objective performance in a tournament incentive contract including both rewards and penalties. We extend prior literature on the tradeoffs associated with subjectivity in performance evaluations by considering the effects of subjective rewards (penalties) not only on the members of the organization that explicitly receive them, but also on those that, as a mechanical consequence of the tournament structure, face implicit penalties (rewards). We predict and find that, in presence of subjective evaluations, performance effects related to implicit rewards (penalties) counterbalance those associated with explicit penalties (rewards). While the net effect between subjective rewards and implicit penalties is not significantly different than zero, we find that the balance between subjective penalties and implicit rewards is significantly positive. Our study documents effects of subjective evaluations that might alter the effectiveness of incentive systems, and are relevant for the practice of management accounting.