Effects of IT-Enabled Monitoring on Labor Contracting in Online Platforms: Evidence from a Natural Experiment

Abstract

Two-sided platforms are typically plagued with asymmetric information, limiting market efficiency. Situated in the context of the increasingly popular online platforms for labor contracting (herein referred to as “online labor markets”), this paper investigates whether the implementation of an IT-enabled monitoring system mitigates moral hazard in online platforms and the consequences thereof. Our identification hinges on a natural experiment at Freelancer when it introduced an IT-enabled monitoring system with enhanced offline tracking features in August 2015. Based on a unique dataset including 17,827 fixed-price projects and 8,563 time-based projects matched on observable characteristics, we employ a difference-in-differences (DID) approach to identify the treatment effect of the monitoring system implementation on various outcomes from both the employer (demand) side and the contractor (demand) side, including employer contractor choice, platform entry barrier and employer surplus. We found that the implementation of the monitoring system lowers the employers’ preference for high-reputation bidders in time-based projects, and thus reduces the reputation premiums and partially lowers the entry barrier for contractors who have not yet established a reputation on the platform. Specifically, using fixed-price projects as the baseline, on average, the implementation of the monitoring system increased the number of bids by 17.4% (primarily from bidders with no prior experience on the platform) and increased employer surplus in time-based projects by 21.5%. Our results testify the partial substitution relationship between reputation systems and monitoring systems, and suggest that IT-enabled monitoring systems have a significant effect on alleviating moral hazards, reducing agency costs, and intensifying supply-side platform competition.