COMPETITION, LONG-RUN CONTRACTS AND INTERNAL INEFFICIENCIES IN FIRMS

Internal reward structures in firms are often integral parts of their 'culture', and are changed infrequently in comparison to decisions abo ut e.g., prices. This paper investigates how this feature of firm orga nization provides a mechanism through which product-market competition affects firms' internal efficiency. The design of firms' internal org anization is modeled as a choice of an incentive structure between a p rincipal and an agent, with strategic implications for firm's competit ive positions on the product market. It is shown that - contrary to po pular beliefs - there may be a negative relation between the competiti veness of the product market and effort incentives.