Contracting with type-dependent naïveté

Abstract

I analyse the optimal contracting behaviour of an employer who faces workers with different, incorrect beliefs about their productivity (naïve workers). Researchers in contract theory have analysed cases where the principal has full in-formation on agents’ true productivity, and cases where the principal has priors on productivity levels. I contribute to this discussion by introducing the novel assumption that workers’ naïveté depends on their actual productivity level. In particular, I focus on the use the employer makes of this information when designing contracts under asymmetric information. The results highlight a new trade-o the employer faces between exploiting strongly naïve workers and designing effcient contracts for the most widespread type of worker, according to her posteriors.