Competing Through Contracts and Investments: Selection, Matching and Firm Organization in Residential Real Estate

Abstract: We examine the role of incentive contracts in directing sorting of workers into firms and in impacting the investment decisions by firms. We find, in our setting, that imperfect competition for workers leads higher-powered incentives to attract better workers but reduces investments in productive resources, leading, in equilibrium, higher ability workers to lower investment firms. We then show that the pattern of incentive contract choice of entrants matches the predictions of our model. A novel and detailed employer-employee panel with 13,000 firms covering an entire industry within a bounded region allows us to separately estimate the worker, firm, and equilibrium predictions. Our work bridges theories of personnel and organizational economics with important findings on the role of incentives and worker sorting and the interaction of labor market competition on organizational form and investment decisions by firms.