Essays on Incentives and Promotions

In this thesis, I study the problem of setting right incentives using promotion opportunities in organizations and its implications. In the first chapter, I consider an environment assuming that a firm can commit to different promotion policies and highlight the role of commitment in promotion policy. In the presence of external hiring, committing to promotions can sharpen the incentive provisions. There is a trade-off between incentive provisions and job assignment. I show that a full commitment promotion policy is optimal if and only if the incentive role in promotion dominates the assignment role. In addition, I provide a strategic reason for not committing to promotions. Keeping external hiring open has a higher expected output for high-level positions. In the second chapter, I explore the commitment role of training by considering an environment in which a firm cannot commit to a promotion policy but can commit to a given training level. I show that training can sharpen incentive provisions by increasing the promotion rate. This is twofold. First, training can increase profit by saving on wage costs or increasing outputs provided that promotions can provide incentives. Second, training increases the range over which promotion can provide incentives. From this perspective, I argue that training can serve as a commitment device for promotion policies. The third chapter provides empirical evidence to support the findings in chapter 1. I examine the relationship between promotion rate and firm rank level profit of white-collar workers employed in Finnish manufacturing from 2002 to 2019. I show that promotion and firm rank level profit have a concave relationship. The result is robust in different settings and consistent with the theoretical model in chapter 1. This indicates that promotion policy is a firm’s strategy to maximize its profit, which depends on firm rank level profitability and other characteristics.