| Summary: | This paper argues that the prevalence of compensation systems which reward winners without explicitly identifying losers can be rationalized by workers' concern for relative payoffs. If the workers' participation constraints are binding, the firm must compensate its employees for the disutility that they may derive from low status. It follows that profit-maximizing employers may be particularly reluctant to penalize or give poor performance evaluation to employees. The theory also sheds light on many other puzzling features of incentive schemes in practice, such as small salary premia, rat races, job title proliferation, the gender wage gap, the gender/happiness paradox and the widespread use of tournaments as a sorting device.
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