The Impact of Performance Pay on Racial Discrimination

In this study we analyze the impact of a switch to performance pay on negative stereotypes in a model of statistical discrimination. We introduce effort incentives in the model by Coate and Loury (1993) and analyze discriminatory outcomes under different wage regimes. We show that negative stereotypes are possibly eradicated when performance pay is introduced. However, we find that a weak relationship between worker effort and firm output might result in an increase in the absolute level of discrimination when performance pay is introduced.