What is tournament theory in simple terms?

Firms motivate effort by giving a big prize, such as promotion, to whoever outperforms peers.

What are the drawbacks?

Large gaps can encourage sabotage and reduce cooperation.

Tournament Theory

📈 Economics By CampusDown Wiki Editorial Team Last updated October 27, 2026

Tournament theory holds that when individual output is hard to measure, paying promotions and prizes according to relative rank among peers can efficiently elicit effort. It helps explain why pay gaps widen sharply at higher levels of a hierarchy.

Contents

1. The basic model
2. Evidence
3. Side effects
4. FAQ
5. References

The basic model

Lazear and Rosen (1981) showed rank-order prizes can elicit effort without measuring output, so top pay acts as a prize motivating those below, a solution within agency theory.

Evidence

Ehrenberg and Bognanno (1990) studied golf, Main and colleagues (1993) executive pay and Knoeber and Thurman (1994) broiler contracts. The theory links to internal labour markets and the economics of superstars.

Side effects

Lazear (1989) warned large spreads invite sabotage, Connelly and colleagues (2014) reviewed fairness and teamwork, and Lazear (2018) compared tournaments with piece rates and efficiency wages.

FAQ

What is tournament theory in simple terms?: Firms motivate effort by giving a big prize, such as promotion, to whoever outperforms peers.
What are the drawbacks?: Large gaps can encourage sabotage and reduce cooperation.

Sources reviewed: 2026-10-26

References

Lazear, E. P., & Rosen, S. (1981). Rank-order tournaments as optimum labor contracts. Journal of Political Economy, 89(5), 841–864. The founding paper.
Lazear, E. P. (1989). Pay equality and industrial politics. Journal of Political Economy, 97(3), 561–580. Sabotage and pay compression.
Ehrenberg, R. G., & Bognanno, M. L. (1990). Do tournaments have incentive effects? Journal of Political Economy, 98(6), 1307–1324. Evidence from professional golf.
Main, B. G. M., O'Reilly, C. A., III, & Wade, J. (1993). Top executive pay: Tournament or teamwork? Journal of Labor Economics, 11(4), 606–628. Executive pay as tournament.
Knoeber, C. R., & Thurman, W. N. (1994). Testing the theory of tournaments: An empirical analysis of broiler production. Journal of Labor Economics, 12(2), 155–179. Evidence from broiler contracts.
Connelly, B. L., Tihanyi, L., Crook, T. R., & Gangloff, K. A. (2014). Tournament theory: Thirty years of contests and competitions. Journal of Management, 40(1), 16–47. A thirty-year review.
Lazear, E. P. (2018). Compensation and incentives in the workplace. Journal of Economic Perspectives, 32(3), 195–214. An accessible overview of pay incentives.

Reports and materials that use this theory (Korean)

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Agency Theory (Corporate Governance)Agency theory explained: Berle and Means on the separation of ownership and control, Jensen and Meckling's agency costs (monitoring, bonding, residual loss), information asymmetry and moral hazard, governance mechanisms, and limits.💼 Business Efficiency Wage TheoryWhat efficiency wage theory is: firms paying above market-clearing wages to raise productivity, the shirking, turnover, adverse selection and fairness models, Ford's $5 day, industry wage gaps and involuntary unemployment.📈 Economics Economics of SuperstarsWhat the economics of superstars is: why small differences in talent produce huge differences in earnings. Covers Rosen's model, Adler's alternative, tournament theory, cultural market experiments, CEO pay and top income research.📈 Economics Internal Labor Market TheoryInternal labor market theory explained: Doeringer and Piore's (1971) idea that pay and job allocation inside a firm follow administrative rules and job ladders rather than market forces. Covers causes, ports of entry, pros and cons, and dual labor markets.📈 Economics

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This article was last updated on October 27, 2026. It is based on widely recognized original works and textbooks; when citing it in a paper, please check the original sources listed in the references.