Management Accounting Section Midyear Meeting

Promote Internally or Hire Externally? The Role of Gift Exchange and Performance Measurement Precision

• In Event: Performance Management

Abstract

Managers often face the difficult choice between promoting an internal employee and hiring an external candidate. Using an interactive experiment, we examine drivers of managers’ promote/hire decision and internal employees’ behavior before and after that decision. Consistent with gift exchange theory, employees exert more costly effort closer to the promote/hire decision, and managers respond by promoting those who exert high effort, despite their inferior ability compared to the external candidates. Results suggest that managers view employees’ past effort as both a gift to reciprocate and also a signal of their future effort. Moreover, we find that managers are more likely to promote internally rather than hire externally under a less precise performance measurement system, and this result is driven by managers who observe low employee output. Finally, many promoted employees continue to exert high costly effort to benefit their managers after promotion, despite no future economic benefits from doing so.

Authors

• Eric W. Chan, The University of Texas at Austin

• Jeremy Lill, University of Kansas

• Victor Maas, University of Amsterdam