The agency costs of on-the-job search

Abstract This paper studies how workers' on-the-job search influences optimal incentives in organizations. We analyze a principal-agent model in which the agent multitasks between working for the principal and searching for other job opportunities. The agent partly uses on-the-job search to improve his bargaining position within the relationship. We show that the optimal contract may feature both excessive performance bonuses as well as efficiency wages. Both measures reduce the agent's search incentives, but do not completely eliminate rent-seeking under the optimal contract. On-the-job search therefore generates agency costs. The model suggests a new rational for excessive incentive pay and efficiency wages.