Envy in the Workplace Ester Manna * February 11, 2016 Abstract I study how envy in the workplace affects the optimal employment contract when employ- ees differ in their productivity and this is their private information. The employees’ envy towards their colleagues distorts the levels of effort exerted by the less productive employ- ees. However, when employees are also envious towards their boss this distortion is mitigated. Keywords: Adverse-Selection Model, Envious Employees. JEL classifications: D03, D82, M54. 1 Introduction Lavish CEO compensation often makes headlines and many commentators highlight how exec- utives’ bonuses and perks can rankle. This is especially so when there is a hefty difference with the average worker pay (see Mishel and Sabadish, 2012). Moreover, pay inequality among peers can also be detrimental to the work atmosphere as highlighted by recent experimental evidence (see Breza et al., 2015). Surveys and empirical evidence show that employees are interested in how their wage compares to the firm’s profits and/or to the colleagues’ wage (see Bewley, 1995, 1999, Blinder and Choi, 1990, Campbell and Kamlani, 1997, and Card et al., 2012). This paper studies the interaction between envy towards the boss and the colleagues. So far these two forms of envy have been studied separately. Dur and Glazer (2008) have studied the case in which employees are envious towards their boss. The present article departs from their analysis considering that employees can differ in their productivity and this is their own private information. Moreover, like Desiraju and Sappington (2007) and von Siemens (2011, 2012), I assume that employees can envy their peers. In the model, I consider both forms of envy simultaneously and I highlight the presence of an interaction effect between them. By focusing on an adverse-selection problem, this paper also complements the literature that studies optimal incentive contracts when employees are motivated by fairness considerations in a moral hazard setting (see among others Bartling and von Siemens, 2010, Englmaier and Wambach, 2010, Kragl and Schmid, 2009, and Neilson and Stowe, 2010). 1 * ester.manna1@gmail.com. Universitat de Barcelona, Department of Economic Theory, Av. Diagonal, 696, 08034 Barcelona, Spain. 1 With the exception of Englmaier and Wambach (2010), the other articles cited in the text study a situation in which the employees envy their colleagues but not their boss. 1