An Agency Model With Reference Dependent Preferences & Applications To Self Fulfilling Prophecy

The Pygmalion and Galatea Eﬀects: An AgencyModel with Reference-Dependent Preferences andApplications to Self-Fulﬁlling Prophecy

∗

Kohei Daido

†

Hideshi Itoh

‡

First Version: February 18, 2005This Version: January 16, 2007

Abstract

We attempt to formulate and explain two types of self-fulfillingprophecy, called the Pygmalion effect (if a supervisor thinks her sub-ordinates will succeed, they are more likely to succeed) and the Galateaeffect (if a person thinks he will succeed, he is more likely to succeed).To this purpose, we extend a simple agency model with moral hazardand limited liability by introducing a model of reference-dependentpreferences (RDP) by K˝oszegi and Rabin (2004). We show that theagent with high expectations about his performance can be induced tochoose high effort with low-powered incentives. We then argue thatthe principal’s expectation has an important role as an equilibriumselection device, when the level of the agent’s ability is intermediate.

JEL Classification Numbers: B49, D82, M12, M52, M54Keywords: Self-fulfilling prophecy, Pygmalion effect, Galatea effect, reference-dependent preferences, agency model, moral hazard

∗

Earlier versions were circulated under the title “The Pygmalion Eﬀect: An AgencyModel with Reference Dependent Preferences.” We are grateful to Kenichi Amaya, Mune-tomo Ando, Bj¨orn Bartling, Leonardo Felli, Michihiro Kandori, and seminar participantsat CESifo Area Conference on Applied Microeconomics, ChengChi University, KwanseiGakuin University, Osaka University, and the 20th Annual Congress of the European Eco-nomic Association, for helpful comments. Financial support from the 21st Century COEprogram “Dynamics of Knowledge, Corporate System and Innovation” at Graduate Schoolof Commerce and Management, Hitotsubashi University, and Murata Science Foundationis gratefully acknowledged.

†

School of Economics, Kwansei Gakuin University.

‡

Graduate School of Commerce and Management, Hitotsubashi University.

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I shall always be a ﬂower girl to Professor Higgins because healways treats me as a ﬂower girl and always will; but I know Ican be a lady to you because you always treat me as a lady andalways will.—Eliza Doolittle, in

Pygmalion

by George Bernard Shaw

1 Introduction

People (pupils, subordinates, and so on) tend to act in accordance with theexpectation of others (teachers, managers, and so on). In particular, the for-mer may, to some degree, internalize the higher expectations placed on themby the latter, and then act in ways to fulﬁll those expectations. A pioneeringwork by Rosenthal and Jacobson (1968) shows, through their experimentalresearch, that a teacher’s expectation for a pupil’s intellectual competencecan come to serve as an educational self-fulﬁlling prophecy, and names thisphenomenon the

Pygmalion eﬀect

after Greek myths.

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Livingston (1969)discusses the Pygmalion eﬀect in managerial setting.

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He argues that anumber of case studies and experiments reveal the following:(a) “What managers expect of subordinates and the way they treat themlargely determine their performance and career progress.”(b) “A unique characteristic of superior managers is the ability to createhigh performance expectations that subordinates fulfill.”(c) “Less effective managers fail to develop similar expectations, and as aconsequence, the productivity of their subordinates suffers.”

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A series of research by Rosenthal and his collaborators studies the Pygmalion eﬀectin educational setting. Jussim (1986) provides a theoretical model of the Pygmalion eﬀectin the classroom.

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See also Goddard (1985).

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(d) “Subordinates, more often than not, appear to do what they believethey are expected to do.”Since Livingston (1969), many researchers have been studying the Pyg-malion effect in business or military organizations. Kierein and Gold (2000)and McNatt (2000) conduct meta-analysis of relevant studies within man-agement contexts, and both find that the Pygmalion effect is in general fairlystrong.From these existing studies, we can summarize the way the Pygmalioneffect occurs as follows:1. A manager’s high expectation influences her attitude toward her sub-ordinates.2. Such attitude has positive effects on subordinates’ self-expectancy.3. The subordinates’ enhanced self-expectancy then improves their per-formance.The last part of this process, that a person’s enhanced self-expectation im-proves his own performance, is often called the

Galatea eﬀect

. For example,Kierein and Gold (2000) explain the Galatea effect as one of other typesof expectation effects: “The Galatea effect occurs not when the leader hasexpectations of subordinates, but when subordinates’ raised expectations of themselves are realized in their higher performance.” They however statethat it is part of the Pygmalion effect, and examine the Pygmalion andGalatea effects together in their meta-analysis.

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In this paper we attempt to formalize and explain both the Pygmalionand the Galatea eﬀects. To this purpose, we extend a simple but standard

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On the other hand, McNatt (2000) seems to emphasize that the feature that a man-ager’s expectation has the impact on her subordinate’s self-expectancy appears uniquelyin the Pygmalion eﬀect.

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