Innovating Yourself Out of a Job*

Abstract

Continuous improvement, where production workers suggest incremental process improvements, has become standard practice in modern manufacturing. I consider a simple two‐period model where workers produce output and innovate and innovation leads to future job losses. I derive the optimal multitasking contract and show that the principal distorts optimal first period employment downwards to increase the probability of continued employment and reduce first period incentive costs. At high levels of moral hazard, first period employment does not respond to shifts in demand and other parameters. I observe similar distortions at Lincoln Electric and predict that they should be observed more broadly.