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Working Papers

Incentives for Quality through Endogenous Routing
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Lauren Xiaoyuan Lu, Jan A. Van Mieghem, R. Canan Savaskan
July 14, 2006

Abstract

We consider quality control and rework routing policies of a firm implementing piece rate compensation. When a worker generates a defect, rework is conventionally assigned to the originating worker (in a self routing scheme) or to another worker dedicated to rework (in a dedicated routing scheme). In contrast, a novel cross routing scheme allocates any worker's defects to a parallel worker performing both new jobs and rework. All the workers receive the piece rate paid per job upon passing quality inspection or at rework completion. We compare the incentives of these different rework routing schemes by embedding quality control and routing of a multi-class queueing network in a principal-agent model. We show that conventional self routing of rework can never include first-best effort. Dedicated and cross routing, however, can lead to higher profits for the principal and improve incentives for quality by imposing an implicit punishment for quality failure. In addition, cross routing leads to workload allocation externalities and a prisoner's dilemma between the two parallel workers, thereby creating the highest incentives for quality. In general, cross routing generates the highest profit rate when appraisal, internal failure, or external failure costs are high, while self routing performs best when gross margins or disutilities of effort are high.

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