Self-interest and fairness: self-serving choices of justice principles

We introduce non-enforceable property rights over a bargaining surplus in a dictator game with production, where the agent’s effort is differentially rewarded and subsequently determines the size of the surplus. Using experimental data, we elicit individual preferences over the egalitarian, accountability and libertarian principles and provide evidence to support the inability of these justice principles to individually account for the observed behavior. We show that the justice principle that can be used to explain dictators’ choices depends on whether dictators are paid more or less than recipients for their effort. Our findings suggest that dictators do employ justice principles in self-serving ways and choose in each context the justice principle that maximizes their financial payoffs.     

Individual autonomy in evolutionary game theory: defending Sugden against Ross’s accusation of eliminativism

In this paper, I provide a defence of Robert Sugden’s contribution to evolutionary game theory against Donald Ross’s accusation of eliminating the individual’s autonomy by denying the explanatory role of rationality, utility maximization and rational beliefs. In this regard, I claim that Sugden’s methodological remarks on evolutionary game theory do not imply a characterization of real agents as automata. On the methodological level, Sugden claims that it is not correct to conceive the empirical phenomenon of social evolution in terms of normative concepts, whose empirical status is not obvious. However, Sugden proposes a theory that explains the agent’s behaviour in terms of inductive reasoning, adaptive beliefs, salience and pattern recognition. The latter are psychological features that describe the way agents manage to self-determine their own actions. From these clarifications, I draw the conclusion that Ross’s critique misunderstands Sugden’s contribution both on the methodological and empirical level.     

Agency theory: choice-based foundations of the parametrized distribution formulation

This paper develops choice-theoretic foundations of the principal’s and the agent’s behaviors underlying the parametrized distribution formulation of agency theory. Both the principal and the agent are expected-utility maximizers and their action-dependent subjective probabilities are defined directly on the outcomes. The results are used to evaluate and interpret the common prior assumption. I am grateful to Simon Grant and, in particular, to Peter Wakker for their comments and suggestions, and to the NSF for financial support under grant SES-0314249.     

The principal difficulty: Besley’s neo-Rousseavian aspirations

The use of the “principal–agent” model makes an implicit assumption about the existence of an underlying global optimum or “general will.” This assumption is debatable, and Besley does not defend it sufficiently or even seem to realize how strong an assumption it is. Still, it is standard in the literature, and Besley’s book is a very strong contribution to that literature. Its two greatest strengths are its solid microfoundations, and its use of the classical “comparative statics” approach to analyze dynamics.      

Functional rational expectations equilibria in market games

The rational expectations equilibrium (REE) has been criticized as an equilibrium concept in market game environments. Such an equilibrium may not exist generically, or it may introduce unrealistic assumptions about an economic agent’s knowledge or computational ability. We define an REE as a probability measure over uncertain states of nature which exploits all available information in a market game, and which exists for almost all economies. Furthermore, if retrading is allowed, it is possible for agents to compute such a ‘functional rational expectations equilibrium’ using straightforward numerical fixed point algorithms. The approach is demonstrated in a detailed numerical example.     

Efficient moral hazard

This paper presents an infinite-horizon, discounted dynamic programming model of the endogenous opportunity costs of an agent’s effort that is allocated among an endogenous number of principals. An agent allocates effort between evaluating new principals and attending to current principals. Since each principal’s return is not maximized by the agent’s optimal allocation, moral hazard occurs in equilibrium. However, since the agent maximizes the total expected value of all undertaken projects, the agent’s allocation of effort is efficient. If the agent chooses a single principal, then moral hazard does not occur and the allocation is efficient. These results are contrary to the inefficient moral hazard results in bilateral principal-agent (P-A) and common agency (C-A) models.     

“Tell me what you need”: signaling with limited resources

We study the project allocation mechanisms trade-off between minimizing the waste of resources in the application process and maximizing the match of needs and projects when the recipient’s needs and resources are private information. We propose a signaling mechanism where the set of signals available to each agent is constrained by his capacity and by his truthful need of the project. The principal can control, at a given cost, the agent’s application cost and the utility of receiving the project by non-needy agents. Our findings suggest that there exists a threshold in the principal’s budget such that for smaller budgets, all instruments are used in the optimal mechanism, while for bigger budgets the optimal application complexity is independent of the budget and waste of resources is a decreasing share of the resources available.     

Incentives and disutility of effort in a linear piece-rated employment contract

Previous studies on contracts which involve incentives and risk sharing seldom give explicit treatment of the impact of the agent's disutility of effort on the incentive properties of the contract. It is shown that in a linear piece-rated employment contract which pays workers according to both the time worked and output, an increase in the piece rate does not necessarily induces more effort, as generally taken for granted. The incentive effect of the piece rate in fact depends on the extent to which the worker dislikes effort.     

For how long to tie your hands? Stable relationships in an unstable environment

The Kreps–Wilson–Milgrom–Roberts framework is one of the most renowned ways of modeling reputation-building. Once the number of repetitions of the game is considered as a choice variable, such a framework can fruitfully be employed to study the optimal length of the commitment to a relationship. We analyze a model where a principal plays with an agent a finitely repeated trust game, characterize the optimal length of the relationship between principal and agent when the principal’s preferences on the agent’s type stochastically change over time and show that a commitment to a stable relationship may be optimal (even) in very unstable environments.      

Heterogeneous Response to Marine Reserve Formation: A Sorting Model approach

The bioeconomic impacts of spatial fisheries management hinge on how fishing vessels reallocate their effort over space. However, empirical studies face two challenges: heterogeneous behavioral responses and unobservable resource abundance. This paper addresses these two problems simultaneously by using an unusual data set and an estimation technique developed in the industrial organization literature. We apply the methods to location and species choices in the Gulf of Mexico reef-fish fishery. The models are used to explore spatial effort substitution in response to two marine reserves. Individual attributes from a survey of vessel captains are linked to each fisherman’s observed daily trip information to control for observable heterogeneity. Some unobservable abundance information is captured by location- and species-specific constants and estimated by contraction mapping. The empirical results confirm that there is significant heterogeneity in fishermen’s response to the formation of marine reserves. They also show that ignoring unobservable abundance information will lead to significant bias in predicting spatial fishing effort.     

Evolution, bargaining, and time preferences

I include a role for time preferences within a version of the Young (J Econ Theory 59:145–168, 1993b) evolutionary model of bargaining. With or without time preferences, the stochastic stable convention yields a generalized version of the Nash (Econometrica 18:155–162, 1950) Bargaining Solution. When time preferences are added to the model, agents’ discount factors enter into the stochastically stable convention in a natural manner. That is, an agent’s discount factor acts as a bargaining weight within the Nash Bargaining Solution. By taking appropriate limits, an evolutionary foundation for the Rubinstein (Econometrica 50:97–110, 1982) Bargaining Solution is provided. I thank Lew Evans, Jack Leach, Collin Starkweather, Aaron Strong, a referee and associate editor. All errors are my own.     

Task scheduling and moral hazard

We study a two-period moral hazard problem with risk-neutral and wealth-constrained agents and three identical tasks. We show that the allocation of tasks over time is important if there is a capacity constraint on the number of tasks that can be performed in one period. We characterize the optimal schedule of tasks over time and the optimal assignment of tasks to agents conditional on the outcomes of previous tasks. In particular, we show that delaying tasks is optimal if and only if the effect of an agent’s effort on the probability of success is relatively low. We have benefitted from helpful discussions with A. Roider, L. Samuelson, and U. Schweizer. The paper has been substantially improved due to the detailed and very valuable comments of an Associate Editor. Financial support by Deutsche Forschungsgemeinschaft, SFB/TR15, is gratefully acknowledged.     

Linear contracts as incentives: a puzzle

This paper reexamines the linear schedule of compensation as a tool for providing incentives to managers when contractible output is a function of costly effort and a random shock. Two puzzling situations compatible with linear schemes of compensation are presented. First, if the model parameters are such that the optimal participation on output is below 50%, the variable compensation turns out to have a negative effect on manager’s utility. Second, if it is below 25%, linear incentives allow situations in which larger utilities are reached by means of smaller rewards.      

Global environment and dynamic games of environmental policy in an international duopoly

This paper examines a differential game model of international pollution control in which polluting oligopolists compete in a third country market. Two alternative policy instruments (emission taxes and command-and-control regulations) are considered. A tougher emission policy in the home country enhances the foreign firm’s competitiveness because of the static “rent-shifting” effect. The foreign country also enjoys a future improvement of the global environmental quality by “free riding” on the home country’s emission reduction effort. Because of these strategic effects, the levels of environmental policy determined in the noncooperative policy game are distorted away from the socially optimal level. Moreover, the emission tax game produces a more distortionary outcome than that in the command-and-control game; it generates more pollution and lower welfare.      

Imperfect legal unbundling of monopolistic bottlenecks

We study an industry with a monopolistic bottleneck supplying an essential input to several downstream firms. Under legal unbundling the bottleneck must be operated by a legally independent upstream firm, which may be partly or fully owned by an incumbent active in downstream markets. Access prices are regulated but the upstream firm can perform non-tariff discrimination. Under perfect legal unbundling the upstream firm maximizes only own profits; with imperfections it is biased and to some extent accounts also for the incumbent’s downstream profits. We show that increasing the incumbent’s ownership share increases total output if the upstream firm’s bias is sufficiently small, while otherwise effects are ambiguous. Stronger regulation that reduces the bias without changing ownership shares generally increases total output. We also endogenize the bias and show that it can depend non-monotonically on the ownership share.     

Informal Institutions, Consumption Custom, and Assumption of OLG Model—A Theoretical Analysis on Households’ Consumption Decisions in the Oriental Culture and Belief

Orthodox consumption theories have not incorporated the overlapping-generations (OLG) model and wealth-stock model, whereas this article explains households’ characters in consumption and savings in countries such as China and some other regions from the viewpoints of social convention, moral formation, ethics, and other informal institutions. The authors exploit and extend the OLG model, introduce the concepts of bequest, gift, and wealth preference to the economic agent’s utility function, then apply optimal conditions to analyzing the characters and problems concerning consumption and savings behavior. Furthermore, they deliberate on the effects of this analysis on government macroeconomic policies and suggest some relevant theoretical thinking and solutions. Translated from Economic Research Journal, 2005, 4 (in Chinese)     

Mere quibbles: Bagus and Howden’s critique of the theory of free banking

Despite its title, Philipp Bagus and David Howden’s critique of The Theory of Free Banking does more than merely “quibble” with that book’s arguments; their criticisms of those arguments are such as to suggest that the very foundation upon which my defense of free banking rests is deeply flawed. Here, I defend my work against Bagus and Howden’s criticisms, by showing that they rest upon careless or disingenuous readings of my arguments and a poor grasp of basic monetary economics.     

Ambiguity attitude, R&D investments and economic growth

The process aimed at discovering new ideas is an economic activity the returns from which are intrinsically uncertain. We extend the neo-Schumpeterian growth framework to investigate the role of strong uncertainty in the innovative process. In particular, we postulate that, when deciding upon R&D efforts, investors hold ‘ambiguous beliefs’ about the exact probability of arrival of the next vertical innovation, and that they face ambiguity via the α −MEU decision rule (Ghirardato et al., J Econ Theory 118:133–173, 2004). Along the balanced growth path, the higher the agent’s ambiguity aversion (α), the lower the R&D efforts and the economic performance. Consistent with cross-country empirical evidence, this causal mechanism suggests that, together with the profitability conditions of the economy, different ‘cultural’ attitudes towards ambiguity may help explain the different R&D efforts observed across countries.     

Why are firms sometimes unwilling to reduce costs?

This paper identifies the environments in which it does not pay for a multiproduct firm to engage in small cost reductions. Specifically, it shows that a multiproduct Bertrand firm’s profits will decrease in response to a small reduction in one product’s marginal cost if and only if the output share of the cost-reducing unit is below a threshold. Because cost reductions by a single-product firm or by a multiproduct Cournot firm always increase the firm’s profits, this result is unique to multiproduct Bertrand firms.     

Choosing wisely: the natural multi-bidding mechanism

Pérez-Castrillo and Wettstein (Am Econ Rev 92:1577–1587, 2002) propose a multi-bidding mechanism to determine a winner from a set of possible objects. Each agent announces a vector of bids and a project, which is used as a tie-breaking rule for the case where several aggregate bids finish first in the bidding. We show that removing the (non-intuitive) project announcement and using instead the projects which received some agent’s highest bid to break ties, severely hinders the performance of the mechanism. Specifically, a Nash Equilibrium exists only if there are at least two individually optimal projects and all individually optimal projects are efficient. I am grateful to an anonymous referee for his detailed suggestions and comments and to the SSHRC (Canada) for financial support.