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Adverse selection problems without the Spence-Mirrlees condition
Authors:Aloisio Araujo  Humberto Moreira
Institution:a Graduate School of Economics, Getulio Vargas Foundation, Praia de Botafogo, 190, Rio de Janeiro, RJ 22250900, Brazil
b Instituto Nacional de Matemática Pura e Aplicada, Estrada Dona Castorina, 110, Rio de Janeiro, RJ 22460902, Brazil
Abstract:This paper studies a class of one-dimensional screening problems where the agent's utility function does not satisfy the Spence-Mirrlees condition (SMC). The strength of the SMC for hidden information problems is to provide a full characterization of implementable contracts using only the local incentive compatibility (IC) constraints. These constraints are equivalent to the monotonicity of the decision variable with respect to the agent's unobservable one-dimensional parameter. When the SMC is violated the local IC constraints are no longer sufficient for implementability and additional (global) IC constraints have to be taken into account. In particular, implementable decisions may not be monotonic and discretely pooled types must have the same marginal utility of the decision (or equivalently, get the same marginal tariff). Moreover, at the optimal decision, the principal must preserve the same trade-off between rent extraction and allocative distortion measured in the agent's marginal rent unit. In a specific setting where non-monotone contracts may be optimal we fully characterize the solution.
Keywords:H41  D82
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