Optimal Contracts with Performance Manipulation

We study optimal compensation contracts that (1) are designed to address a joint moral hazard and adverse selection problem and that (2) are based on performance measures, which may be manipulated by the agent at a cost. In the model, a manager is privately informed about his productivity prior to being hired by a firm. In order to incentivize the manager to exert productive effort, the firm designs a compensation contract that is based on reported earnings, which can be manipulated by the manager. Our model predicts that (1) the optimal compensation contract is convex in reported earnings; (2) the optimal contract is less sensitive to reported earnings than it would be absent the manager's ability to manipulate earnings; and (3) higher costs of manipulating reported earnings (e.g., due to higher governance quality) are associated with higher firm value, lower expected level of earnings management, and higher output.     

Strategic ex ante contracts: rent extraction and opportunity costs

This article cosiders the possibility that a seller can contract with one uninformed buyer prior to an auction involving two potential buyers. The seller's optimal strategic ex ante contract more accurately reflects joint opportunity costs of the seller and the contracted buyer, and therefore extracts more rent from the entrant. Moreover, this ex ante contract mitigates the seller's ex post rent seeking vis‐à‐vis the contracted buyer. Accordingly, it may create more social welfare than the absence of ex ante contracts, depending upon the contracted buyer's financial constraint and the distributions of trade surplus. Implementation of the optimal strategic ex ante contract and policy implications are discussed.     

Implementing high‐powered contracts to motivate intertemporal effort supply

We characterize the optimal contract between a principal and a risk‐neutral, wealth‐constrained agent when an adverse selection problem follows a moral hazard problem. The optimal contract in this setting often is more steeply sloped for the largest output levels than is the optimal contract in either the standard moral hazard setting or the standard adverse selection setting. The large incremental rewards for exceptional performance motivate the agent to deliver substantial effort both before and after he acquires privileged information about the production environment.     

公共服务合同外包中的交易成本及其控制

公共服务合同外包作为一项交易,不可避免地存在不少交易成本变量,公共服务合同外包不一定能降低交易成本、公共服务合同外包中存在不确定性成本、公共服务合同外包难以合理界定交易成本等都是这些变量的体现。基于这些交易成本变量,大胆而细致地选择公共服务合同外包,建立公共服务合同外包风险防范机制,建立较为公平、合理的风险分担机制,提高政府对公共服务合同外包的控制能力等应是降低公共服务合同外包交易成本的可行路径。     

Liars Never Prosper? How Management Misrepresentation Reduces Monitoring Costs

When monitoring is not contractible—so investors monitor only when, at that time, they expect to benefit from doing so—efficient contracts sometimes induce managers to makefalsereports to investors. Because of monitoring discretion, management misrepresentation can produce Pareto improvements by reducing monitoring costs. When costs of renegotiation are small, optimal contracts necessarily induce misrepresentation. Discretionary monitoring also generates an equilibrium role for multiple-security capital structures. When an optimal contract has two investors, securityholder conflict arises endogenously as a means of reducing monitoring costs. It is efficient to write the contract so that one investor's decision to monitor hurts the other investor.Journal of Economic LiteratureClassification Number: G32.     

Optimal information transmission in a holdup problem

This article examines the optimal contract in a bilateral trade model with unobservable relationship‐specific investment and renegotiation. In such a setting, a contract plays an additional role that it does not have in the standard holdup model, namely that of transmitting information between the parties. The article shows that a partial‐disclosure contract may be optimal and describes the optimal contract. If the investment is cooperative and the information between the trading parties is asymmetric, the optimal contract generally cannot result in the first best, but dispensing with either of these assumptions makes the first‐best achievable.     

Information and delay in an agency model

This article studies how delay in contracting depends on an exogenous signal. The agent whose cost is his private information may produce in the first period or be delayed until the second period. A signal about the cost of the agent is available between the two periods. The quality of the good can vary; in the benchmark case of no signal, the principal offers the standard Baron‐Myerson contract and there is no delay. Delay is determined by the considerations at the margin and may increase or decrease with a better signal. The value of information can be negative, as a better signal may aggravate the principal's commitment problem. A better signal may also increase the agent's rent and decrease social welfare.     

Costly contracting in a long‐term relationship

We examine a model of contracting where parties interact repeatedly and can contract at any point in time, but writing formal contracts is costly. A contract can describe the external environment and the parties' behavior in a more or less detailed way, and the cost of writing a contract is proportional to the amount of detail. We consider both formal (externally enforced) and informal (self‐enforcing) contracts. The presence of writing costs has important implications both for the optimal structure of formal contracts, particularly the tradeoff between contingent and spot contracting, and for the interaction between formal and informal contracting. Our model sheds light on these implications and generates a rich set of predictions about the determinants of the optimal mode of contracting.     

Optimal certification policy,entry, and investment in the presence of public signals

We explore the optimal disclosure policy of a certification intermediary where (i) the seller decides on entry and investment in product quality, and (ii) the buyers observe an additional public signal on quality. The optimal policy maximizes rent extraction from the seller by trading off incentives for entry and investment. We identify conditions under which full, partial or no disclosure can be optimal. The intermediary's report becomes noisier as the public signal gets more precise, but if the public signal is sufficiently precise, the intermediary resorts to full disclosure. However, the social welfare may reduce when the public signal becomes more informative.     

Insurance Contract Design When the Insurer Has Private Information on Loss Size

This article examines the optimal indemnity contract in an insurance market, when the insurer has private information about the size of an insurable loss. Both parties know whether or not a loss occurred, but only the insurer knows the true value of the loss and/or to what extent the losses are covered under the policy. The insured may verify the insurer's loss estimate for a fixed auditing cost. The optimal contract reimburses the auditing costs in addition to full insurance for losses less than some endogenous limit. For losses exceeding this limit, the contract pays a fixed indemnity and requires no monitoring. The optimal contract is compared with the contracts obtained in cases where it is only the insured who can observe the loss size.
     

Walking the contractual tightrope: a transaction cost economics perspective on social impact bonds

ABSTRACT

Transaction cost economics is applied in this paper to social impact bonds to explore how public service commissioners could improve outcomes-based contracts. The authors supply a framework for assessing the quality of outcomes specifications and clarify the trade-off between a robust value case for government and the transaction costs associated with specifying such a deal. Illustrated by two examples, the authors suggest that commissioners aim for a ‘requisite’ contract: one that minimizes opportunism while balancing the costs of developing a more robust outcomes specification.     

The form of incentive contracts: agency with moral hazard,risk neutrality,and limited liability

The analysis obtains a complete characterization of the optimal agency contract with moral hazard, risk neutrality, and limited liability. We introduce a “critical ratio” that indicates the returns to providing the agent with incentives for effort in each random state. The form of the contract is debt (a capped bonus) when the critical ratio is increasing (decreasing) in the state. An increasing critical ratio in the state‐space setting corresponds to the hazard rate order for the reduced‐form distribution of output, which we term the “decreasing hazard rate in effort property” (DHREP). The critical ratio also yields insights into agency with adverse selection.     

Work‐related perks,agency problems,and optimal incentive contracts

Work‐related perks, such as corporate jets, nice offices, and so forth, improve the tradeoff between incentives and insurance that determines the optimal incentive contract. We show that (i) such perks may be offered even if their direct consumption benefits are offset by their costs; (ii) they will be offered for free; (iii) agents in more uncertain production environments will receive more perks; (iv) senior executives should receive more perks; and (v) better corporate governance can lead to more perk consumption by CEOs. Our analysis also offers insights into firms' decisions about how much autonomy they should grant to their employees.     

The Strategy of Going Public: How UK Firms Choose Their Listing Contracts

Abstract:   UK firms going public have a choice between public offers and placings. This choice has important implications in terms of who bears the risk of the issue failing and of its costs. We find that firms with higher ex ante uncertainty choose a placing contract. Highly reputable sponsors and creditor screening serve as signals of firm quality, enabling such firms to choose a public offer. Large and multinational firms usually choose a public offer whereas there is some evidence that very small issues choose a placing. Finally, the 'hotness' of the IPO market increases the probability of placings.     

Trade costs and multimarket collusion

Contrary to conventional wisdom, this article argues that trade liberalization may facilitate collusion and reduce welfare. With the help of a duopoly model in which firms interact repeatedly in multiple markets, we first show that, if trade costs (i.e., tariffs/transport costs) and discount factors are not too high, efficient cartel agreements necessitate the cross‐hauling of goods, as that entails lower deviation incentives. In this setting, we then demonstrate that reciprocal trade liberalization always raises total output when trade costs are within a range whose lower bound exceeds a threshold level, but may reduce total output (and thus be pro‐collusive) when trade costs are below that threshold level.     

The Disciplining Role of Accounting in the Long-Run

One role of accounting is to discipline softer (more manipulable) sources of information. We use a principal-agent model of hidden actions and hidden information to study this role. In our model, there is both a verifiable signal (a publicly observed output) and an unverifiable signal (a productivity parameter privately observed by the agent). In a one-period setting, the optimal contract does not make use of the agents report on the private signal. However, when the output is tracked over two periods, the agents communication can be valuable. This reversal of results suggests uncovering the disciplining role of accounting may require a long-term perspective.JEL Classification: D82, M41     

A theory of delegated search for the best alternative

Searching for the best worker, a reliable supply alternative, or the most profitable investment is frequently delegated to an agent. This article develops a theory of delegated search. We show that the principal’s ability to delegate depends on the agent’s luck, her initial resources, and the contract that governs her search. With moral hazard, the optimal contract is characterized by performance deadlines with bonuses for early completion. If performance cannot be specified, the optimal search is implemented by an option‐to‐buy contract for the principal. If performance is partially specified, the optimal contract is a standard pay‐for‐performance arrangement.     

The ownership of ratings

We identify the optimal contract between a rating agency and a firm and the circumstances under which simple ownership contracts implement this optimal solution. We assume that the decision to obtain a rating is endogenous and the price of a rating is a strategic variable. Clients hiding their ratings can be an equilibrium only if they are ex ante uncertain of their quality and if the hiring decision is not observable. For some distribution functions, a competitive rating market is necessary for this result to obtain. In this context, competition between rating intermediaries will lead to less information in equilibrium.     

Risk allocation and the costs and benefits of public‐‐private partnerships

We study the agency costs of delegated public service provision, focusing on the link between organizational forms and uncertainty at project implementation. We consider a dynamic multitask moral hazard environment where the mapping between effort and performance is ex ante uncertain but new information may arise during operations. Our analysis highlights the costs and benefits that bundling planning and implementation—as under public‐‐private partnerships—can bring in terms of project design and operational costs under various scenarios, possibly allowing for asymmetric information, moral hazard and renegotiation. It also shows that relying on private finance enhances the benefits of bundling only if lenders have enough expertise to assess project risks.     

Human Capital,Bankruptcy, and Capital Structure

We derive the optimal labor contract for a levered firm in an economy with perfectly competitive capital and labor markets. Employees become entrenched under this contract and so face large human costs of bankruptcy. The firm's optimal capital structure therefore depends on the trade‐off between these human costs and the tax benefits of debt. Optimal debt levels consistent with those observed in practice emerge without relying on frictions such as moral hazard or asymmetric information. Consistent with empirical evidence, persistent idiosyncratic differences in leverage across firms also result. In addition, wages should have explanatory power for firm leverage.