Moral Hazard and Private Monitoring

We clarify the role of mixed strategies and public randomization (sunspots) in sustaining near-efficient outcomes in repeated games with private monitoring. We study a finitely repeated game, where the stage game has multiple equilibria and show that mixed strategies can support partial cooperation, but cannot approximate full cooperation even if monitoring is “almost perfect.” Efficiency requires extensive form correlation, where strategies can condition upon a sunspot at the end of each period. For any finite number of repetitions, we approximate the best equilibrium payoff under perfect monitoring, assuming that monitoring is sufficiently accurate and sunspots are available. Journal of Economic Literature Classification Numbers: C73, D82.