nep-cta New Economics Papers
on Contract Theory and Applications
Issue of 2008‒04‒15
eleven papers chosen by
Simona Fabrizi
Massey University Department of Commerce

  1. Optimal Health Care Contracts under Physician Agency By Philippe Chone; Ching-to Albert Ma Author-X-Name-First: Ching-to Albert
  2. Can information asymmetry cause agglomeration? By Berliant, Marcus; Kung, Fan-chin
  3. Limited Liability and the Risk-Incentive Relationship By Jörg Budde; Matthias Kräkel
  4. Bank Incentives, Contract Design, and Bank Runs By Andolfatto, David
  5. Auctions with Resale Market and Asymmetric Information By Rodrigo Harrison; Roberto Muñoz;; Felipe Varas
  6. Will Privatization Reduce Costs? By Lindqvist, Erik
  7. Incentive Design and Trust: Comparing the Effects of Tournament and Team-Based Incentives on Trust By Oxoby, Robert J.; Friedrich, Colette
  8. The Role of Contribution among Defendants in Private Antitrust Litigation By Morten Hviid; Andrei Medvedev
  9. Improving corporate governance where the State is the controlling block holder: Evidence from China By Berkman, Henk; Cole, Rebel; Fu , Lawrence
  10. Fines, Leniency, Rewards and Organized Crime: Evidence from Antitrust Experiments By Bigoni, Maria; Fridolfsson, Sven-Olof; Le Coq, Chloe; Spagnolo, Giancarlo
  11. A Theory of Military Dictatorships By Daron Acemoglu; Davide Ticchi; Andrea Vindigni

  1. By: Philippe Chone (CREST-LEI and CNRS URA 2200); Ching-to Albert Ma Author-X-Name-First: Ching-to Albert (Department of Economics, Boston University)
    Abstract: We examine contracts between insurers and physicians when the treatment is chosen to maximize a combination of physician profit and patient benefit (“physician agency”). The degree of substitution between doctor profit and patient benefit in the physician-patient coalition is the physician’s private information, as is the patient’s intrinsic valuation of treatment quantity. The equilibrium mechanism only depends on the physician-patient coalition parameter. Moreover, the equilibrium mechanism exhibits extensive pooling, with prescribed quantity and physician reimbursement being insensitive to the agency characteristics or patient’s actual benefit. The optimal mechanism is interpreted as managed care where strict approval protocols are placed on treatments.
    Keywords: physician agency, optimal payment, health care quantity, managed care, minimum profit, asymmetric information
    JEL: D82 I1 I10 L15
    Date: 2007–01
  2. By: Berliant, Marcus; Kung, Fan-chin
    Abstract: The modern literature on city formation and development, for example the New Economic Geography literature, has studied the agglomeration of agents in size or mass. We investigate agglomeration in sorting or by type of worker, that implies agglomeration in size when worker populations differ by type. This kind of agglomeration can be driven by asymmetric information in the labor market, specifically when firms do not know if a particular worker is of high or low skill. In a model with two types and two regions, workers of different skill levels are offered separating contracts in equilibrium. When mobile low skill worker population rises or there is technological change that favors high skilled workers, integration of both types of workers in the same region at equilibrium becomes unstable, whereas sorting of worker types into different regions in equilibrium remains stable. The instability of integrated equilibria results from firms, in the region to which workers are perturbed, offering attractive contracts to low skill workers when there is a mixture of workers in the region of origin.
    Keywords: Adverse Selection; Agglomeration
    JEL: R13 D82 R12
    Date: 2008–04–01
  3. By: Jörg Budde (University of Bonn, Adenauerallee 24-42, D-53113 Bonn, Germany, tel: +49 228 739247, fax: +49 228 735048, e-mail:; Matthias Kräkel (University of Bonn, Adenauerallee 24-42, D-53113 Bonn, Germany, tel: +49 228 733914, fax: +49 228 739210, e-mail:
    Abstract: Several empirical ï¬ndings have challenged the traditional view on the trade-off between risk and incentives. By combining risk aversion and limited liability in a standard principal-agent model the empirical puzzle on the positive relationship between risk and incentives can be explained. Increasing risk leads to a less informative performance signal. Under limited liability, the principal may optimally react by increasing the weight on the signal and, hence, choosing higher-powered incentives.
    Keywords: moral hazard, limited liability, risk-incentive relationship
    JEL: D82 D86
    Date: 2008–03
  4. By: Andolfatto, David
    Abstract: We study a version of the Diamond-Dybvig Green-Lin model with a strategic banker.
    JEL: E5
    Date: 2007–06
  5. By: Rodrigo Harrison (Instituto de Economía. Pontificia Universidad Católica de Chile.); Roberto Muñoz;; Felipe Varas
    Abstract: In this paper we study the role of resale opportunities in secondary markets over the bidding process in first and second price auctions. This trade opportunity arises owing to the presence of two factors. On the one hand, after receiving the object, the winner obtains new information about the object’s value and on the other hand, the winner may suffer a liquidity shock that force him to sell the object regardless of his valuation. The buyer in the secondary market, however, does not know if the good is being sold because the new information reveals bad news regarding the object’s valuation, or because a liquidity shock affected the seller. Our results show that revenue equivalence still holds, and bids are usually lower than those observed in the absence of liquidity shocks.
    Keywords: Auctions; Resale Market; Adverse Selection
    JEL: D44 L1
    Date: 2008
  6. By: Lindqvist, Erik (Research Institute of Industrial Economics (IFN))
    Abstract: I develop a model of public sector contracting based on the multitask framework by Holmström and Milgrom (1991). In this model, an agent can put effort into increasing the quality of a service or reducing costs. Being residual claimants, private owners have stronger incentives to cut costs than public employees. However, if quality cannot be perfectly measured, providing a private firm with incentives to improve quality forces the owner of the firm to bear risk. As a result, private firms will always be cheaper for low levels of quality but might be more expensive for high levels of quality. Extending the model to allow for differences in task attractiveness, I find that public firms shun unattractive tasks, whereas private firms undertake them if incentives are strong enough.
    Keywords: Privatization; Public Sector Contracting; Incomplete Contracts; Contracting Out
    JEL: H11 H40 L32 L33
    Date: 2008–03–17
  7. By: Oxoby, Robert J. (University of Calgary); Friedrich, Colette (MIT)
    Abstract: We explore the extent to which the structure of incentives affects trust. We hypothesize that the degree to which different incentive mechanisms emphasize competition (via the perceived intentions of others) and entitlements (via the perceived property rights) will affect individuals’ subsequent behavior. In our experiment, bargaining pairs earned endowments through either tournaments or team-based incentives. Participants engaged in a subsequent trust game in which the sender had access to the total endowment generated by the pair. We find that the structure of the incentive mechanisms has asymmetric effects on observed trust in which participants’ relative performance framed trusting behavior.
    Keywords: trust, incentives, experiments, tournaments
    JEL: J31 J33 C92 D63
    Date: 2008–03
  8. By: Morten Hviid (School of Law and Centre for Competition Policy, University of East Anglia); Andrei Medvedev (Centre for Competition Policy, University of East Anglia)
    Abstract: To date the experience of the incidence of private actions for damages in antitrust cases has differed markedly across jurisdictions. The procedural rules surrounding private litigation may account for some of these differences. This paper explores the effect of rules concerning contribution among multiple defendants who are joint and severally liable for a cartel infringement. The no-contribution rule is shown to lead to higher levels of aggregate damages and more information revelation to the private plaintiff. However, the no-contribution rule also has the potential to neuter any public leniency programme, thereby possibly reducing the number of cartels detected.
    Keywords: cartels, leniency, private damages
    JEL: K21 K42 L40
    Date: 2008–02
  9. By: Berkman, Henk; Cole, Rebel; Fu , Lawrence
    Abstract: We examine changes in market values and accounting returns for a sample of publicly traded Chinese firms around announcements of block-share transfers among government agencies (“State Bureaucrats”), market-oriented State-owned enterprises (“MOSOEs”) and private investors (“Private Entities”). We provide evidence that transfers from State Bureaucrats to Private Entities result in larger increases in market value and accounting returns than transfers to MOSOEs. We also find that CEO turnover occurs more quickly when shares are transferred to Private Entities. Moreover, we find that the changes in firm value and accounting returns, as well as the likelihood of CEO turnover, are all functions of the incentives and managerial expertise of the new block holder. We conclude that corporate governance can be improved at State-controlled firms by improving the incentives and managerial expertise of controlling block holders, and that this is better accomplished by transferring ownership to private investors rather than by shuffling ownership among Statecontrolled entities.
    Keywords: block-holder identity; China; partial corporate control; partial privatization; privatization; State ownership; SOE.
    JEL: G38 G34 G32
    Date: 2007–10–17
  10. By: Bigoni, Maria (IMT-Lucca); Fridolfsson, Sven-Olof (IFN); Le Coq, Chloe (SITE); Spagnolo, Giancarlo (Tor Vergata university, SITE, and CEPR)
    Abstract: Leniency policies and rewards for whistleblowers are being introduced in ever more fields of law enforcement, though their deterrence effects are often hard to observe, and the likely effect of changes in the specific features of these schemes can only be observed experimentally. This paper reports results from an experiment designed to examine the effects of fines, leniency programs, and reward schemes for whistleblowers on firms' decision to form cartels (cartel deterrence) and on their price choices. Our subjects play a repeated Bertrand price game with differentiated goods and uncertain duration, and we run several treatments different in the probability of cartels being caught, the level of fine, the possibility of self-reporting (and not paying a fine), the existence of a reward for reporting. We find that fines following successful investigations but without leniency have a deterrence effect (reduce the number of cartels formed) but also a pro-collusive effect (increase collusive prices in surviving cartels). Leniency programs might not be more efficient than standard antitrust enforcement, since in our experiment they do deter a significantly higher fraction of cartels from forming, but they also induce even higher prices in those cartels that are not reported, pushing average market price significantly up relative to treatments without antitrust enforcement. With rewards for whistle blowing, instead, cartels are systematically reported, which completely disrupts subjects' ability to form cartels and sustain high prices, and almost complete deterrence is achieved. We also analyze post-conviction behavior, finding that there is a strong expost deterrence (desistance) effect. Moreover post-conviction prices are on average lower than before even though the average prices within cartels are the same. Finally, we find a strong cultural effect comparing treatments in Stockholm with those in Rome, suggesting that optimal law enforcement institutions differ with culture.
    Keywords: Anti-trust; Collusion; Experiment; Leniency
    JEL: K21 L13 L41
    Date: 2008–03–27
  11. By: Daron Acemoglu; Davide Ticchi; Andrea Vindigni
    Abstract: We investigate how nondemocratic regimes use the military and how this can lead to the emergence of military dictatorships. Nondemocratic regimes need the use of force in order to remain in power, but this creates a political moral hazard problem; a strong military may not simply work as an agent of the elite but may turn against them in order to create a regime more in line with their own objectives. The political moral hazard problem increases the cost of using repression in nondemocratic regimes and in particular, necessitates high wages and policy concessions to the military. When these concessions are not sufficient, the military can take action against a nondemocratic regime in order to create its own dictatorship. A more important consequence of the presence of a strong military is that once transition to democracy takes place, the military poses a coup threat against the nascent democratic regime until it is reformed. The anticipation that the military will be reformed in the future acts as an additional motivation for the military to undertake coups against democratic governments. We show that greater inequality makes the use of the military in nondemocratic regimes more likely and also makes it more difficult for democracies to prevent military coups. In addition, greater inequality also makes it more likely that nondemocratic regimes are unable to solve the political moral hazard problem and thus creates another channel for the emergence of military dictatorships. We also show that greater natural resource rents make military coups against democracies more likely, but have ambiguous effects on the political equilibrium in nondemocracies (because with abundant natural resources, repression becomes more valuable to the elite, but also more expensive to maintain because of the more severe political moral hazard that natural resources induce). Finally, we discuss how the national defense role of the military interacts with its involvement in domestic politics.
    JEL: H20 N10 N40 P16
    Date: 2008–04

This nep-cta issue is ©2008 by Simona Fabrizi. It is provided as is without any express or implied warranty. It may be freely redistributed in whole or in part for any purpose. If distributed in part, please include this notice.
General information on the NEP project can be found at For comments please write to the director of NEP, Marco Novarese at <>. Put “NEP” in the subject, otherwise your mail may be rejected.
NEP’s infrastructure is sponsored by the School of Economics and Finance of Massey University in New Zealand.