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on Contract Theory and Applications |
| By: | Young-Ro Yoon (Indiana University Bloomington) |
| Abstract: | Can valuable information be disclosed intentionally by the informed agent even within a competitive environment? In this article, we bring our interest into the asymmetry in reward and penalty in the payoff structure and explore its effects on the strategic disclosure of valuable information. According to our results, the asymmetry in reward and penalty is a necessary condition for the disclosure of valuable information. This asymmetry also decides which quality of information is revealed for which incentive; if the penalty is larger than the reward or the reward is weakly larger than the penalty, there exists an equilibrium in which only a low quality type of information is revealed, in order to induce imitation. On the other hand, if the reward is sufficiently larger than the penalty, there exist equilibria in which either all types or only high quality type of information is revealed, in order to induce deviation. The evaluation of the equilibrium in terms of expected payoff yields that the equilibrium where valuable information is disclosed strategically dominates the equilibrium where it is concealed. |
| JEL: | D82 M52 |
| Date: | 2008–08 |
| URL: | http://d.repec.org/n?u=RePEc:inu:caeprp:2008-022&r=cta |
| By: | Stulze, Rene M. (Ohio State U) |
| Abstract: | As barriers to international investment fall and technology improves, the cost advantages for a firm’s securities to trade publicly in the country in which that firm is located and for that country to have a market for publicly traded securities distinct from the capital markets of other countries will progressively disappear. However, securities laws remain an important determinant of whether and where securities are issued, how they are valued, who owns them, and where they trade. The value of public firms depends on these laws, so that identical firms subject to different laws are likely to have different values. We show that mandatory disclosure through securities laws can decrease agency costs between corporate insiders and minority shareholders, but only provided the investors can act on the information disclosed and the laws cannot be weakened ex post too much through lobbying by corporate insiders. With financial globalization, national disclosure laws can have wide-ranging effects on a country’s welfare, on firms and on investor portfolios, including the extent to which share holdings reveal a home bias. In equilibrium, if firms can choose the securities laws they are subject to when they go public, some firms will choose stronger securities laws than those of the country in which they are located and some firms will do the opposite. These effects of securities laws can be expected to become smaller if differences in national laws and their enforcement decrease and if the costs of private solutions to manage corporate agency conflicts that are substitutes for securities laws fall. |
| Date: | 2008–07 |
| URL: | http://d.repec.org/n?u=RePEc:ecl:ohidic:2008-13&r=cta |
| By: | Luttmer, Erzo F. P. (Harvard U); Zeckhauser, Richard |
| Abstract: | Requiring agents with private information to select from a menu of incentive schedules can yield efficiency gains. It will do so if, and only if, agents will receive further private information after selecting the incentive schedule but before taking the action that determines where on the incentive schedule they end up. We argue that this information structure is relevant in many applications. We develop the theory underlying optimal menus of non-linear schedules and prove that there exists a menu of schedules that offers a strict first-order interim Pareto improvement over the optimal single non-linear schedule. We quantify the gains from schedule selection in two settings. The first is a stylized example of a monopolistic utility company increasing profits by offering a menu of price plans. The second is a simulation based on U.S. earnings data, which shows that moving to a tax system that allows individuals to choose their tax schedule increases social welfare by the same amount as would occur from a 4.0 percent windfall gain in the government budget (or about $600 per filer per year). The resulting reduction in distortions accounts for about two thirds of the increase in social welfare while the remainder comes from an increase in redistribution. |
| JEL: | D42 |
| Date: | 2008–02 |
| URL: | http://d.repec.org/n?u=RePEc:ecl:harjfk:rwp08-008&r=cta |
| By: | Subir Bose; Arup Daripa |
| Abstract: | In the standard independent private values (IPV)model, each bidder’s beliefs about the values of any other bidder is represented by a unique prior. In this paper we relax this assumption and study the question of auction design in an IPV setting characterized by ambiguity: bidders have an imprecise knowledge of the distribution of values of others, and are faced with a set of priors. We also assume that their preferences exhibit ambiguity aversion; in particular, they are represented by the epsilon-contamination model. We show that a simple variation of a discrete Dutch auction can extract almost all surplus. This contrasts with optimal auctions under IPV without ambiguity as well as with optimal static auctions with ambiguity - in all of these, types other than the lowest participating type obtain a positive surplus. An important point of departure is that the modified Dutch mechanism we consider is dynamic rather than static, establishing that under ambiguity aversion – even when the setting is IPV in all other respects – a dynamic mechanism can have additional bite over its static counterparts. |
| Keywords: | Ambiguity Aversion; Epsilon Contamination; Modified Dutch Auction; Dynamic Mechanism; Surplus Extraction |
| JEL: | D44 |
| Date: | 2008–07 |
| URL: | http://d.repec.org/n?u=RePEc:lec:leecon:08/24&r=cta |
| By: | Fehr, Ernst (University of Zurich); Brown, Martin (Swiss National Bank); Zehnder, Christian (University of Zurich) |
| Abstract: | We study the impact of reputational incentives in markets characterized by moral hazard problems. Social preferences have been shown to enhance contract enforcement in these markets, while at the same time generating considerable wage and price rigidity. Reputation powerfully amplifies the positive effects of social preferences on contract enforcement by increasing contract efficiency substantially. This effect is, however, associated with a considerable bilateralisation of market interactions, suggesting that it may aggravate price rigidities. Surprisingly, reputation in fact weakens the wage and price rigidities arising from social preferences. Thus, in markets characterized by moral hazard, reputational incentives unambiguously increase mutually beneficial exchanges, reduce rents, and render markets more responsive to supply and demand shocks. |
| Keywords: | wage rigidity, price rigidity, relational contracts, reciprocity, reputation |
| JEL: | D82 J3 J41 E24 C9 |
| Date: | 2008–08 |
| URL: | http://d.repec.org/n?u=RePEc:iza:izadps:dp3655&r=cta |
| By: | Fahlenbrach, Rudiger (Ohio State U) |
| Abstract: | I analyze the role of executive compensation in corporate governance. As proxies for corporate governance, I use board size, board independence, CEO-chair duality, institutional ownership concentration, CEO tenure, and an index of shareholder rights. The results from a broad cross-section of large U.S. public firms are inconsistent with recent claims that entrenched managers design their own compensation contracts. The interactions of the corporate governance mechanisms with total pay-for-performance and excess compensation can be explained by governance substitution. If a firm has generally weaker governance, the compensation contract helps better align the interests of shareholders and the CEO. |
| JEL: | G32 |
| Date: | 2008–02 |
| URL: | http://d.repec.org/n?u=RePEc:ecl:ohidic:2008-5&r=cta |
| By: | Wruck, Karen H. (Ohio State U); Wu, YiLin (National Tsing Hua University) |
| Abstract: | Utilizing a large sample with unique data gathered directly from private placement contracts, we address two important questions that remain unresolved in the literature. First, what types of relationships connect private placement investors and issuers, and how do these relationships affect issuer performance, deal structure and corporate governance? Second, do relationships between issuers and investors, or a lack thereof, shed light on the performance “puzzle” associated with private placements? Our primary finding is a strong, positive association between new relationships formed around the time of a placement and issuer performance at announcement and post-placement. The vast majority of new relationships are governance-related, so our findings are consistent with increased monitoring and/or stronger governance creating value for investors. We also find that relationship investors are more likely to gain governance influence than other investors. Issuers in “new economy” industries and with high specific risk grant investors more governance influence than other issuers, suggesting that access to governance is especially valuable when information asymmetries and/or specific investments are important. |
| JEL: | G32 |
| Date: | 2008–05 |
| URL: | http://d.repec.org/n?u=RePEc:ecl:ohidic:2007-18&r=cta |
| By: | Joachim Keller (National Bank of Belgium, Financial Stability Department; Université Libre de Bruxelles (ECARES)) |
| Abstract: | This paper is a case study that focuses on possible incentive problems in the management of Collateralized Loan Obligations (CLOs). CLOs are the most important type of special purpose vehicles in the leveraged loan market, and their managers appear to have a considerable impact on performance. Specifically, this article identifies the potential incentive, or agency, problems facing CLO managers, and the mechanisms that have been put in place to mitigate these problems. These mechanisms, including structural provisions, financial incentives and reputational concerns, should work fairly effectively. However, the analysis reveals some gaps which may allow managers to engage in certain adverse strategies. Specifically, the article raises concerns about the reliability of constraints on overall portfolio risk, the so-called portfolio tests, and about the effectiveness of reputation as a disciplining device. Both concerns are related to the benign market conditions until the summer of 2007 which – at least until now – prevented, any “stress-testing” of CLOs and differentiation between managers. This paper analyzes also evidence on CLO transactions in which managers buy/hold a portion of the equity tranche. Although retention of the equity tranche is only one of several incentive aligning mechanisms and not a general requirement, the analysis reveals that factors related to the agency problems can explain why in certain cases managers buy/hold a portion of the equity tranche. Specifically, first time managers and managers of a risky transaction buy/hold more frequently a portion of the equity tranche. Furthermore, buy/hold patterns change over time, which suggest that competitive effects and market trends play a role in the question whether to retain a portion of the equity tranche |
| Keywords: | credit risk transfer, moral hazard, asset securitisation, CLO's |
| JEL: | D82 G21 L89 |
| Date: | 2008–08 |
| URL: | http://d.repec.org/n?u=RePEc:nbb:docwpp:200808-22&r=cta |
| By: | Mansbridge, Jane (Harvard U) |
| Abstract: | Citizen demands for more accountability and transparency are implicitly grounded in a model of political representation based primarily on sanctions, in which the interests of the representative (in economic terms, the agent) are presumed to conflict with those of the constituent (in economic terms, the principal). A selection model of political representation, as with a selection model of principal-agent relations more generally, is possible when the principal and agent have similar objectives and the agent is already internally motivated to pursue those objectives. If a potential representative’s intrinsic goals (overall direction and specific policies) are those the constituent desires and if the representative also has a verifiable reputation of being both competent and honest, a constituent can select that representative for office and subsequently spend relatively little effort on monitoring and sanctioning. The higher the probability that the objectives of principal and agent may be aligned, the more efficient it is for the principal to invest resources ex ante, in selecting the required type, rather than ex post, in monitoring and sanctioning. A selection model is efficient when agents face unpredictable future decisions, are hard to monitor, and must act flexibly. Accountability through monitoring and sanctioning is appropriate to the sanctions model, narrative accountability and deliberative accountability to the selection model. Normatively, the selection model tends to focus the attention of both citizens and representatives on the common interest. In political science the selection model was advanced in the early 1960s as one of the two paths to constituency control, but after the 1970s was eclipsed by the sanctions model in spite of data seeming to indicate that in many circumstances it has greater predictive power. Economists have only recently begun to apply the selection model significantly to politics. |
| Date: | 2008–02 |
| URL: | http://d.repec.org/n?u=RePEc:ecl:harjfk:rwp08-010&r=cta |
| By: | Axel Lindner |
| Abstract: | This paper analyses in a simple global games framework welfare effects stemming from different communication strategies of public agencies if strategies of agents are complementary to each other: communication can either be fully transparent, or the agency opaquely publishes only its overall assessment of the economy, or it keeps information completely secret. It is shown that private agents put more weight to their private information in the transparent case than in case of opacity. Thus, in many cases, the appropriate measure against overreliance on public information is giving more details to the public instead of denying access to public information. |
| Keywords: | transparency; private information; common knowledge |
| JEL: | D83 E58 |
| Date: | 2008–08 |
| URL: | http://d.repec.org/n?u=RePEc:iwh:dispap:8-08&r=cta |
| By: | Gu, Chao (U of Missouri, Columbia) |
| Abstract: | Traditional models of bank runs do not allow for herding effects, because in these models withdrawal decisions are assumed to be made simultaneously. I extend the banking model to allow a depositor to choose his withdrawal time. When he withdraws depends on his liquidity type (patient or impatient), his private, noisy signal about the quality of the bank's portfolio, and the withdrawal histories of the other depositors. In some cases, the optimal banking contract permits herding runs. Some of these "runs" are efficient in that the bank is liquidated before the portfolio worsens. Others are not efficient; these are cases in which the herd is misled. |
| JEL: | C73 |
| Date: | 2007–10 |
| URL: | http://d.repec.org/n?u=RePEc:ecl:corcae:07-15&r=cta |
| By: | Manuel Amador; Pierre-Olivier Weill |
| Abstract: | We study the effect of releasing public information about productivity or monetary shocks when agents learn from nominal prices. While public releases have the benefit of providing new information, they can have the cost of reducing the informational efficiency of the price system. We show that, when agents have private information about monetary shocks, the cost can dominate, in that public releases increase uncertainty about fundamentals. In some cases, public releases can create or eliminate multiple equilibria. Our results are robust to adding velocity shocks, imperfectly observable prices, large idiosyncratic shocks, and introducing a bond market. |
| JEL: | D83 E40 E58 E61 |
| Date: | 2008–08 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:14255&r=cta |