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on Contract Theory and Applications |
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Issue of 2009‒11‒07
thirteen papers chosen by Simona Fabrizi Massey University Department of Commerce |
| By: | Michela Cella |
| Abstract: | In this paper we study the delegation of a production process in a three-tier hierarchy. The principal contracts directly only with the supplier that produces the ?rst input leaving him in charge of the contract for the production of the second input. We allow the principal to costlessly monitor the communication between the agents at the subcontracting stage in an attempt to save on informa- tional rents and improve productive e¢ ciency. We show that, if the contractor is free to choose the type of subcontract, he must be given additional incen- tives to acquire information about the subcontractor which will then be object of the monitoring. The monitoring is therefore much less e¤ective then when the principal can force the contractor into choosing her preferred subcontract. |
| Keywords: | Adverse Selection, Hierarchies, Delegation, Monitoring. |
| JEL: | D20 D82 L22 L51 |
| Date: | 2009–07 |
| URL: | http://d.repec.org/n?u=RePEc:mib:wpaper:172&r=cta |
| By: | Michela Cella; Massimo Florio |
| Abstract: | This paper applies incentive theory to the context of the European Union (EU) Regional Policy. The core instruments of the policy are the Structural Funds, capital grants that ?ow from the European Commission (EC) to Mem- ber States and regional authorities to promote investment and growth at local level. The EU grants need a co-payment by the regional government and do not cover in full the investment cost. We model this situation, similar to several other supra- national or federal contexts, as a simple principal-supervisor-agent model of the investment game between a supranational player (the principal), such as the EC, a non (fully) benevolent regional government (the supervisor), and a private ?rm (the executing agency). We show how the role of providers of additional information, the region (ex-ante) and an evaluator (ex-post) is crucial to reducing the optimal value of the grant and to improving the inef- ?ciencies caused by asymmetric information at the grant decision stage in a federal hierarchy |
| Keywords: | Hierarchical contracting, project evaluation, EU Regional Policy |
| JEL: | D82 H77 R58 |
| Date: | 2009–06 |
| URL: | http://d.repec.org/n?u=RePEc:mib:wpaper:171&r=cta |
| By: | Susanne Ohlendorf (University of Bonn); Patrick Schmitz (University of Cologne) |
| Abstract: | We consider the case of an upstream seller who works to improve an asset that has been specialized to a downstream buyer's needs. The buyer then makes a take it or leave it offer to the seller about how the future surplus should be split. We assume that the seller from the outset has private information about the fraction of the surplus that he can realize on his own, and show that this leads to higher investment compared to the complete information case. This positive effect on investment is countervailed by the occurrence of inefficient separations, which result when the buyer mistakenly tries to call the seller's bluff with a low offer. |
| Keywords: | ignaling, relationship-specific investment, incomplete contracts, outside options |
| JEL: | D23 D82 |
| Date: | 2009–10 |
| URL: | http://d.repec.org/n?u=RePEc:trf:wpaper:281&r=cta |
| By: | Ana Pinto Borges (Faculdade de Economia, Universidade do Porto); João Correia-da-Silva (CEF.UP and Faculdade de Economia, Universidade do Porto); Didier Laussel (GREQAM, Université de la Méditerranée) |
| Abstract: | We determine the optimal contract for the regulation of a bureaucratic firm in the case in which the bureaucratic bias is firm's private information. We find that output is distorted upward when the bureaucratic bias is low, downward when it is high, and equals a reference output when it is intermediate (in this case, the participation constraint is binding). We also determine an endogenous reference output (equal to the expected output, which depends on the reference output), and find that the response of output to cost is null in the short-run (in which the reference output is fixed) whenever the managers' types are in the intermediate range and negative in the long-run (after the adjustment of the reference output to equal expected output). |
| Keywords: | Procurement, Regulation, Adverse selection, Bureaucracy, Reservation utility |
| JEL: | D82 H42 H51 I11 |
| Date: | 2009–10 |
| URL: | http://d.repec.org/n?u=RePEc:por:fepwps:337&r=cta |
| By: | Dionne, Georges; Giuliano, Florence; Picard, Pierre |
| Abstract: | This article makes a bridge between the theory of optimal auditing and the scoring methodology in an asymmetric information setting. Our application is meant for insurance claims fraud, but it can be applied to many other activities that use the scoring approach. Fraud signals are classified based on the degree to which they reveal an increasing probability of fraud. We show that the optimal auditing strategy takes the form of a “Red Flags Strategy” which consists in referring claims to a Special Investigative Unit (SIU) when certain fraud indicators are observed. The auditing policy acts as a deterrence device and we explain why it requires the commitment of the insurer and how it should affect the incentives of SIU staffs. The characterization of the optimal auditing strategy is robust to some degree of signal manipulation by defrauders as well as to the imperfect information of defrauders about the audit frequency. The model is calibrated with data from a large European insurance company. We show that it is possible to improve our results by separating different groups of insureds with different moral costs of fraud. Finally, our results indicate how the deterrence effect of the audit scheme can be taken into account and how it affects the optimal auditing strategy. |
| Keywords: | Audit; scoring; insurance fraud; red flags strategy; fraud indicators; suspicion index; moral cost of fraud; deterrence effect; signal manipulation. |
| JEL: | D0 G22 C4 |
| Date: | 2009–01 |
| URL: | http://d.repec.org/n?u=RePEc:pra:mprapa:18374&r=cta |
| By: | Ingo Fender (Bank for International Settlements, Monetary and Economic Department); Janet Mitchell (National Bank of Belgium, Financial Stability Department) |
| Abstract: | This paper examines the power of different contractual mechanisms to influence an originator's choice of costly effort to screen borrowers when the originator plans to securitise its loans. The analysis focuses on three potential mechanisms: the originator holds a "vertical slice", or share of the portfolio; the originator holds the equity tranche of a structured finance transaction; the originator holds the mezzanine tranche, rather than the equity tranche. These mechanisms will result in differing levels of screening, and the differences arise from varying sensitivities to a systematic risk factor. Equity tranche retention is not always the most effective mechanism, and the equity tranche can be dominated by either a vertical slice or a mezzanine tranche if the probability of a downturn is likely and if the equity tranche is likely to be depleted in a downturn. If the choice of how much and what form to retain is left up to the originator, the retention mechanism may lead to low screening effort, suggesting a potential rationale for government intervention |
| Keywords: | securitisation, retention requirements, tranching, screening incentives |
| JEL: | D82 D86 G21 G28 |
| Date: | 2009–10 |
| URL: | http://d.repec.org/n?u=RePEc:nbb:reswpp:200910-16&r=cta |
| By: | Fabrice Rousseau (Economics, National University of Ireland, Maynooth); Laurent Germain (Toulouse Business School, France); Fabrice Rousseau (Economics, National University of Ireland, Maynooth); Anne Vanhems (Toulouse Business School, France) |
| Abstract: | We analyze a model where irrational and rational traders exchange a risky asset with competitive market makers. Irrational traders misperceive the mean of prior information (optimistic/pessimistic bias), the variance of prior information (better/lower than average effect)and the variance of the noise in their private signal (overconfidence/underconfidence bias). When market makers are rational we obtain results identical to Kyle and Wang (1997). However if market makers are irrational, we obtain that moderately underconfident traders can outperform rational ones and that irrational market makers can fare better than rational ones. Lastly we find that extreme level of confidence implies high trading volume. |
| Keywords: | Irrationality |
| Date: | 2008 |
| URL: | http://d.repec.org/n?u=RePEc:may:mayecw:n1870108.pdf&r=cta |
| By: | Iris Kesternich (Ludwig Maximilian Universität München); Heiner Schumacher (Goethe Universität Frankfurt) |
| Abstract: | We analyze the use of information in a repeated oligopolistic insurance market. To sustain collusion, insurance companies might refrain from changing their pricing schedules even if new information about risks becomes available. We therefore provide an explanation for the existence of "unused observables" that is information which a) insurance companies collect or could collect, b) is correlated with the risk experience, but c) is not used by companies to set prices. Furthermore, the existence of bulk discounts becomes rationalizable. These results also obtain if we include communication among companies and market entry to our framework. |
| Keywords: | repeated games, insurance markets, oligopoly, unused observables |
| JEL: | C72 G22 L13 |
| Date: | 2009–09 |
| URL: | http://d.repec.org/n?u=RePEc:trf:wpaper:280&r=cta |
| By: | Filippin, Antonio (University of Milan) |
| Abstract: | The paper explains how workers' expectations of being discriminated against can be self-confirming, accounting for the persistence of unequal outcomes in the labour market even beyond the causes that originally generated them. The theoretical framework used is a two-stage game of incomplete information in which one employer promotes only one among two workers after having observed their productivity, which is used as a signal of their ability. Workers who expect to be discriminated against exert a lower effort on average, because of a lower expected return, thereby being promoted less frequently even by unbiased employers. This implies that achievements of minority groups may not improve when the fraction of discriminatory employers actually decreases, and such a mechanism is robust both to trial work periods and to affirmative actions like quotas. |
| Keywords: | discrimination, workers’ expectations, self-confirming beliefs |
| JEL: | J71 J15 J24 D82 C79 |
| Date: | 2009–10 |
| URL: | http://d.repec.org/n?u=RePEc:iza:izadps:dp4490&r=cta |
| By: | Dmitry Shapiro; Xianwen Shi; Artie Zillante |
| Abstract: | We study how the predictive power of level-k models changes as we perturb the classical beauty contest setting along two dimensions: the strength of the coordination motive and the information symmetry. We use the Morris and Shin (2002) model as the unified framework for our study, and find that the predictive power of level-k models varies considerably along these two dimensions. Level-k models are successful in predicting subject behavior in settings with symmetric information and a strong coordination motive. When we introduce private information or weaken the strength of the coordination motive, the predictive power of level-k models decreases significantly. |
| Keywords: | level-k models, beauty contest, coordination |
| JEL: | C72 C92 D83 |
| Date: | 2009–10–28 |
| URL: | http://d.repec.org/n?u=RePEc:tor:tecipa:tecipa-380&r=cta |
| By: | Jun Nakabayashi |
| Abstract: | To be the lowest bidder in procurement auctions, prime contractors commonly solicit subcontract bids at the bid preparation stage. A remarkable feature of the subcontract competition is that "winning is not everything"; the lowest subcontractor gets a job conditional on his prime contractor's successful bid. This paper makes the first attempt to establish a model for such pre-award subcontract competitions included in procurement auctions. I find that subcontractors strategically provide larger discounts on their bids in response to increasing competition among prime contractors. I thus clarify that the behavior results in an endogenous downward shift in the distribution of bidders' private information in the downstream auction as the number of rivals increases, or the reservation price drops. The result has a striking impact on the analysis of optimal reservation price and empirical identification of the bidder's cost distribution in procurement auctions. |
| Date: | 2009 |
| URL: | http://d.repec.org/n?u=RePEc:tsu:tewpjp:2009-013&r=cta |
| By: | Paola Paiardini (School of Economics, Mathematics & Statistics, Birkbeck) |
| Abstract: | In this paper we investigate the presence of asymmetric information in the parallel trading of ten-year government fixed rate bonds (BTP) on two secondary electronic platforms: the business-to-business (B2B) MTS platform and the business-to-customer (B2C) BondVision one. The two platforms are typified by a different degree of transparency. We investigate whether the probability to encounter an informed trader on the less transparent market is higher than the corresponding probability on the more transparent one. Our results show that on BondVision, that is the less transparent platform, the probability of encountering an informed trader is higher. Finally we perform a series of tests to check the robustness of our estimates. Two tests do not meet the hypothesis of independence. Nevertheless, these findings do not controvert the hypothesis of our model, but call for further analysis. |
| Date: | 2009–10 |
| URL: | http://d.repec.org/n?u=RePEc:bbk:bbkefp:0908&r=cta |
| By: | Pouliakas, Konstantinos; Theodoropoulos, Nikolaos |
| Abstract: | Using two cross-sections of a representative dataset of British establishments, the effect of various forms of incentive pay (e.g. performance-related pay (PRP), profit-sharing, share ownership, cash bonuses) on the absence rates of firms is investigated. Incentives that are tightly linked to individual or group merit are found to be significantly related to lower absenteeism. Important disparities in the effect of PRP on absenteeism are detected, which depend on the extent of monitoring, private-public status, teamwork, and other organizational changes. The findings are robust to the potential endogenous relation between monitoring, PRP and absenteeism, and have important implications for the design of optimal compensation policies by firms. |
| Keywords: | performance-related pay; incentives; absenteeism |
| JEL: | J22 C21 J33 |
| Date: | 2009–10–29 |
| URL: | http://d.repec.org/n?u=RePEc:pra:mprapa:18238&r=cta |