nep-cta New Economics Papers
on Contract Theory and Applications
Issue of 2012‒09‒30
eighteen papers chosen by
Simona Fabrizi
Massey University, Albany

  1. Housing tenure choices with private information By Jonathan Halket; Matteo Pignatti
  2. Incentive provision when contracting is costly By Kvaløy, Ola; Olsen, Trond
  3. Professional service outsourcing, asymmetric information and wage inequality By Fuchs, William; Garicano, Luis
  4. Information Inertia By Jayant Ganguli; Scott Condie; Philipp Karl Illeditsch
  5. How avoiding overreaction to public information? Some insights on central bank communication practices By Emna Trabelsi
  6. Centralization and Accountability: Theory and Evidence from the Clean Air Act By Federico Boffaa; Amadeo Piollatto; Giacomo Ponzetto
  7. Agency, Firm Growth, and Managerial Turnover By Ronald W. Anderson; M. Cecilia Bustamante; Stéphane Guibaud
  8. Codes of conduct, private information, and repeated games By Juan I. Block; David K. Levine
  9. Equilibrium Selection in Experimental Games on Networks By Charness, Gary; Feri, Francesco; Meléndez-Jiménez, Miguel A.; Sutter, Matthias
  10. Should We Regulate Financial Information By Pablo Kurlat; Laura Veldkamp
  11. Leadership and Gender in Groups: An Experiment By Philip J. Grossman; Mana Komai; James E. Jensen
  12. Deliberation, Leadership and Information Aggregation By Javier Rivas; Carmelo Rodriguez-Alvarez
  13. Rules with Discretion and Local Information By Bowen, T. Renee; Kreps, David M.; Skrzypacz, Andrzej
  14. Incentives and Group Identity By Masella, Paolo; Meier, Stephan; Zahn, Philipp
  15. Strategic information transmission and stochastic orders By Szalay, Dezsö
  16. Career concerns: A human capital perspective By Camargo, Braz; Pastorino, Elena
  17. Preference Elicitation under Oath By Nicolas Jacquemet; Robert-Vincent Joule; Stephane Luchini; Jason Shogren
  18. Adverse Selection In Credit Markets and Regressive Profit Taxation By Florian Scheuer

  1. By: Jonathan Halket; Matteo Pignatti
    Abstract: We model the provision of owner-occupied versus rental housing services as a competitive search economy where households have private information over their expected duration. Owning solves the private information problem at the cost of double search. With public information, households with low vacancy hazard rates pay lower rents and search in thicker markets. With private information, housing is under-provided to long-duration households to discourage short-duration households from searching there. If a household has a high enough expected duration, rental distortions become large enough that she prefers to own. Customizing a house ameliorates the information problem while rent control exacerbates it.
    Date: 2012–07–20
  2. By: Kvaløy, Ola (UiS); Olsen, Trond (NHH)
    Abstract: We analyze optimal incentive contracts in a model where the probability of court enforcement is determined by the costs spent on contracting. The analysis shows that contract costs matter for incentive provision, both in static spot contracts and repeated game relational contracts. We show that there is not a monotonic relationship between contracting costs and incentive intensity, and that an increase in contracting costs may lead to higher-powered incentives. Moreover, we formulate hypotheses about the relationship between legal systems and incentive provision. Specifically, the model predicts higher-powered incentives in common law than in civil law systems.
    Keywords: .
    JEL: A10
    Date: 2012–09–19
  3. By: Fuchs, William; Garicano, Luis
    Abstract: The economy is experiencing a large shift towards professional services. Markets for these services are characterized by large information asymmetries: the difficulty in providing the necessary advice, the quality of the advice, and whether a problem is solved may all be unobservable. Our analysis considers these markets in a general equilibrium setting, which allows us to address the selection of talent into occupations and their efficiency and distributional implications. We first show that reductions in communications costs allow these markets to appear and increase wage inequality, as they favor the most skilled agents. However, under asymmetric information these markets are unable to exclude the least talented from posing as experts. If contingent contracts cannot be written, the market collapses and no services are bought or sold. If output contingent contracts are feasible, market exchanges weakly involve excessive trade. Despite the asymmetric information efficiency can be attainable when experts can solve many problems. Even when the allocation is efficient, the asymmetry of information has distributional consequences. It benefits moderately skilled agents at the expense of the least talented and most talented ones.
    Keywords: Inequality; Knowledge markets; Organization
    JEL: D82 D83
    Date: 2012–09
  4. By: Jayant Ganguli; Scott Condie; Philipp Karl Illeditsch
    Abstract: We study how information about an asset affects optimal portfolios and equilibrium asset prices when investors are not sure about the model that predicts future asset values and thus treat the information as ambiguous. We show that this ambiguity leads to optimal portfolios that are insensitive to news even though there are no information processing costs or other market frictions. In equilibrium, we show that stock prices may not react to public information that is worse than expected and this mispricing of bad news leads to profitable trading strategies based on public information.
    Date: 2012–09–19
  5. By: Emna Trabelsi
    Abstract: It is argued in literature that transparency may be detrimental to welfare. Morris and Shin (2002) suggest reducing the precision of public information or withholding it. The latter seems to be unrealistic. Thus, the issue is not whether central bank should disclose or not its information, but how the central bank should disclose it. We consider a static coordination game in which the private sector receives n semi-public information plus their specific information, and we analyse the impact on the private sector's welfare. The paper consists of three parts: (1) By making assumption that no costs are attached to the provision of private information, we determined the conditions under which the central bank faces a trade-o_ between enhancing commonality and the use of more precise, but fragmented information. Such intermediate transparent strategies may prevent the bad side of public information from overpowering the good side of it. (2) The latter result is found even in presence of positive externalities. (3) Introducing costs to that framework in equilibrium shows that strategic substitutability between semi-public and private precisions is a very likely outcome.
    Keywords: Transparency, Central bank Communication, semi public information, private information, static coordination game.
    JEL: D82 D83 E58
    Date: 2012–09–14
  6. By: Federico Boffaa; Amadeo Piollatto; Giacomo Ponzetto
    Abstract: This paper studies fiscal federalism when voter information varies across regions. We develop a model of political agency with heterogeneously informed voters. Rent- seeking politicians provide public goods to win the votes of the informed. As a result, rent extraction is lower in regions with higher information. In equilibrium, electoral discipline has decreasing returns. Thus, political centralization efficiently reduces aggregate rent extraction. The model predicts that a region’s benefits from centralization are decreasing in its residents’information. We test this prediction using panel data on pollutant emissions across U.S. states. The 1970 Clean Air Act centralized environ- mental policy at the federal level. In line with our theory, we find that centralization induced a differential decrease in pollution for uninformed relative to informed states.
    Keywords: political centralization, government accountability, imperfect information, interregional heterogeneity, elections, environmental policy, air pollution
    JEL: D72 D82 H73 H77 Q58
    Date: 2012–04
  7. By: Ronald W. Anderson; M. Cecilia Bustamante; Stéphane Guibaud
    Abstract: We study managerial incentive provision under moral hazard in a firm subject to stochastic growth opportunities. In our model, managers are dismissed after poor performance, but also when an alternative manager is more capable of growing the firm. The optimal contract may involve managerial entrenchment, such that growth opportunities are foregone after good performance. Firms with better growth prospects have higher managerial turnover and more front-loaded compensation. Firms may pay severance to incentivize their managers to report truthfully the arrival of growth opportunities. By ignoring the externality of the dismissal policy onto future managers, the optimal contract implies excessive retention.
    Date: 2012–09
  8. By: Juan I. Block; David K. Levine
    Abstract: We examine self-referential games in which there is a chance of understanding an opponent’s intentions. Our main focus is on the interaction of two sources of information about opponents’ play: direct observation of the opponent’s code-of-conduct, and indirect observation of the opponent’s play in a repeated setting.
    Keywords: Game theory
    Date: 2012
  9. By: Charness, Gary; Feri, Francesco; Meléndez-Jiménez, Miguel A.; Sutter, Matthias
    Abstract: We study behavior and equilibrium selection in experimental network games. We varytwo important factors: (a) actions are either strategic substitutes or strategic complements, and(b) subjects have either complete or incomplete information about the structure of a randomnetwork. Play conforms strongly to the theoretical predictions, providing an impressivebehavioral confirmation of the Galeotti, Goyal, Jackson, Vega-Redondo, and Yariv (2010)model. The degree of equilibrium play is striking, even with incomplete information. We findthat under complete information, subjects typically play the stochastically-stable (inefficient)equilibrium when the game involves strategic substitutes, but play the efficient one with strategiccomplements. Our results suggest that equilibrium multiplicity may not be a major concern.Subjects’ actions and realized outcomes under incomplete information depend strongly on boththe degree and the connectivity. When there are multiple equilibria, subjects begin by playing theefficient equilibrium, but eventually converge to the inefficient one.
    Keywords: Economics, General, Economics, Other, random networks, incomplete information, strategic substitutes, strategic complements, experiment
    Date: 2012–02–18
  10. By: Pablo Kurlat; Laura Veldkamp
    Date: 2012
  11. By: Philip J. Grossman; Mana Komai; James E. Jensen
    Abstract: We conduct a laboratory experiment with salient incentives, a technique used by economists to study gender differences in leadership. We strip the concept of leadership down to its most basic elements. Questions of style and evaluations of a leader based on style of leadership adopted are made irrelevant. Our leader is an average player who is distinguished merely by occupying the leadership position; his/her legitimacy is derived from superior information about the value of the project in hand. Legitimacy is conferred on the leader from the special information possessed. Followers voluntarily choose whether or not to follow the better informed leader. The effectiveness of the leader is reduced to two simple factors: is the leader willing or not to voluntarily place herself in a vulnerable position to achieve an outcome beneficial to both the leader and her followers and do followers trust their leaders to make the right choice? We provide experimental evidence that, when the leaders’ gender is revealed to their followers in mixed groups, female leaders hesitate to lead (send a costly signal) while followers’ behavior does not indicate any gender discrimination. Such behavior is not observed among the male leaders.
    Keywords: Leadership, Information, Gender, Free Riding, Coordination Problem.
    Date: 2012–09
  12. By: Javier Rivas; Carmelo Rodriguez-Alvarez
    Abstract: We analyze committees of voters who take a decision between two options as a two stage process. In a discussion stage, voters share non verifiable information about a private signal concerning what is the best option. In a voting stage, votes are cast and one of the options is implemented. We introduce the possibility of leadership whereby a certain voter, the leader, is more influential than the rest at the discussion stage even though she is not better informed. We study information transmission and find, amongst others, a non-monotonic relation between how influential the leader is and how truthful voters are at discussion stage.
    Date: 2012–09
  13. By: Bowen, T. Renee (Stanford University); Kreps, David M. (Stanford University); Skrzypacz, Andrzej (Stanford University)
    Abstract: To ensure that individual actors take certain actions, community enforcement may be required. This can present a rules-versus-discretion dilemma: It can become impossible to employ discretion based on information that is not widely held, because the wider community is unable to tell whether the information was used correctly. Instead, actions may need to conform to simple and widely verifiable rules. We study when discretion in the form of permitted exceptions to the simple rule can be permitted, if the information is shared by the action taker and a second party, who is able to verify for the larger group that an exception is warranted. In particular, we compare protocols where the second party excuses the action taker from taking the action ex ante with protocols where the second party instead forgives a rule-breaking actor ex post, finding that the latter is, in general, useful in a wider variety of circumstances.
    JEL: C73 D82
    Date: 2012–08
  14. By: Masella, Paolo (University of Mannheim); Meier, Stephan (Columbia University); Zahn, Philipp (University of Mannheim)
    Abstract: This paper investigates in a principal-agent environment whether and how group membership influences the effectiveness of incentives and when incentives can have “hidden costs”, i.e., a detrimental effect. We show experimentally that in all interactions control mechanisms can have hidden costs for reasons specific to group membership. In within-group interactions control has detrimental effects because the agent does not expect to be controlled and reacts negatively when being controlled. In between-group interactions, agents perceive control more hostile once we condition on their beliefs about principal's behavior. Our finding contributes to the micro-foundation of psychological effects of incentives.
    Keywords: crowding out, motivation, incentives, social preferences, social identity, trust, experiment
    JEL: C91 D03 Z13
    Date: 2012–08
  15. By: Szalay, Dezsö
    Abstract: I develop new results on uniqueness and comparative statics of equilibria in the Crawford and Sobel (1982) strategic information transmission game. For a class of utility functions, I demonstrate that logconcavity of the density implies uniqueness of equilibria inducing a given number of Receiver actions. I provide comparative statics results with respect to the distribution of types for distributions that are comparable in the likelihood ratio order, implying, e.g., that advice from a better informed Sender induces the Receiver to choose actions that are more spread out.
    Keywords: strategic information transmission; cheap talk; uniqueness; comparative statics; logconcavity; likelihood ratio order
    JEL: D82
    Date: 2012–09
  16. By: Camargo, Braz; Pastorino, Elena
    Abstract: We introduce human capital accumulation, in the form of learning by doing, in a life cycle model of career concerns and analyze how human capital acquisition a ects implicit incentives for performance. We show that standard results from the career concerns literature can be reversed in the presence of human capital accumulation.Namely, implicit incentives need not decrease over time and may decrease with thedegree of uncertainty about an individual's talent. Furthermore, increasing the pre-cision of output measurement can weaken rather than strengthen implicit incentives.Overall, our results contribute to shed new light on the ability of markets to disciplinemoral hazard in the absence of explicit contracts linking pay to performance.
    Date: 2012–09–12
  17. By: Nicolas Jacquemet (CES - Centre d'économie de la Sorbonne - CNRS : UMR8174 - Université Paris I - Panthéon Sorbonne, EEP-PSE - Ecole d'Économie de Paris - Paris School of Economics - Ecole d'Économie de Paris); Robert-Vincent Joule (LPS-AIX - Laboratoire de Psychologie Sociale - Université de Provence - Aix-Marseille I : EA849); Stephane Luchini (GREQAM - Groupement de Recherche en Économie Quantitative d'Aix-Marseille - Université de la Méditerranée - Aix-Marseille II - Université Paul Cézanne - Aix-Marseille III - Ecole des Hautes Etudes en Sciences Sociales (EHESS) - CNRS : UMR7316); Jason Shogren (Departement of Economics and Finance, University of Wyoming - University of Wyoming)
    Abstract: Eliciting sincere preferences for non-market goods remain a challenge due to the discrepency between hypothetical and real behavior and false zeros. The gap arises because people either overstate hypothetical values or understate real commitments or a combination of both. Herein we examine whether the traditional real-world institution of the solemn oath can improve preference elicitation. Applying the social psychology theory on the oath as a truth-telling-commitment device, we ask our bidders to swear on their honour to give honest answers prior to participating in an incentive-compatible second-price auction. The oath is an ancillary mechanism to commit bidders to bid sincerely in a second-price auction. Results from our induced valuation testbed treatments suggest that the oath-only auctions outperform all our other auctions (real and hypothetical). In our homegrown valuation treatments eliciting preferences for dolphin protection, the oath-only design induced people to treat as binding both their experimental budget constraint (i.e., lower values on the high end of the value distribution) and participation constraint (i.e., positive values in place of the zero bids used to opt-out of auction). Based on companion treatments, we show the oath works through an increase in the willingness to tell the truth, due to a strengthening of the intrinsic motivation to do so.
    Keywords: Oath; Commitment; Vickrey auction; Hypothetical bias; Induced values; Homegrown values
    Date: 2012
  18. By: Florian Scheuer
    Abstract: In many countries, taxes on businesses are less progressive than labor income taxes. This paper provides a justification for this pattern based on adverse selection that entrepreneurs face in credit markets. Individuals choose between becoming entrepreneurs or workers and differ in their skill in both of these occupations. I find that endogenous cross-subsidization in the credit market equilibrium results in excessive (insufficient) entry of low-skilled (high-skilled) agents into entrepreneurship. This gives rise to a corrective role for differential taxation of entrepreneurial profits and labor income. In particular, a profit tax that is regressive relative to taxes on labor income restores the efficient occupational choice.
    JEL: D82 E22 E44 G11 G14 H21
    Date: 2012–09

This nep-cta issue is ©2012 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.