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on Contract Theory and Applications |
| By: | Maria Goltsman (University of Western Ontario); Gregory Pavlov (University of Western Ontario) |
| Abstract: | We study communication in a static Cournot duopoly model under the assumption that the firms have unverifiable private information about their costs. We show that cheap talk between the firms cannot transmit any information. However, if the firms can communicate through a third party, communication can be informative even when it is not substantiated by any commitment or costly actions. We exhibit a simple mechanism that ensures informative communication and interim Pareto dominates the uninformative equilibrium for the firms. |
| Keywords: | Cournot oligopoly; communication; information; cheap talk; mediation |
| JEL: | C72 D21 D43 D82 D83 |
| Date: | 2012 |
| URL: | http://d.repec.org/n?u=RePEc:uwo:uwowop:20121&r=cta |
| By: | Mireille Chiroleu-Assouline (Centre d'Economie de la Sorbonne - Paris School of Economics); Jean-Christophe Poudou (LAMETA - Université Montpellier 1); Sébastien Roussel (Université Montpellier 3 Paul Valéry & LAMETA - Université Montpellier 1) |
| Abstract: | In this paper we aim at theoretically grounding the Reducing Emissions from Deforestation and Forest Degradation + (REDD+) scheme as a contractual relationship between countries in the light of the theory of incentives. Considering incomplete information about reference levels of deforestation as well as exogenous implementation and transaction costs, we compare two types of contracts : a deforestation performance-based contract and a conditional avoided deforestation-based contract. Because of the implementation and transaction costs, each kind of REDD+ contract implies a dramatically different information rent / efficiency trade-off. If the contract is performance-based (resp. conditionality-based), information rents are awarded to countries with the ex ante lowest (resp. highest) deforestation. In a simple quadratic setting, there is a reference level threshold in terms of efficiency towards less deforestation. In terms of expected welfare, conditional avoided deforestation-based schemes are preferred. |
| Keywords: | Conditionality, contract, deforestation, hidden information, incentives, performance, Reducing Emissions from Deforestation and forest Degradation+ (REDD+). |
| JEL: | D82 O13 Q23 Q54 |
| Date: | 2012–09 |
| URL: | http://d.repec.org/n?u=RePEc:mse:cesdoc:12059&r=cta |
| By: | Michael P. Keane (Nuffield College, University of Oxford); Olena Stavrunova (University of Technology, Sydney, Australia) |
| Abstract: | The size of adverse selection and moral hazard eects in health insurance markets has important policy implications. For example, if adverse selection eects are small while moral hazard eects are large, conventional remedies for ineciencies created by adverse selection (e.g., mandatory insurance enrolment) may lead to substantial increases in health care spending. Unfortunately, there is no consensus on the magnitudes of adverse selection vs. moral hazard. This paper sheds new light on this important topic by studying the US Medigap (supplemental) health insurance market. While both adverse selection and moral hazard eects of Medigap have been studied separately, this is the rst paper to estimate both in an unied econometric framework. We develop an econometric model of insurance demand and health care expenditure, where adverse selection is measured by sensitivity of insurance demand to expected expenditure. The model allows for correlation between unobserved determinants of expenditure and insurance demand, and for heterogeneity in the size of moral hazard eects. Inference relies on an MCMC algorithm with data augmentation. Our results suggest there is adverse selection into Medigap, but the eect is small. A one standard deviation increase in expenditure risk raises the probability of insurance purchase by 0.037. In contrast, our estimate of the moral hazard eect is much larger. On average, Medigap coverage increases health care expenditure by 32%. |
| Keywords: | Health insurance, adverse selection, moral hazard, health care expenditure |
| JEL: | D82 C34 C35 |
| Date: | 2012–10–23 |
| URL: | http://d.repec.org/n?u=RePEc:nuf:econwp:1210&r=cta |
| By: | Lionel de Boisdeffre (Centre d'Economie de la Sorbonne) |
| Abstract: | We consider a pure exchange financial economy, where agents, possibly asymetrically informed, face an "exogenous uncertainty", on the future state of nature, and an "endogenous uncertainty", on the future price in each random state. Namely, every agent forms private price anticipations on every prospective market, distributed along an idiosyncratic probability law. At a sequential equilibrium, all agents expect the "true" price as a possible outcome and elect optimal strategies at the first period, which clear on all markets at every time period. We show that, provided the endogenous uncertainty is large enough, a sequential equilibrium exists under standard conditions for all types of financial structures and information signals across agents. This result suggests that standard existence problems of sequential equilibrium models, following Hart (1975), stem from the perfect foresight assumption. |
| Keywords: | Sequential equilibrium, temporary equilibrium, perfect foresight, existence, rational expectations, financial markets, asymmetric information, arbitrage. |
| JEL: | D52 |
| Date: | 2012–09 |
| URL: | http://d.repec.org/n?u=RePEc:mse:cesdoc:12055&r=cta |
| By: | Smith, James L. (Resources for the Future); Thompson, Rex |
| Abstract: | We examine the role that spot markets and physical inventories play in revealing to uninformed traders the expectations of informed traders. Although many papers investigate potential mechanisms by which futures markets may disseminate such information, the role of spot markets has not been examined in comparable detail. Because the incentive for speculative trading in futures contracts stems from the failure of spot markets to eliminate differences in beliefs regarding future market conditions, the scope for speculative trading in the futures market is therefore determined, but also limited, by the extent to which spot market transactions disseminate private information. Using a rational expectations approach, we show that equilibrium differences in beliefs are determined by specific characteristics of the underlying commodity, including storage costs, the amplitude of unexpected demand and supply shocks, the accuracy of information acquired by informed investors, the numbers of informed and uninformed investors, and the elasticity of demand and supply. |
| Keywords: | futures trading, speculation, inventories, private information |
| JEL: | D82 D84 G13 G14 |
| Date: | 2012–09–27 |
| URL: | http://d.repec.org/n?u=RePEc:rff:dpaper:dp-12-45&r=cta |
| By: | Junichiro Ishida; Takashi Shimizu |
| Abstract: | It is often touted that decisiveness is one of the most important qualities to be possessed by leaders, broadly defined. To see how and why decisiveness can be a valuable asset in organizations, we construct a model of strategic information transmission where: (i) a decision maker solicits opinions sequentially from experts; (ii) how many experts to solicit opinions from is the decision maker's endogenous choice. We show that communication is less efficient when the decision maker is indecisive and cannot resist the temptation to ask for a second opinion. This result suggests that the optimal diversity of information sources depends critically on the strategic nature of communication: when communication is strategic, it is optimal to delegate information acquisition to a single party and rely exclusively on it; when it is not, it is optimal to diversify information sources and aggregate them via communication. |
| Date: | 2012–10 |
| URL: | http://d.repec.org/n?u=RePEc:dpr:wpaper:0857&r=cta |
| By: | Nicola Meccheri; Luciano Fanti |
| Abstract: | This paper studies the dynamic interaction between product market competition and incentives against shirking. It is shown that efficiency wages can both increase and decrease when competition becomes fiercer. Instead, discretionary bonuses do not vary with competition but there exists an upper threshold for the number of competing firms, over which such schemes are no longer sustainable as equilibrium. Finally, industry profits under bonuses are generally higher than under eciency wages, but the reverse actually applies when information about firms’ misbehaviour flows at a low rate and the number of firms exceeds the critical threshold. |
| Keywords: | eciency wages, discretionary bonuses, competition, industry profits |
| JEL: | J33 J41 L13 |
| Date: | 2012–06–01 |
| URL: | http://d.repec.org/n?u=RePEc:pie:dsedps:2012/139&r=cta |
| By: | Rafael López Zorzano (Universidad Complutense, Spain.); Teodosio Pérez-Amaral (Departamento de Economía Cuantitativa (Department of Quantitative Economics), Facultad de Ciencias Económicas y Empresariales (Faculty of Economics and Business), Universidad Complutense de Madrid.); Teresa Garín-Muñoz (UNED, Spain.); Covadonga Gijón Tascón (Universidad Complutense, Spain.) |
| Abstract: | There is growing evidence that low-quality customer service prevails in the mobile telecommunications industry. In this paper we provide theoretical support to this empirical observation by using simple game theoretical models where inefficient low-quality service levels are part of an equilibrium strategy for the firms. We also find that the inefficiency is due to a demand-side market failure generated by incomplete information, and that it does not necessarily vanish with competition or with repeated interaction. This is particularly important in terms of policy implications because it suggests that the inefficiency should be solved through regulation via consumer protection. |
| Keywords: | Mobile telecommunications, Consumer protection, Game theory, Customer services, Competition, Oligopoly, Market failure, Experience goods, Incomplete information. |
| JEL: | D18 D43 D82 L15 L96 |
| Date: | 2012–09 |
| URL: | http://d.repec.org/n?u=RePEc:ucm:doicae:1223&r=cta |
| By: | Chaigneau, Pierre; Sahuguet, Nicolas |
| Abstract: | We develop a stylized model of efficient contracting in which firms compete for CEOs. The optimal contracts are designed to retain and insure CEOs. The retention motive explains pay-for-luck in executive compensation, while the insurance feature explains asymmetric pay-for-luck. We show that the optimal contract can be implemented with stock-options based on a single performance measure which does not filter out luck. When the capacity to dismiss underperforming CEOs differs across firms, and the ability of different CEOs is more or less precisely estimated ex-ante, endogenous matching between CEOs and firms can explain the observed association between pay-for-luck and bad corporate governance. The model also predicts that an improvement in the governance of badly governed firms has spillover effects that increase CEO pay in all firms. |
| Keywords: | CEO pay; corporate governance; pay-for-luck; stock-options |
| JEL: | G34 M12 |
| Date: | 2012–10 |
| URL: | http://d.repec.org/n?u=RePEc:cpr:ceprdp:9182&r=cta |
| By: | Shelegia, Sandro |
| Abstract: | I show that the equilibrium derived in Gravelle and Sivey (2010) cannot hold for rational consumers. I then partially characterize the continuum of possible equilibria for rational consumers. |
| Keywords: | Quality choice, imperfect information |
| JEL: | D83 D43 |
| Date: | 2012–10–22 |
| URL: | http://d.repec.org/n?u=RePEc:pra:mprapa:42121&r=cta |
| By: | Herweg, Fabian; Schmidt, Klaus M. |
| Abstract: | We propose a theory of ex post inefficient renegotiation that is based on loss aversion. When two parties write a long-term contract that has to be renegotiated after the realization of the state of the world, they take the initial contract as a reference point to which they compare gains and losses of the renegotiated transaction. We show that loss aversion makes the renegotiated outcome sticky and materially inefficient. The theory has important implications for the optimal design of long-term contracts. First, it explains why parties often abstain from writing a beneficial long-term contract or why some contracts specify transactions that are never ex post efficient. Second, it shows under what conditions parties should rely on the allocation of ownership rights to protect relationship-specific investments rather than writing a specific performance contract. Third, it shows that employment contracts can be strictly optimal even if parties are free to renegotiate. |
| Keywords: | Renegotiation; Incomplete Contracts; Reference Points; Employment Contracts; Behavioral Contract Theory. |
| JEL: | C78 D03 D86 |
| Date: | 2012–10–04 |
| URL: | http://d.repec.org/n?u=RePEc:trf:wpaper:390&r=cta |
| By: | Rick Harbaugh (Department of Business Economics and Public Policy, Indiana University Kelley School of Business); Eric Rasmusen (Department of Business Economics and Public Policy, Indiana University Kelley School of Business) |
| Abstract: | Certifiers of quality often report only coarse grades to the public despite having measured quality more finely, e.g., "Pass" or "Certified" instead of "73 out of 100". Why? We show that coarse grades result in more information being provided to the public because the coarseness encourages those of middling quality to apply for certification. Dropping exact grading in favor of the best coarse grading scheme always reduces public uncertainty because the extra participation outweighs the coarser reporting. In some circumstances, the coarsest meaningful grading scheme, pass-fail grading, is the most informative. |
| Keywords: | certification, grades, disclosure |
| JEL: | D82 L15 |
| Date: | 2012–10 |
| URL: | http://d.repec.org/n?u=RePEc:iuk:wpaper:2012-06&r=cta |
| By: | Marco di Maggio (MIT); Marco Pagano (Università di Napoli Federico II, CSEF, EIEF and CEPR) |
| Abstract: | We study a model where some investors (“hedgers”) are bad at information processing, while others (“speculators”) have superior information-processing ability and trade purely to exploit it. The disclosure of financial information induces a trade externality: if speculators refrain from trading, hedgers do the same, depressing the asset price. Market transparency reinforces this mechanism, by making speculators’ trades more visible to hedgers. As a consequence, asset sellers will oppose both the disclosure of fundamentals and trading transparency. This is socially inefficient if a large fraction of market participants are speculators and hedgers have low processing costs. But in these circumstances, forbidding hedgers’ access to the market may dominate mandatory disclosure. |
| Date: | 2012–10–23 |
| URL: | http://d.repec.org/n?u=RePEc:sef:csefwp:323&r=cta |
| By: | Marco Di Maggio (MIT); Marco Pagano (University of Naples "Federico II", CSEF, EIEF and CEPR) |
| Abstract: | We study a model where some investors (“hedgers”) are bad at information processing, while others (“speculators”) have superior information-processing ability and trade purely to exploit it. The disclosure of financial information induces a trade externality: if speculators refrain from trading, hedgers do the same, depressing the asset price. Market transparency reinforces this mechanism, by making speculators’ trades more visible to hedgers. As a consequence, asset sellers will oppose both the disclosure of fundamentals and trading transparency. This is socially inefficient if a large fraction of market participants are speculators and hedgers have low processing costs. But in these circumstances, forbidding hedgers’ access to the market may dominate mandatory disclosure. |
| Date: | 2012 |
| URL: | http://d.repec.org/n?u=RePEc:eie:wpaper:1212&r=cta |
| By: | Zhang, Cathy |
| Abstract: | This paper develops an information-based theory of international currency based on search frictions, private trading histories, and imperfect recognizability of assets. Using an open-economy search model with multiple competing currencies, the value of each currency is determined without requiring agents to use a particular currency to purchase a country's goods. Strategic complementarities in portfolio choices and information acquisition decisions generate multiple equilibria with different types of payment arrangements. While some inflation can benefit the country issuing an international currency, the threat of losing international status puts an inflation discipline on the issuing country. When monetary authorities interact in a simple policy game, the temptation to inflate can lead optimal policy to deviate from the Friedman rule. A calibration of the generalized model shows that for the U.S. dollar, the welfare cost of losing international status ranges from 1.3% to 2.1% of GDP per year. |
| Keywords: | international currencies; monetary search; liquidity; information frictions |
| JEL: | E42 E4 |
| Date: | 2013–10–18 |
| URL: | http://d.repec.org/n?u=RePEc:pra:mprapa:42114&r=cta |