nep-cta New Economics Papers
on Contract Theory and Applications
Issue of 2013‒03‒09
seven papers chosen by
Simona Fabrizi
Massey University, Albany

  1. Tailoring Bank Capital Regulation for Tail Risk By Nataliya Klimenko
  2. Employer moral hazard, wage rigidity and worker cooperatives: A theoretical appraisal. By Navarra, Cecilia; Tortia, Ermanno
  3. The Value of Information in Explicit Cross-Border Capacity Auction Regimes in Electricity Markets By Richter, Jan; Viehmann, Johannes
  4. Contractual Structure in Agriculture with Endogenous Matching By Ghatak, Maitreesh; Karaivanov, Alexander
  5. Researcher's Dilemma By Bobtcheff, Catherine; Bolte, Jérôme; Mariotti, Thomas
  6. New and Improved? By Eric Schmidbauer
  7. A shirking theory of referrals By Damien S.Eldridge

  1. By: Nataliya Klimenko (Aix-Marseille University (Aix-Marseille School of Economics), CNRS & EHESS)
    Abstract: The experience of the 2007-09 financial crisis has showed that the bank capital regulation in place was inadequate to deal with "manufacturing" tail risk in the financial sector. This paper proposes an incentive-based design of bank capital regulation aimed at efficiently dealing with tail risk engendered by bank top managers. It has two specific features: (i) first, it incorporates information on the optimal incentive contract between bank shareholders and bank managers, thereby dealing with the internal agency problem; (ii) second, it relies on the mechanism of mandatory recapitalization to ensure this contract is adopted by bank shareholders.
    Keywords: Capital requirements, tail risk, recapitalization, incentive compensation, moral hazard.
    JEL: G21 G28 G32 G35
    Date: 2013–02
  2. By: Navarra, Cecilia (University of Namur); Tortia, Ermanno (University of Trento)
    Abstract: We argue that in a capitalist enterprise the need to fix wages is crucially influenced by the asymmetric distribution of decision-making power, which can entail the use of private information and authority in favour of the strongest contractual party (the employer), and against the weaker contractual party (the employee). The capitalist entrepreneur can take decisions whose negative consequences are borne by workers in terms of lower wages and more intensive work-pace. Excessive wage reductions in the face of negative exogenous shocks, and of too risky investment decision represent the main instances of such opportunistic behaviour. Fixed wages can be thought as workers’ best response to the emerging risk of the employers’ moral hazard, but this implies a heightened risk of lay-off since wages and employment levels cannot be fixed at one and the same time. As a counterexample, we observe worker cooperatives, which depart from the framework of the interaction between a principal and an agent in the presence of contrasting interests and private information. Indeed, several empirical studies show greater employment stability and wage flexibility in worker cooperatives vis à vis capitalist firms.
    Keywords: employment contract; wage rigidity; risk aversion; moral hazard; worker cooperative
    JEL: J54 J64 J83
    Date: 2013–02–01
  3. By: Richter, Jan (Energiewirtschaftliches Institut an der Universitaet zu Koeln); Viehmann, Johannes (Energiewirtschaftliches Institut an der Universitaet zu Koeln)
    Abstract: We study two electricity markets connected by a fixed amount of crossborder capacity. The total amount of capacity is known to all electricity traders and allocated via an auction. The capacity allocated to each bidder in the auction remains private information. We assume that traders are faced with a demand function reflecting the relationship between electricity transmitted between the markets and the spot price difference. Therefore, traders act like Bayesian-Cournot oligopolists in exercising their transmission rights when presented with incomplete information about the competitors’ capacities. Our analysis breaks down the welfare effect into three different components: Cournot behavior, capacity constraints, and incomplete information. We find that social welfare increases with the level of information with which traders are endowed.
    Keywords: Cournot Oligopoly; incomplete information; capacity constraints; electricity markets; interconnector; cross-border trade
    JEL: C72 D43 L13 L94
    Date: 2013–02–18
  4. By: Ghatak, Maitreesh (London School of Economics); Karaivanov, Alexander (Simon Fraser University)
    Abstract: We analyze optimal contractual forms and equilibrium matching in a double-sided moral hazard model of sharecropping similar to Eswaran and Kotwal (1985). We show that, with endogenous matching, the presence of moral hazard can reverse the matching pattern relative to the first best, and that even if sharecropping is optimal for an exogenously given pair of agent skills, it may not be observed in equilibrium with endogenous matching. The economy with endogenous matching features less sharecropping compared to an economy with agent skills drawn at random from the same distribution. This suggests that studies of agency costs in sharecropping may underestimate their extent if focusing only on the intensive margin and ignoring the extensive margin.
    Keywords: tenancy; sharecropping; endogenous matching
    Date: 2013
  5. By: Bobtcheff, Catherine (Toulouse School of Economics (CNRS, LERNA)); Bolte, Jérôme (Toulouse School of Economics (GREMAQ)); Mariotti, Thomas (Toulouse School of Economics (CNRS, GREMAQ, IDEI))
    Abstract: We model academic competition as a game in which researchers ¯ght for priority. Researchers privately experience breakthroughs and decide how long to let their ideas mature before making them public, thereby establishing priority. In a two-researcher, symmetric environment, the resulting preemption game has a unique equilibrium. We study how the shape of the breakthrough distribution affects equilibrium maturation delays. Making researchers better at discovering new ideas or at developing them has contrasted effects on the quality of research outputs. Finally, when researchers have different innovative abilities, speed of discovery and maturation of ideas are positively correlated in equilibrium.
    Keywords: Academic Competition, Preemption Games, Private Information.
    JEL: C73 D82
    Date: 2013–02
  6. By: Eric Schmidbauer (Department of Business Economics and Public Policy, Indiana University Kelley School of Business)
    Abstract: Are new versions of products necessarily better? We analyze product innovation by a firm that engages in research and development designed to improve an existing product, the outcome of which is uncertain. If the firm adopts the innovation its modified product appears to consumers as new and improved, but consumers do not immediately know whether or how much the product is better. We find that new products are on average improved and therefore command a pricing premium. This induces some types to exploit the new product signal by selling new versions that are only trivially different from their older version or that require inefficiently high upgrade costs. Nevertheless, the incentive to show off by introducing a new product may improve total welfare by inducing more innovation adoption and thereby mitigating the standard monopoly underinvestment problem. Innovation signaling provides a rational explanation for consumer attraction to new versions of products without resort to behavioral assumptions such as a preference for "newness".
    Keywords: Asymmetric information, Signaling, Innovation
    JEL: L0 D82 O31
    Date: 2013–01
  7. By: Damien S.Eldridge (School Economics, La Trobe University)
    Abstract: The health care industry in some countries displays a gated structure. Rather than approaching a specialist directly, a patient will first seek a referral from a general practitioner. We provide one possible explanation for such an industry structure. If the outcome of treatment depends on the effort exerted by the treating specialist, then a market failure might occur. By aggregating many patients, general practitioners can sometimes create an artificial long- run relationship between a patient and a specialist that otherwise would have a short-run relationship. Such an artificial long-run relationship reduces the incidence of shirking on the part of the specialist.
    Keywords: Gatekeepers, Reputation, Moral Hazard, Referral
    JEL: C73 D82 I11
    Date: 2013

This nep-cta issue is ©2013 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.