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on Contract Theory and Applications |
| By: | Dirk Bergemann (Cowles Foundation, Yale University); Achim Wambach (Dept. of Economics, University of Cologne) |
| Abstract: | We propose a sequential auction mechanism for a single object in which the seller jointly determines the allocation and the disclosure policy. A sequential disclosure rule is shown to implement an ascending price auction in which each losing bidder learns his true valuation, but the winning bidder's information is truncated from below. As the auction ends, the winning bidder only has limited information, namely that his valuation is sufficiently high to win the auction. The sequential mechanism implements the allocation of the handicap auction of Esö and Szentes [10] but strengthens the participation constraints of the bidders from interim to posterior constraints. Due to the limited disclosure of information, the participation constraints (and incentive constraints) of all the bidders are satisfied with respect to all information revealed by the mechanism. In the special case in which the bidders have no private information initially, the seller can extract the entire surplus. |
| Keywords: | Independent private value auction, Sequential disclosure, Ascending auctions, Information structure, Interim equilibrium, Posterior equilibrium |
| JEL: | C72 D44 D82 D83 |
| Date: | 2013–07 |
| URL: | http://d.repec.org/n?u=RePEc:cwl:cwldpp:1900r&r=cta |
| By: | Ennio Bilancini; Leonardo Boncinelli |
| Abstract: | In this paper we examine the problem of dynamic adverse selection in a stylized market where the quality of goods is a seller’s private information while the realized distribution of qualities is public information. We show that in equilibrium all goods can be traded if the size of the supply is publicly available to market participants. Moreover, we show that if exchanges can take place frequently enough, then agents roughly enjoy the entire potential surplus from exchanges. We illustrate these findings with a dynamic model of trade where buyers and sellers repeatedly interact over time. We also identify circumstances under which only full trade equilibria exist. Further, we give conditions for full trade to obtain when the realized distribution of qualities is not public information and when new goods enter the market at later stages. |
| Keywords: | dynamic adverse selection; supply size; frequency of exchanges; asymmetric information |
| JEL: | D82 L15 |
| Date: | 2014–04 |
| URL: | http://d.repec.org/n?u=RePEc:mod:dembwp:0034&r=cta |
| By: | Deimen, Inga; Szalay, Dezsö |
| Abstract: | We study strategic information transmission in a Sender-Receiver game where players' optimal actions depend on the realization of multiple signals but the players disagree on the relative importance of each piece of news. We characterize a statistical environment - featuring symmetric loss functions and elliptically distributed parameters - in which the Sender's expected utility depends only on the first moment of his posterior. Despite disagreement about the use of underlying signals, we demonstrate the existence of equilibria in differentiable strategies in which the Sender can credibly communicate posterior means. The existence of smooth communication equilibria depends on the relative usefulness of the signal structure to Sender and Receiver, respectively. We characterize extensive forms in which the quality of information is optimally designed of equal importance to Sender and Receiver so that the best equilibrium in terms of ex ante expected payoffs is a smooth communication equilibrium. The quality of smooth equilibrium communication is entirely determined by the correlation of interests. Senders with better aligned preferences are endogenously endowed with better information and therefore give more accurate advice. |
| Keywords: | strategic information transmission; multi-dimensional cheap talk; monotone strategies; endogenous information; elliptical distributions |
| JEL: | D82 |
| Date: | 2014–09 |
| URL: | http://d.repec.org/n?u=RePEc:trf:wpaper:479&r=cta |
| By: | Ouidad YOUSFI |
| Abstract: | Discussion of Islamic private equity (PE) financing modes rarely provides detailed analytical insights into their properties: there is no rigorous analysis of their features. The current paper analyzes how and when Profit Loss Sharing (PLS) financing methods can solve asymmetric information problems. I focus on Mudarabah and Musharakah financing schemes and consider agency models under moral hazard. The model shows some interesting results. First, I show that Mudarabah financing provide powerful incentive schemes to the entrepreneur. As the Islamic PE fund is not actively involved in the project and the project success depends on the entrepreneur's effort, it leads to the first best solution. Second, my results provide evidence that Musharakah financing cannot solve moral hazard problem. One explanation could be the fact that the project is jointly funded by the two parties and that both of them provide non-contractible efforts which diminish their incentives. |
| Keywords: | Islamic private equity, PLS principle, Shari'ah, incentives. |
| JEL: | G23 G24 |
| Date: | 2014–09–25 |
| URL: | http://d.repec.org/n?u=RePEc:ipg:wpaper:2014-581&r=cta |
| By: | Junjie Zhou (School of International Business Administration, Shanghai University of Finance and Economics, 777 Guoding Road, Shanghai, 200433, China); Ying-Ju Chen (School of Business and Management & School of Engineering, The Hong Kong University of Science and Technology, Clear Water Bay, Kowloon, Hong Kong) |
| Abstract: | In this paper, we examine how a seller sells a product/service with a positive consumption externality, and customers are uncertain about the product's/service's value. Because early adopters learn this value, we consider the customers' intrinsic signaling incentives and positive feedback effects. Anticipating this, the seller commits to provide price discounts to the followers, and charges the leader a high price. Thus, the profit-maximizing pricing features the cream skimming strategy. We also show that the lack of seller's commitment is detrimental to the social welfare; nonetheless, the sequential selling still boosts up the seller's profit. Embedding a physical network with arbitrary payoff externality among customers, we investigate the optimal targeting strategy in the presence of information asymmetry. We provide precise indices for this leader selection problem. For undirected graphs, we should simply choose the player with the highest degree, irrespective of the seller's commitment power. Going beyond this family of networks, in general the seller's commitment power affects the optimal targeting strategy. |
| Keywords: | revenue management; signaling; information transmission; social networks; |
| JEL: | D82 L14 L15 |
| Date: | 2014–10 |
| URL: | http://d.repec.org/n?u=RePEc:net:wpaper:1404&r=cta |
| By: | Saori Chiba |
| Abstract: | We examine languages under two-dimensional uncertainty about the stateÑ the type and support of the state-distribution as well as the state is ex-ante uncertain. We consider communication between an uninformed decision maker and an imperfectly informed speaker. We show that this two-dimensional uncertainty leads the extension of language to be vague in the sense that the speaker with different knowledge of the state-distribution uses the same symbol for the different extent of information on the state. We also explore languages when the players contract over the number of symbols due to bounded rationality and when they possesses different prior beliefs. |
| Keywords: | Bounded Rationality, Extensions of Languages, Uncertainty, Vagueness. |
| JEL: | D82 D83 M14 |
| Date: | 2014–10 |
| URL: | http://d.repec.org/n?u=RePEc:vnm:wpdman:91&r=cta |
| By: | Biais, Bruno; Heider, Florian; Hoerova, Marie |
| Abstract: | Derivatives activity, motivated by risk-sharing, can breed risk taking. Bad news about the risk of the asset underlying the derivative increases the expected liability of a protection seller and undermines her risk prevention incentives. This limits risk-sharing, and may create endogenous counterparty risk and contagion from news about the hedged risk to the balance sheet of protection sellers. Margin calls after bad news can improve protection sellers incentives and enhance the ability to share risk. Central clearing can provide insurance against counterparty risk but must be designed to preserve risk-prevention incentives. |
| Keywords: | Hedging; Insurance; Derivatives; Moral hazard; Risk management;Counterparty risk; Contagion; Central clearing; Margin requirements |
| JEL: | D82 G21 G22 |
| Date: | 2014–06 |
| URL: | http://d.repec.org/n?u=RePEc:tse:wpaper:28439&r=cta |
| By: | Dirk Bergemann (Cowles Foundation, Yale University); Tibor Heumann (Dept. of Economics, Yale University); Stephen Morris (Dept. of Economics, Princeton University) |
| Abstract: | In an economy of interacting agents with both idiosyncratic and aggregate shocks, we examine how the structure of private information influences aggregate volatility. The maximal aggregate volatility is attained in a noise free information structure in which the agents confound idiosyncratic and aggregate shocks, and display excess response to the aggregate shocks, as in Lucas [14]. For any given variance of aggregate shocks, the upper bound on aggregate volatility is linearly increasing in the variance of the idiosyncratic shocks. Our results hold in a setting of symmetric agents with linear best responses and normal uncertainty. We establish our results by providing a characterization of the set of all joint distributions over actions and states that can arise in equilibrium under any information structure. This tractable characterization, extending results in Bergemann and Morris [8], can be used to address a wide variety of questions linking information with the statistical moments of the economy. |
| Keywords: | Incomplete information, Idiosyncratic shocks, Aggregate shocks, Volatility, Confounding information, Moment restrictions, Linear best responses, Quadratic payoffs, Bayes correlated equilibrium |
| JEL: | C72 C73 D43 D83 |
| Date: | 2013–12 |
| URL: | http://d.repec.org/n?u=RePEc:cwl:cwldpp:1928rr&r=cta |
| By: | Jarque, Arantxa (Federal Reserve Bank of Richmond) |
| Abstract: | I study firm characteristics that justify the use of options or refresher grants in the optimal compensation packages for CEOs in the presence of moral hazard. I model explicitly the determination of stock prices as a function of the output realizations of the firm: Symmetric learning by all parties about the exogenous quality of the firm makes stock prices sensitive to output observations. Compensation packages are designed to transform this sensitivity of prices-to-output into the sensitivity of consumption-to-output that is dictated by the optimal contract. Heterogeneity in the structure of firm uncertainty implies that some firms are able to implement the optimal contract with very simple schemes that do not include options, refresher grants, or perks, while others need to use these more complex and potentially less transparent instruments. |
| JEL: | D80 D82 D86 G30 |
| Date: | 2014–10–02 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fedrwp:14-16&r=cta |
| By: | Rodrigo Harrison (Instituto de Economia. Pontificia Universidad Católica de Chile.); Roger Lagunoff (Department of Economics, Georgetown University) |
| Abstract: | We model dynamic mechanisms for a global commons. Countries benefit from both consumption and aggregate conservation of an open access resource. A country's relative value of consumption-to-conservation is privately observed and evolves stochastically. An optimal quota maximizes world welfare subject to being implementable by Perfect Bayesian equilibria. With complete information, the optimal quota is first best; it allocates more of the resource each period to countries with high consumption value. Under incomplete information, the optimal quota is fully compressed - initially identical countries always receive the same quota even as environmental costs and resource needs differ later on. |
| Keywords: | Dynamic mechanism design, global commons, climate change, optimal quota, full compression, fish wars, Perfect Bayesian equilibria, international agency. |
| JEL: | C73 D82 F53 Q54 Q58 |
| Date: | 2013–09–15 |
| URL: | http://d.repec.org/n?u=RePEc:geo:guwopa:gueconwpa~13-13-06&r=cta |
| By: | Carlstrom, Charles T. (Federal Reserve Bank of Cleveland); Fuerst, Timothy S. (University of Notre Dame); Paustian, Matthius (Bank of England) |
| Abstract: | This paper derives the optimal lending contract in the financial accelerator model of Bernanke, Gertler and Gilchrist (1999), hereafter BGG. The optimal contract includes indexation to the aggregate return on capital, household consumption, and the return to internal funds. This triple indexation results in a dampening of fluctuations in leverage and the risk premium. Hence, compared with the contract originally imposed by BGG, the privately optimal contract implies essentially no financial accelerator. |
| Keywords: | Agency costs; CGE models; optimal contracting |
| JEL: | C68 E44 E61 |
| Date: | 2014–10–16 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fedcwp:1420&r=cta |
| By: | Peter Coles; Yannai Gonczarowski; Ran Shorrer |
| Abstract: | In this paper we explore how the balance of agents on the two sides of a matching market impacts their potential for strategic manipulation. Coles and Shorrer [2014] previously showed that in large, balanced, uniform markets using the Men-Proposing Deferred Acceptance Algorithm, each woman's best response to truthful behavior by all other agents is to truncate her list substantially. In fact, the optimal degree of truncation for such a woman goes to 100% of her list as the market size grows large. Recent findings of Ashlagi et. al. [2014] demonstrate that in unbalanced random markets, the change in expected payoffs is small when one reverses which side of the market “proposes,†suggesting there is little potential gain from manipulation. Inspired by these findings, we study the implications of imbalance on strategic behavior in the incomplete information setting. We show that the “long†side has significantly reduced incentives for manipulation in this setting, but that the same doesn't always apply to the “short†side. We also show that risk aversion and correlation in preferences affect the extent of optimal manipulation. |
| Date: | 2014–10 |
| URL: | http://d.repec.org/n?u=RePEc:qsh:wpaper:206481&r=cta |
| By: | Nocke, Volker; Rey, Patrick |
| Abstract: | We develop a model of interlocking bilateral relationships between upstream manufacturers that produce differentiated goods and downstream retailers that compete imperfectly for consumers. Contract offers and acceptance decisions are private information to the contracting parties. We show that both exclusive dealing and vertical integration between a manufacturer and a retailer lead to vertical foreclosure, at the detriment of consumers and society. Finally, we show that firms have indeed an incentive to sign such contracts or to integrate vertically. |
| Keywords: | vertical relations, exclusive dealing, vertical merger, foreclosure, bilateral contracting |
| JEL: | D43 L13 L42 |
| Date: | 2014–07 |
| URL: | http://d.repec.org/n?u=RePEc:ide:wpaper:28373&r=cta |
| By: | Vittoria Cerasi (Università di Milano Bicocca); Tommaso Oliviero (CSEF, Università di Napoli Federico II) |
| Abstract: | This paper analyzes the relation between CEOs monetary incentives, financial regulation and risk in banks. We present a model where banks lend to opaque entrepreneurial projects to be monitored by managers; managers are remunerated according to a pay-for-performance scheme and their effort is unobservable to depositors and shareholders. Within a prudential regulatory framework that defines a capital requirement and a deposit insurance, we study the effect of increasing the variable component of managerial compensation on risk taking. We then test empirically how monetary incentives provided to CEOs in 2006 affected banks' stock price and volatility during the 2007-2008 financial crisis on a sample of large banks around the World. The cross-country dimension of our sample allows us to study the interaction between CEO incentives and financial regulation. The empirical analysis suggests that the sensitivity of CEOs equity portfolios to stock prices and volatility has been indeed related to worse performance in countries with explicit deposit insurance and weaker monitoring by shareholders. This evidence is coherent with the main prediction of the model, that is, the variable part of the managerial compensation, combined with weak insiders' monitoring, exacerbates the risk-shifting attitude by managers. |
| Keywords: | Executive Compensation, Risk Taking, Financial Regulation, Monitoring. |
| JEL: | G21 G38 |
| Date: | 2014–10–08 |
| URL: | http://d.repec.org/n?u=RePEc:sef:csefwp:374&r=cta |
| By: | Steffen Huck (Wissenschaftszentrum Berlin für Sozialforschung (WZB)); Gabriele Lünser (University College London - Centre for Economic Learning and Social Evolution (ELSE)); Florian Spitzer (Department of Economics, Vienna Center for Experimental Economics (VCEE), University of Vienna); Jean-Robert Tyran (Department of Economics, Copenhagen University) |
| Abstract: | In a laboratory experiment designed to capture key aspects of the interaction between physicians and patients in a stylized way, we study the effects of medical insurance and competition in the guise of free choice of physician. Medical treatment is an example of a credence good: only the physician (but not the patient) knows the appropriate treatment, and even after consulting, the patient is not sure whether he got proper treatment or got an unnecessary treatment, i.e. was overtreated. We find that with insurance, moral hazard looms on both sides of the market: patients consult more often and physicians overtreat more often than in the baseline condition. Competition decreases overtreatment compared to the baseline and patients therefore consult more often. When the two institutions are combined, competition is found to partially offset the adverse effects of insurance: most patients seek treatment, but overtreatment is moderated. |
| Keywords: | Credence good, Patient, Physician, Overtreatment, Competition, Insurance, Moral hazard |
| JEL: | C91 I11 I13 |
| Date: | 2014–09–30 |
| URL: | http://d.repec.org/n?u=RePEc:kud:kuiedp:1419&r=cta |