| By: |
Aggey Simons (Department of Economics, University of Ottawa, Canada) |
| Abstract: |
This paper characterizes optimal contract structures under adverse selection
when the principal faces a general class of mixed (involving allocation and
transfer) constraints. We establish conditions for the existence and the
continuity of the optimal allocation. We show that under regularity
conditions, the optimal continuous contract features at most three distinct
regions: segments where the constraint is slack and the allocation follows a
modified Baron-Myerson path, alternating with segments where the constraint
binds. Assuming non-generic cases are excluded, the binding constraint forces
a constant allocation (bunching) over a range of agent types. This framework
encompasses a wide range of applications, including enforcement limits, budget
constraints, and quality regulations. Our analysis demonstrates how bunching
can arise endogenously from optimal design under smooth constraints, distinct
from exogenously induced behavioural responses documented empirically. |
| Keywords: |
Adverse Selection, Optimal Contracts, Mixed Constraints, Endogenous Bunching, Continuity, Allocation Dynamics |
| JEL: |
C61 D82 D86 H21 L51 |
| Date: |
2025 |
| URL: |
https://d.repec.org/n?u=RePEc:ott:wpaper:2502e |