Robust Incentives and Non-Exclusive Contracts

This paper studies a moral hazard problem in which the agent can borrow on future wages before undertaking a costly e¤ort. The game between the agent and potential lenders is modelled as an in…nite stochastic game with an exogenous stopping probability. It is shown that regardless of the initial wage contract the agent sequentially enters into multiple borrowing agreements which dilute e¤ort incentives, so that high e¤ort is unsustainable. This is compared to the ‘recontracting-proof’equilibrium that most of the literature focuses on when the stopping probability in the lending game is zero. It is shown that equilibrium pro…ts, welfare and e¤ort in the game with a positive stopping probability are lower but that wage payments can be higher. Finally, it is shown that the two equilibria do not converge when the stopping probability is taken to zero. I am very grateful to Alberto Bisin, Robert Evans, Antoine Faure-Grimaud, Leonardo Felli, Piero Gottardi, George Mailath, Alexander Muermann, Volker Nocke and Michele Piccione for extensive comments. I bene…ted from comments of seminar participants at Birkbeck, London School of Economics, Royal Holloway, University of Cambridge, University of Edingburgh, University of Essex and the University of Pennsylvania. yMailing address: Faculty of Economics and Politics, University of Cambridge, Cambridge CB3 9DD, Email: [email protected], Phone: +44 (0)1223 335269, Fax: +44 (0)1223 3354