Risk and Uncertainty Working Paper: R07#6 Sharp and Diffuse Incentives in Contracting
نویسندگان
چکیده
This paper investigates the optimality of sharp incentives in contracts where output prices are set at the time of contracting but are random in nature. It shows that when prices are specified with error, schemes involving sharp incentives might result in substantial deviations from first-best output levels. The randomness of prices creates arbitrage opportunities that are exploited by agents producing phenomena such as ’cost-shifting’. Both linear and piece-wise linear contracts are shown to be subject to the possibility of arbitrage. The paper then demonstrates that incentive schemes that are arbitrage-proof exhibit ‘diffuse’ incentives. JEL Classification: D81, D86.
منابع مشابه
Optimisation of Healthcare Contracts: Tensions Between Standardisation and Innovation; Comment on “Competition in Healthcare: Good, Bad or Ugly?”
An important determinant of health system performance is contracting. Providers often respond to financial incentives, despite the ethical underpinnings of medicine, and payers can craft contracts to influence performance. Yet contracting is highly imperfect in both single-payer and multi-payer health systems. Arguably, in a competitive, multi-payer environment, contractual innovation may occur...
متن کاملUncertainty, Delegation and Incentives
How does imperfect contractibility of preferences inuence the governance of a contractual relationship? We analyze a two-party decision-making problem where the optimal decision is unknown at the time of contracting. In consequence, instead of contracting on the decision directly, the parties need to design a contract that will induce good decision-making in the future. We examine how environm...
متن کاملEfficient Incentive Contracts
A so-called "incentive contract" is a linear payment schedule, where the buyer pays a fixed fee plus some proportion of audited project cost. That remaining proportion of project cost borne by the seller is called the "sharing ratio." A higher sharing ratio creates more incentive to reduce costs. But it also makes the agent bear more cost uncertainty, requiring as compensation a greater fixed f...
متن کاملTrust and Incentives in Principal-agent Negotiations: the “insurance/incentive Trade-off”
The canonical principal-agent problem involves a risk-neutral principal who must use incentives to motivate a risk-averse agent to take a costly, unobservable action that improves the principal’s payoff. The standard solution requires an inefficient shifting of risk to the agent. This paper summarizes some experimental research that throws doubt on the validity of this conclusion. Experimental ...
متن کاملContracting with Self - Esteem Concerns November 15 , 2006
【キーワード】Self-esteem, Bayesian learning, Tradeoff between risk and incentives, Contract 【要約】It is widely accepted in social psychology that the need to maintain and enhance self-esteem is a fundamental human motive. We incorporate this factor into an otherwise ordinary principal-agent framework and examine its impact on the optimal incentive scheme and the agent's behavior, especially focusing on...
متن کامل