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Limited Liability and Bonus Contracts

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  • Son Ku Kim

Abstract

This paper studies the nature of incentive contracts between a risk‐neutral principal and a risk‐neutral agent under the constraint that the agent's liability is limited. A necessary and sufficient condition is derived for the existence of a first‐best contract under this constraint, and a bonus‐based contract is shown to be the most efficient contractual form. Implications of bonus contracts are also discussed.

Suggested Citation

  • Son Ku Kim, 1997. "Limited Liability and Bonus Contracts," Journal of Economics & Management Strategy, Wiley Blackwell, vol. 6(4), pages 899-913, December.
    • Handle: RePEc:bla:jemstr:v:6:y:1997:i:4:p:899-913
    DOI: 10.1111/j.1430-9134.1997.00899.x
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    References listed on IDEAS

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    1. Innes, Robert D., 1990. "Limited liability and incentive contracting with ex-ante action choices," Journal of Economic Theory, Elsevier, vol. 52(1), pages 45-67, October.
    2. Paul R. Milgrom, 1981. "Good News and Bad News: Representation Theorems and Applications," Bell Journal of Economics, The RAND Corporation, vol. 12(2), pages 380-391, Autumn.
    3. Bengt Holmstrom, 1979. "Moral Hazard and Observability," Bell Journal of Economics, The RAND Corporation, vol. 10(1), pages 74-91, Spring.
    4. Sappington, David, 1983. "Limited liability contracts between principal and agent," Journal of Economic Theory, Elsevier, vol. 29(1), pages 1-21, February.
    5. HOLMSTROM, Bengt, 1979. "Moral hazard and observability," LIDAM Reprints CORE 379, Université catholique de Louvain, Center for Operations Research and Econometrics (CORE).
    6. Harris, Milton & Raviv, Artur, 1979. "Optimal incentive contracts with imperfect information," Journal of Economic Theory, Elsevier, vol. 20(2), pages 231-259, April.
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