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Bounded rationality and incomplete contracts

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  • Anderlini, Luca
  • Felli, Leonardo

Abstract

This paper explores the link between boundedly rational behaviour and incomplete contracts. The bounded rationality of the agents in our world is embodied in a constraint that the contracts they write must be algorithmic in nature. We start with a definition of contract incompleteness that seems both appealing and widely applicable. Our first task is then to show that, by itself, the algorithmic nature of contracts is not enough to generate genuinely incomplete contracts in equilibrium. As in Anderlini and Felli (1994), we call this the Approximation Result. We then consider contractual situations in which the complexity costs of a contract are explicitly taken into accoaunt. We consider a broad (axiomatically defined) class of complexity measures and in this framework we show that incomplete contracts obtain in equilibrium. We also extensively discuss some recent literature directly related to the results reported here.

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Bibliographic Info

Article provided by Elsevier in its journal Research in Economics.

Volume (Year): 58 (2004)
Issue (Month): 1 (March)
Pages: 3-30

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Handle: RePEc:eee:reecon:v:58:y:2004:i:1:p:3-30

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Web page: http://www.elsevier.com/locate/inca/622941

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References

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  1. Grossman, Sanford J & Hart, Oliver D, 1986. "The Costs and Benefits of Ownership: A Theory of Vertical and Lateral Integration," Journal of Political Economy, University of Chicago Press, vol. 94(4), pages 691-719, August.
  2. Hart, Oliver D & Moore, John, 1988. "Incomplete Contracts and Renegotiation," Econometrica, Econometric Society, vol. 56(4), pages 755-85, July.
  3. Philippe Aghion & Jean Tirole, 1994. "Formal and Real Authority in Organizations," Working papers 95-8, Massachusetts Institute of Technology (MIT), Department of Economics.
  4. Luca Anderlini & Leonardo Felli, 1999. "Incomplete Contracts and Complexity Costs," Theory and Decision, Springer, vol. 46(1), pages 23-50, February.
  5. Raghuram G. Rajan & Luigi Zingales, 1997. "Power in a Theory of the Firm," NBER Working Papers 6274, National Bureau of Economic Research, Inc.
  6. Hart, Oliver & Moore, John, 1990. "Property Rights and the Nature of the Firm," Journal of Political Economy, University of Chicago Press, vol. 98(6), pages 1119-58, December.
  7. Hart, Oliver & Moore, John, 1999. "Foundations of Incomplete Contracts," Review of Economic Studies, Wiley Blackwell, vol. 66(1), pages 115-38, January.
  8. P. Battigalli & G. Maggi, 2000. "Imperfect Contracting," Princeton Economic Theory Papers 00s11, Economics Department, Princeton University.
  9. Jean Tirole, 1999. "Incomplete Contracts: Where Do We Stand?," Econometrica, Econometric Society, vol. 67(4), pages 741-782, July.
  10. Segal, Ilya, 1999. "Complexity and Renegotiation: A Foundation for Incomplete Contracts," Review of Economic Studies, Wiley Blackwell, vol. 66(1), pages 57-82, January.
  11. Pierpaolo Battigalli & Giovanni Maggi, 2002. "Rigidity, Discretion, and the Costs of Writing Contracts," American Economic Review, American Economic Association, vol. 92(4), pages 798-817, September.
  12. Luca Anderlini & Leonardo Felli, 1995. "Describability and Agency Problems," Game Theory and Information 9511001, EconWPA, revised 20 Sep 1996.
  13. Anderlini, Luca & Felli, Leonardo, 1994. "Incomplete Written Contracts: Undescribable States of Nature," The Quarterly Journal of Economics, MIT Press, vol. 109(4), pages 1085-1124, November.
  14. Nabil I. Al-Najjar & Luca Anderlini & Leonardo Felli, 2006. "Undescribable Events," Review of Economic Studies, Oxford University Press, vol. 73(4), pages 849-868.
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Cited by:
  1. Lorenzo Sacconi, 2001. "Incomplete contracts and corporate ethics: a game theoretical model under fuzzy information," LIUC Papers in Ethics, Law and Economics 91, Cattaneo University (LIUC).
  2. Fares, M’hand, 2005. "Quels fondements à l’incomplétude des contrats?," L'Actualité Economique, Société Canadienne de Science Economique, vol. 81(3), pages 535-555, Septembre.
  3. Polydoropoulou, Amalia & Roumboutsos, Athena, 2009. "Evaluating the impact of decision making during construction on transport project outcome," Evaluation and Program Planning, Elsevier, vol. 32(4), pages 369-380, November.

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