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Dynamic Contracts with Moral Hazard and Adverse Selection

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  • Alex Gershkov
  • Motty Perry

Abstract

We study a novel dynamic principal--agent setting with moral hazard and adverse selection (persistent as well as repeated). In the model, an agent whose skills are his private information faces a finite sequence of tasks, one after the other. Upon arrival of each task, the agent learns its level of difficulty and then chooses whether to accept or refuse each task in turn and how much effort to exert. Although his decision to accept or refuse a task is publicly known, the agent's effort level is his private information. We characterize optimal contracts and show that the per-period utility of the agent approaches his per-period utility when his skills are publicly known, as the discount factor and the time horizon increase. Copyright 2012, Oxford University Press.

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Bibliographic Info

Article provided by Oxford University Press in its journal The Review of Economic Studies.

Volume (Year): 79 (2012)
Issue (Month): 1 ()
Pages: 268-306

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Handle: RePEc:oup:restud:v:79:y:2012:i:1:p:268-306

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  1. Rubinstein, Ariel & Yaari, Menahem E., 1983. "Repeated insurance contracts and moral hazard," Journal of Economic Theory, Elsevier, Elsevier, vol. 30(1), pages 74-97, June.
  2. Biais, Bruno & Mariotti, Thomas & Plantin, Guillaume & Rochet, Jean-Charles, 2004. "Dynamic Security Design: Convergence to Continuous Time and Asset Pricing Implications," IDEI Working Papers, Institut d'Économie Industrielle (IDEI), Toulouse 312, Institut d'Économie Industrielle (IDEI), Toulouse, revised Sep 2006.
  3. PETER M. DeMARZO & YULIY SANNIKOV, 2006. "Optimal Security Design and Dynamic Capital Structure in a Continuous-Time Agency Model," Journal of Finance, American Finance Association, American Finance Association, vol. 61(6), pages 2681-2724, December.
  4. Edmans, Alex & Gabaix, Xavier & Sadzik, Tomasz & Sannikov, Yuliy, 2010. "Dynamic Incentive Accounts," Working Papers, University of Pennsylvania, Wharton School, Weiss Center 10-19, University of Pennsylvania, Wharton School, Weiss Center.
  5. Biais, Bruno & Mariotti, Thomas & Rochet, Jean-Charles & Villeneuve, Stéphane, 2007. "Large Risks, Limited Liability and Dynamic Moral Hazard," IDEI Working Papers, Institut d'Économie Industrielle (IDEI), Toulouse 472, Institut d'Économie Industrielle (IDEI), Toulouse, revised Sep 2009.
  6. MALCOMSON, James M. & SPINNEWYN, Frans, . "The multiperiod principal-agent problem," CORE Discussion Papers RP, Université catholique de Louvain, Center for Operations Research and Econometrics (CORE) -803, Université catholique de Louvain, Center for Operations Research and Econometrics (CORE).
  7. Bengt Holmstrom, 1999. "Managerial Incentive Problems: A Dynamic Perspective," NBER Working Papers 6875, National Bureau of Economic Research, Inc.
  8. Baron, David P. & Besanko, David, 1984. "Regulation and information in a continuing relationship," Information Economics and Policy, Elsevier, Elsevier, vol. 1(3), pages 267-302.
  9. Peter M. DeMarzo & Michael J. Fishman, 2007. "Optimal Long-Term Financial Contracting," Review of Financial Studies, Society for Financial Studies, Society for Financial Studies, vol. 20(6), pages 2079-2128, November.
  10. Drew Fudenberg & Bengt Holmstrom & Paul Milgrom, 1987. "Short-Term Contracts and Long-Term Agency Relationships," Working papers, Massachusetts Institute of Technology (MIT), Department of Economics 468, Massachusetts Institute of Technology (MIT), Department of Economics.
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Cited by:
  1. Alex Gershkov & Jianpei Li & Paul Schweinzer, 2014. "How to share it out: The value of information in teams," Discussion Papers, Department of Economics, University of York 14/08, Department of Economics, University of York.

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