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A Theory of Supervision with Endogenous Transaction Costs

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  • Antoine Faure-Grimaud
  • Jean-Jacques Laffont
  • David Martimort

Abstract

We propose a theory of supervision with endogenous transaction costs. A principal delegates part of his authority to a supervisor who can acquire soft information about an agent's productivity. If the supervisor were risk-neutral, the principal would simply make the better informed supervisor residual claimant for the hierarchy's profit. Under risk-aversion, the optimal contract trades-off the supervisor's incentives to reveal his information with an insurance motive. This contract can be identified with the one obtained in a simple hard information model of hierarchical collusion with exogenous transaction costs. Now, transaction costs are endogenous and depend on the collusion stake, the accuracy of the supervisory technology and the supervisor's degree of risk-aversion. We then discuss various implications of the model for the design and management of organisations.

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File URL: http://sticerd.lse.ac.uk/dps/te/te356.pdf
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Bibliographic Info

Paper provided by Suntory and Toyota International Centres for Economics and Related Disciplines, LSE in its series STICERD - Theoretical Economics Paper Series with number 356.

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Date of creation: Jul 1998
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Handle: RePEc:cep:stitep:356

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Web page: http://sticerd.lse.ac.uk/_new/publications/default.asp

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Keywords: Supervision; soft information; collusion; endogenous transaction costs;

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References

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  1. Martimort, David, 1999. "The Life Cycle of Regulatory Agencies: Dynamic Capture and Transaction Costs," Review of Economic Studies, Wiley Blackwell, vol. 66(4), pages 929-47, October.
  2. Philippe Aghion & Jean Tirole, 1994. "Normal and Real Authority in Organizations," Working papers 94-13, Massachusetts Institute of Technology (MIT), Department of Economics.
  3. McAfee, R. Preston & McMillan, John., 1990. "Organizational Diseconomies of Scale," Working Papers 728, California Institute of Technology, Division of the Humanities and Social Sciences.
  4. Galambos, Louis, 1995. "The Authority and Responsibility of the Chief Executive Officer: Shifting Patterns in Large US Enterprises in the Twentieth Century," Industrial and Corporate Change, Oxford University Press, vol. 4(1), pages 187-203.
  5. Itoh Hideshi, 1993. "Coalitions, Incentives, and Risk Sharing," Journal of Economic Theory, Elsevier, vol. 60(2), pages 410-427, August.
  6. Laffont, J.J. & Martimort, D., 1996. "The Firm as a Multicontact Organization," Papers 95.390, Toulouse - GREMAQ.
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  8. Laffont, J.J. & Martimort, D., 1996. "Collusion Under Asymmetric Information," Papers 95.389, Toulouse - GREMAQ.
  9. Sanford Grossman & Oliver Hart, . "An Analysis of the Principal-Agent Problem," Rodney L. White Center for Financial Research Working Papers 15-80, Wharton School Rodney L. White Center for Financial Research.
  10. Laffont, Jean-Jacques & Martimort, David, 1998. "Mechanism Design with Collusion and Correlation," IDEI Working Papers 81, Institut d'Économie Industrielle (IDEI), Toulouse.
  11. Laffont, Jean-Jacques & Meleu, Methieu, 1997. " Reciprocal Supervision, Collusion and Organizational Design," Scandinavian Journal of Economics, Wiley Blackwell, vol. 99(4), pages 519-40, December.
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  17. Kofman, Fred & Lawarree, Jacques, 1993. "Collusion in Hierarchical Agency," Econometrica, Econometric Society, vol. 61(3), pages 629-56, May.
  18. Tirole, Jean, 1986. "Hierarchies and Bureaucracies: On the Role of Collusion in Organizations," Journal of Law, Economics and Organization, Oxford University Press, vol. 2(2), pages 181-214, Fall.
  19. Cremer, Jacques & McLean, Richard P, 1988. "Full Extraction of the Surplus in Bayesian and Dominant Strategy Auctions," Econometrica, Econometric Society, vol. 56(6), pages 1247-57, November.
  20. Georg Kirchsteiger & Ernst Fehr & Simon Gächter, 1997. "Reciprocity as a contract enforcement device: experimental evidence," ULB Institutional Repository 2013/5911, ULB -- Universite Libre de Bruxelles.
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  22. Laffont, Jean-Jacques, 1990. "Analysis of Hidden Gaming in a Three-Level Hierarchy," Journal of Law, Economics and Organization, Oxford University Press, vol. 6(2), pages 301-24, Fall.
  23. Robert, Jacques, 1991. "Continuity in auction design," Journal of Economic Theory, Elsevier, vol. 55(1), pages 169-179, October.
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  25. Tirole, Jean, 1991. "Collusion and the Theory of Organizations," IDEI Working Papers 9, Institut d'Économie Industrielle (IDEI), Toulouse.
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Citations

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Cited by:
  1. Celik, Gorkem, 2004. "Mechanism Design with Collusive Supervision," Microeconomics.ca working papers celik-04-09-13-05-42-19, Vancouver School of Economics, revised 06 Aug 2008.
  2. Scholz, Julia, 2008. "Auswirkungen vertikaler Kollusionsprobleme auf die vertragliche Ausgestaltung von Kreditverkäufen," Discussion Papers in Business Administration 4581, University of Munich, Munich School of Management.
  3. Billy Jack, 2003. "Comparing the distortionary effects of alternative in-kind intergovernmental transfers," Working Papers gueconwpa~03-03-17, Georgetown University, Department of Economics.
  4. Jonathan Treussard, 2005. "Life-Cycle Consumption Plans and Portfolio Policies in a Heath-Jarrow-Morton Economy," Boston University - Department of Economics - Working Papers Series WP2005-033, Boston University - Department of Economics.
  5. Faure-Grimaud, Antoine & Laffont, Jean-Jacques & Martimort, David, 1999. "The endogenous transaction costs of delegated auditing," European Economic Review, Elsevier, vol. 43(4-6), pages 1039-1048, April.

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