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Optimal Incentive Contracts under Moral Hazard When the Agent Is Free to Leave

Author

Listed:
  • Englmaier, Florian

    (University of Munich)

  • Muehlheusser, Gerd

    (University of Hamburg)

  • Roider, Andreas

    (University of Regensburg)

Abstract

We characterize optimal incentive contracts in a moral hazard framework extended in two directions. First, after effort provision, the agent is free to leave and pursue some ex-post outside option. Second, the value of this outside option is increasing in effort, and hence endogenous. Optimal contracts may entail properties such as inducing first-best effort and surplus, or non-responsiveness with respect to changes in verifiable parameters. Moreover, while always socially inefficient, separation might occur in equilibrium. Except for the latter, these findings are robust to renegotiation. When the outside option is exogenous instead, the standard results obtain.

Suggested Citation

  • Englmaier, Florian & Muehlheusser, Gerd & Roider, Andreas, 2010. "Optimal Incentive Contracts under Moral Hazard When the Agent Is Free to Leave," IZA Discussion Papers 5027, Institute of Labor Economics (IZA).
    • Handle: RePEc:iza:izadps:dp5027
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    More about this item

    Keywords

    moral hazard; limited commitment; ex-post outside option; limited liability;
    All these keywords.

    JEL classification:

    • D86 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Economics of Contract Law
    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
    • K31 - Law and Economics - - Other Substantive Areas of Law - - - Labor Law
    • M52 - Business Administration and Business Economics; Marketing; Accounting; Personnel Economics - - Personnel Economics - - - Compensation and Compensation Methods and Their Effects

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