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The Political Economy of Indirect Control

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  • Pierre Yared

    (Columbia)

  • Gerard Padro i Miquel

    (LSE)

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    Abstract

    This paper characterizes optimal policy when a government uses indirect control to exert its authority. We develop a dynamic principal-agent model in which a principal (a government) delegates the prevention of a disturbance--such as riots, protests, terrorism, crime, or tax evasion--to an agent who has an advantage in accomplishing this task. Our setting is a standard dynamic principal-agent model with two additional features. First, the principal is allowed to exert direct control by intervening with an endogenously determined intensity of force which is costly to both players. Second, the principal suffers from limited commitment. Using recursive methods, we derive a fully analytical characterization of the likelihood, intensity, and duration of intervention in the optimal contract. The first main insight from our model is that repeated and costly interventions are a feature of optimal policy. This is because they serve as a punishment to induce the agent into desired behavior. The second main insight is a detailed analysis of a fundamental tradeoff between the intensity and duration of intervention which is driven by the principal's inability to commit. Finally, we derive sharp predictions regarding the impact of various factors on the optimal likelihood, intensity, and duration of intervention. We discuss these results in the context of some historical episodes.

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    Bibliographic Info

    Paper provided by Society for Economic Dynamics in its series 2010 Meeting Papers with number 306.

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    Date of creation: 2010
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    Handle: RePEc:red:sed010:306

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    1. Green, Edward J & Porter, Robert H, 1984. "Noncooperative Collusion under Imperfect Price Information," Econometrica, Econometric Society, vol. 52(1), pages 87-100, January.
    2. Ernesto Dal Bo & Rafael Di Tella, 2003. "Capture by Threat," Journal of Political Economy, University of Chicago Press, vol. 111(5), pages 1123-1152, October.
    3. Fearon, James D., 1995. "Rationalist explanations for war," International Organization, Cambridge University Press, vol. 49(03), pages 379-414, June.
    4. Polinsky, A. Mitchell & Shavell, Steven, 1984. "The optimal use of fines and imprisonment," Journal of Public Economics, Elsevier, vol. 24(1), pages 89-99, June.
    5. Sandeep Baliga & Tomas Sj�str�m, 2004. "Arms Races and Negotiations," Review of Economic Studies, Oxford University Press, vol. 71(2), pages 351-369.
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    7. Balinga, Sandeep & Sjostrom, Tomas, 2001. "Arms Races and Negotiations," Working Papers 3-01-2, Pennsylvania State University, Department of Economics.
    8. Georgy Egorov & Konstantin Sonin, 2004. "Dictators and Their Viziers: Agency Problems in Dictatorships," Working Papers w0043, Center for Economic and Financial Research (CEFIR).
    9. Rui Albuquerque & Hugo Hopenhayn, 2002. "Optimal Lending Contracts and Firm Dynamics," RCER Working Papers 493, University of Rochester - Center for Economic Research (RCER).
    10. repec:cup:cbooks:9780521855266 is not listed on IDEAS
    11. Luca Anderlini & Dino Gerardi & Roger Lagunoff, 2010. "Social Memory, Evidence, and Conflict," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 13(3), pages 559-574, July.
    12. Fudenberg, D. & Levine, D.K. & Maskin, E., 1989. "The Folk Theorem With Inperfect Public Information," Working papers 523, Massachusetts Institute of Technology (MIT), Department of Economics.
    13. Thomas, Jonathan & Worrall, Tim, 1990. "Income fluctuation and asymmetric information: An example of a repeated principal-agent problem," Journal of Economic Theory, Elsevier, vol. 51(2), pages 367-390, August.
    14. Daron Acemoglu & Alexander Wolitzky, 2009. "The Economics of Labor Coercion," NBER Working Papers 15581, National Bureau of Economic Research, Inc.
    15. John Ferejohn, 1986. "Incumbent performance and electoral control," Public Choice, Springer, vol. 50(1), pages 5-25, January.
    16. Phelan Christopher, 1995. "Repeated Moral Hazard and One-Sided Commitment," Journal of Economic Theory, Elsevier, vol. 66(2), pages 488-506, August.
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    Cited by:
    1. M. Daniele Paserman & Esteban F. Klor & Sami H. Miaari & David A. Jaeger, 2011. "The struggle for Palestinian hearts and minds: Violence and public opinion in the Second Intifada," Boston University - Department of Economics - Working Papers Series WP2011-047, Boston University - Department of Economics.

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