In the presence of a time-inconsistency problem with optimal agency contracts, we show that competitive markets implement allocations that Pareto dominate those achieved by a benevolent planner, they induce strictly more e?ort, and they sometimes make the commitment problem disappear entirely. In particular, we analyze a model with moral hazard and two-sided lack of commitment. After agents have chosen a hidden e?ort and the need to provide incentives has vanished, ?rms can modify their contracts and agents can switch ?rms. As long as the ex-post market outcome satis?es a weak notion of competitiveness and su?ciently separates individuals who choose di?erent e?ort levels, the market allocation is Pareto superior to a social planner’s allocation. We construct a speci?c market game that naturally generates robust equilibria with these properties. In addition, we show that equilibrium contracts without commitment are identical to those with full commitment if the latter involve no cross-subsidization between individuals who choose di?erent e?ort levels.
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Paper provided by University of Zurich, Socioeconomic Institute in its series Working Papers with number
0814.
Find related papers by JEL classification: D02 - Microeconomics - - General - - - Institutions: Design, Formation, and Operations D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information C73 - Mathematical and Quantitative Methods - - Game Theory and Bargaining Theory - - - Stochastic and Dynamic Games; Evolutionary Games E61 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Policy Objectives; Policy Designs and Consistency; Policy Coordination H11 - Public Economics - - Structure and Scope of Government - - - Structure and Scope of Government P51 - Economic Systems - - Comparative Economic Systems - - - Comparative Analysis of Economic Systems
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