Oliver Gürtler (Department of Economics, BWL II, University of Bonn, Adenauerallee 24-42, D-53113 Bonn, Germany, oliver.guertler@uni-bonn.de,) Matthias Kräkel (Department of Economics, BWL II, University of Bonn, Adenauerallee 24-42, D-53113 Bonn, Germany, m.kraekel@uni-bonn.de,)
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We consider a double-sided moral hazard problem where each party can renege on the signed contract since there does not exist any verifiable performance signal. It is shown that ex-post litigation can restore incentives of the agent. Moreover, when the litigation can be settled by the parties the pure threat of using the legal system may suffice to make the principal implement first-best effort. As is shown in the paper, this .finding is rather robust. In particular, it holds for situations where the agent is protected by limited liability, where the parties have different technologies in the litigation contest, or where the agent is risk averse.
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Paper provided by SFB/TR 15 Governance and the Efficiency of Economic Systems, Free University of Berlin, Humboldt University of Berlin, University of Bonn, University of Mannheim, University of Munich in its series Discussion Papers with number
214.
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