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Exit Options and the Allocation of Authority

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  • Bester, Helmut
  • Krähmer, Daniel

Abstract

We analyze the optimal allocation of authority in an organization whose members have conflicting preferences. One party has decision-relevant private information, and the party who obtains authority decides in a self-interested way. As a novel element in the literature on decision rights, we consider exit option contracts: the party without decision rights is entitled to prematurely terminate the relation after the other party's choice. We show that under such a contract it is always optimal to assign authority to the informed and not to the uninformed party, irrespective of the parties' conflict of interest. Indeed, the first-best efficient solution can be obtained by such a contract.

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Paper provided by Free University of Berlin, Humboldt University of Berlin, University of Bonn, University of Mannheim, University of Munich in its series Discussion Paper Series of SFB/TR 15 Governance and the Efficiency of Economic Systems with number 401.

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Date of creation: 13 Mar 2013
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Handle: RePEc:trf:wpaper:401

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Keywords: Authority; decision rights; exit options; incomplete contracts; asymmetric information;

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  1. Bester, Helmut, 2005. "Externalities, Communication and the Allocation of Decision Rights," Discussion Paper Series of 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 69, Free University of Berlin, Humboldt University of Berlin, University of Bonn, University of Mannheim, University of Munich.
  2. Aghion, Philippe & Tirole, Jean, 1994. "Formal and Real Authority in Organizations," IDEI Working Papers, Institut d'Économie Industrielle (IDEI), Toulouse 37, Institut d'Économie Industrielle (IDEI), Toulouse.
  3. Bester, Helmut & Krahmer, Daniel, 2007. "Delegation and Incentives," CEPR Discussion Papers, C.E.P.R. Discussion Papers 6042, C.E.P.R. Discussion Papers.
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  6. Bester, Helmut & Krähmer, Daniel, 2008. "Exit options in incomplete contracts with asymmetric information," Discussion Papers 2008/23, Free University Berlin, School of Business & Economics.
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  18. Myerson, Roger B, 1979. "Incentive Compatibility and the Bargaining Problem," Econometrica, Econometric Society, Econometric Society, vol. 47(1), pages 61-73, January.
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  28. Ricardo Alonso & Wouter Dessein & Niko Matouschek, 2008. "When Does Coordination Require Centralization? Corrigendum," American Economic Review, American Economic Association, American Economic Association, vol. 98(3), pages 1195-96, June.
  29. Stiglitz, Joseph E & Weiss, Andrew, 1983. "Incentive Effects of Terminations: Applications to the Credit and Labor Markets," American Economic Review, American Economic Association, American Economic Association, vol. 73(5), pages 912-27, December.
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