It has long been standard in agency theory to search for incentive-compatible mechanisms on the assumption that people care only about their own material wealth. However, this assumption is clearly refuted by numerous experiments, and we feel that it may be useful to consider nonpecuniary utility in mechanism design and contract theory. Accordingly, we devise an experiment to explore optimal contracts in an adverse-selection context. A principal proposes one of three contract menus, each of which offers a choice of two incentive-compatible contracts, to two agents whose types are unknown to the principal. The agents know the set of possible menus, and choose to either accept one of the two contracts offered in the proposed menu or to reject the menu altogether; a rejection by either agent leads to lower (and equal) reservation payoffs for all parties. While all three possible menus favor the principal, they do so to varying degrees. We observe numerous rejections of the more lopsided menus, and approach an equilibrium where one of the more equitable contract menus (which one depends on the reservation payoffs) is proposed and agents accept a contract, selecting actions according to their types. Behavior is largely consistent with all recent models of social preferences, strongly suggesting there is value in considering nonpecuniary utility in agency theory.
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Paper provided by Department of Economics and Business, Universitat Pompeu Fabra in its series Economics Working Papers with number
478.
References listed on IDEAS Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
Dufwenberg, Martin & Lundholm, Michael, 2001.
"Social Norms and Moral Hazard,"
Economic Journal,
Royal Economic Society, vol. 111(473), pages 506-25, July.
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