IDEAS home Printed from https://ideas.repec.org/
MyIDEAS: Log in (now much improved!) to save this article

Overcompensation as a Partial Solution to Commitment and Renegotiation Problems: The Case of "Ex Post" Moral Hazard

  • M. Martin Boyer

In a Costly State Verification world, an agent who has private information regarding the state of the world must report what state occurred to a principal, who can verify the state at a cost. An agent then has what is called "ex post moral hazard": he has an incentive to misreport the true state to extract rents from the principal. Assuming the principal cannot commit to an auditing strategy, the optimal contract is such that: (1) the agent's expected marginal utility when there is an accident (high- and low-loss states) is equal to his marginal utility when there is no accident; (2) the lower loss is undercompensated, while the higher loss is overcompensated; and (3) the welfare of the agent is greater under commitment than under no-commitment. Result 2 is contrary to the results obtained if the principal can commit to an auditing strategy (higher losses underpaid and lower losses overpaid). The reason is that by increasing the difference between the high and the low indemnity payments, the probability of fraud is reduced. Copyright The Journal of Risk and Insurance, 2004.

If you experience problems downloading a file, check if you have the proper application to view it first. In case of further problems read the IDEAS help page. Note that these files are not on the IDEAS site. Please be patient as the files may be large.

File URL: http://www.blackwell-synergy.com/doi/abs/10.1111/j.0022-4367.2004.00104.x
File Function: link to full text
Download Restriction: Access to full text is restricted to subscribers.

As the access to this document is restricted, you may want to look for a different version under "Related research" (further below) or search for a different version of it.

Article provided by The American Risk and Insurance Association in its journal The Journal of Risk and Insurance.

Volume (Year): 71 (2004)
Issue (Month): 4 ()
Pages: 559-582

as
in new window

Handle: RePEc:bla:jrinsu:v:71:y:2004:i:4:p:559-582
Contact details of provider: Web page: http://www.wiley.com/bw/journal.asp?ref=0022-4367&site=1
Email:


More information through EDIRC

Order Information: Web: http://www.wiley.com/bw/subs.asp?ref=0022-4367

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.:

as in new window
  1. Dionne, G. & Doherty, N., 1991. "Adverse Selection, Commitment and Renegotiation : Extention to and Evidence From Insurance Markets," Cahiers de recherche 9134, Universite de Montreal, Departement de sciences economiques.
  2. Picard, Pierre, 1996. "Auditing claims in the insurance market with fraud: The credibility issue," Journal of Public Economics, Elsevier, vol. 63(1), pages 27-56, December.
  3. Fahad Khalil, 1997. "Auditing Without Commitment," RAND Journal of Economics, The RAND Corporation, vol. 28(4), pages 629-640, Winter.
  4. Bond, Eric W. & Crocker, Keith J., 1997. "Hardball and the soft touch: The economics of optimal insurance contracts with costly state verification and endogenous monitoring costs," Journal of Public Economics, Elsevier, vol. 63(2), pages 239-264, January.
  5. Robert M. Townsend, 1979. "Optimal contracts and competitive markets with costly state verification," Staff Report 45, Federal Reserve Bank of Minneapolis.
  6. M. Boyer, 2003. "Contracting under ex post moral hazard and non-commitment," Review of Economic Design, Springer;Society for Economic Design, vol. 8(1), pages 1-38, August.
  7. Picard, P., 1996. "On the design of Optimal Insurance Policies Under Manipulation of Audit Cost," Papers 9620, Paris X - Nanterre, U.F.R. de Sc. Ec. Gest. Maths Infor..
  8. Myerson, Roger B, 1979. "Incentive Compatibility and the Bargaining Problem," Econometrica, Econometric Society, vol. 47(1), pages 61-73, January.
  9. Khalil, Fahad & Parigi, Bruno M, 1998. "Loan Size as a Commitment Device," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 39(1), pages 135-50, February.
  10. David P. Baron & Roger B. Myerson, 1979. "Regulating a Monopolist with Unknown Costs," Discussion Papers 412, Northwestern University, Center for Mathematical Studies in Economics and Management Science.
  11. Jost, Peter-Jurgen, 1996. "On the Role of Commitment in a Principal-Agent Relationship with an Informed Principal," Journal of Economic Theory, Elsevier, vol. 68(2), pages 510-530, February.
  12. Boyer, M Martin, 2000. " Insurance Taxation and Insurance Fraud," Journal of Public Economic Theory, Association for Public Economic Theory, vol. 2(1), pages 101-34.
  13. Persons, John C., 1997. "Liars Never Prosper? How Management Misrepresentation Reduces Monitoring Costs," Journal of Financial Intermediation, Elsevier, vol. 6(4), pages 269-306, October.
  14. Lacker, J.M., 1989. "Optimal Contracts Under Costly State Falsification," Purdue University Economics Working Papers 956, Purdue University, Department of Economics.
  15. Graetz, Michael J & Reinganum, Jennifer F & Wilde, Louis L, 1986. "The Tax Compliance Game: Toward an Interactive Theory of Law Enforcement," Journal of Law, Economics and Organization, Oxford University Press, vol. 2(1), pages 1-32, Spring.
  16. Nahum D. Melumad & Dilip Mookherjee, 1989. "Delegation as Commitment: The Case of Income Tax Audits," RAND Journal of Economics, The RAND Corporation, vol. 20(2), pages 139-163, Summer.
  17. Joel Waldfogel, 1994. " The Effect of Criminal Conviction on Income and the Trust "Reposed in the Workmen"," Journal of Human Resources, University of Wisconsin Press, vol. 29(1), pages 62-81.
  18. Reinganum, Jennifer F. & Wilde, Louis L., 1985. "Income tax compliance in a principal-agent framework," Journal of Public Economics, Elsevier, vol. 26(1), pages 1-18, February.
  19. N. Fombaron, 1997. "No-commitment and dynamic contracts in competitive insurance markets with adverse selection," THEMA Working Papers 97-18, THEMA (THéorie Economique, Modélisation et Applications), Université de Cergy-Pontoise.
  20. Boyer, Martin, 2001. "Les clauses de valeur à neuf sont-elles optimales?," L'Actualité Economique, Société Canadienne de Science Economique, vol. 77(1), pages 53-74, mars.
  21. Arthur J. Hosios & Michael Peters, 1989. "Repeated Insurance Contracts with Adverse Selection and Limited Commitment," The Quarterly Journal of Economics, Oxford University Press, vol. 104(2), pages 229-253.
  22. Tracy R. Lewis, 1996. "Protecting the Environment When Costs and Benefits Are Privately Known," RAND Journal of Economics, The RAND Corporation, vol. 27(4), pages 819-847, Winter.
  23. Spence, Michael & Zeckhauser, Richard, 1971. "Insurance, Information, and Individual Action," American Economic Review, American Economic Association, vol. 61(2), pages 380-87, May.
  24. Dilip Mookherjee & Ivan Png, 1989. "Optimal Auditing, Insurance, and Redistribution," The Quarterly Journal of Economics, Oxford University Press, vol. 104(2), pages 399-415.
  25. Paul Beaudry & Michel Poitevin, 1994. "The Commitment Value of Contracts under Dynamic Renegotiation," RAND Journal of Economics, The RAND Corporation, vol. 25(4), pages 501-517, Winter.
  26. Lewis, Tracy R. & Sappington, David E. M., 1995. "Using markets to allocate pollution permits and other scarce resource rights under limited information," Journal of Public Economics, Elsevier, vol. 57(3), pages 431-455, July.
  27. Karpoff, Jonathan M & Lott, John R, Jr, 1993. "The Reputational Penalty Firms Bear from Committing Criminal Fraud," Journal of Law and Economics, University of Chicago Press, vol. 36(2), pages 757-802, October.
  28. Keith J. Crocker & John Morgan, 1998. "Is Honesty the Best Policy? Curtailing Insurance Fraud through Optimal Incentive Contracts," Journal of Political Economy, University of Chicago Press, vol. 106(2), pages 355-375, April.
  29. Douglas Gale & Martin Hellwig, 1985. "Incentive-Compatible Debt Contracts: The One-Period Problem," Review of Economic Studies, Oxford University Press, vol. 52(4), pages 647-663.
Full references (including those not matched with items on IDEAS)

This item is not listed on Wikipedia, on a reading list or among the top items on IDEAS.

When requesting a correction, please mention this item's handle: RePEc:bla:jrinsu:v:71:y:2004:i:4:p:559-582. See general information about how to correct material in RePEc.

For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Wiley-Blackwell Digital Licensing)

or (Christopher F. Baum)

If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

If references are entirely missing, you can add them using this form.

If the full references list an item that is present in RePEc, but the system did not link to it, you can help with this form.

If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your profile, as there may be some citations waiting for confirmation.

Please note that corrections may take a couple of weeks to filter through the various RePEc services.

This information is provided to you by IDEAS at the Research Division of the Federal Reserve Bank of St. Louis using RePEc data.