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Simple Efficient Contracts in Complex Environments

This paper studies a general model of holdup in a setting encompassing the models of Segal (1999) and Che and Hausch (1999) among others. It is shown that if renegotiation is modeled as an infinite-horizon noncooperative bargaining game, then, with a simple initial contract, an efficient equilibrium will generally exist. The contract is robust in the sense that it does not depend on fine details of the model. The contract gives authority to one party to set the terms of trade and gives the other party a nonexpiring option to trade at these terms. The difference from standard results arises because the initial contract ensures that the renegotiation game has multiple equilibria; the multiplicity of continuation equilibria can be used to enforce efficient investment. Copyright Copyright 2008 by The Econometric Society.

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Article provided by Econometric Society in its journal Econometrica.

Volume (Year): 76 (2008)
Issue (Month): 3 (05)
Pages: 459-491

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Handle: RePEc:ecm:emetrp:v:76:y:2008:i:3:p:459-491
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  1. Joel Watson, 2002. "Contract, Mechanism Design, and Technological Detail," Theory workshop papers 505798000000000006, UCLA Department of Economics.
  2. Donald B. Hausch & Yeon-Koo Che, 1999. "Cooperative Investments and the Value of Contracting," American Economic Review, American Economic Association, vol. 89(1), pages 125-147, March.
  3. Aaron S. Edlin & Stefan Reichelstein, 1995. "Holdups, Standard Breach Remedies, and Optimal Investment," NBER Working Papers 5007, National Bureau of Economic Research, Inc.
  4. Klein, Benjamin & Crawford, Robert G & Alchian, Armen A, 1978. "Vertical Integration, Appropriable Rents, and the Competitive Contracting Process," Journal of Law and Economics, University of Chicago Press, vol. 21(2), pages 297-326, October.
  5. Mathias Dewatripont & Philippe Aghion & Patrick Rey, 2002. "On partial contracting," ULB Institutional Repository 2013/9627, ULB -- Universite Libre de Bruxelles.
  6. MacLeod, W Bentley & Malcomson, James M, 1989. "Implicit Contracts, Incentive Compatibility, and Involuntary Unemployment," Econometrica, Econometric Society, vol. 57(2), pages 447-80, March.
  7. Benjamin E. Hermalin and Michael L. Katz., 1990. "Moral Hazard and Verifiability: The Effects of Renegotiation in Agency," Economics Working Papers 90-141, University of California at Berkeley.
  8. repec:oup:restud:v:66:y:1999:i:1:p:39-56 is not listed on IDEAS
  9. Jonathan Levin, 2003. "Relational Incentive Contracts," American Economic Review, American Economic Association, vol. 93(3), pages 835-857, June.
  10. Lorne Carmichael & W. Bentley MacLeod, 2003. "Caring About Sunk Costs: A Behavioral Solution to Holdup Problems with Small Stakes," Journal of Law, Economics and Organization, Oxford University Press, vol. 19(1), pages 106-118, April.
  11. Yeon-Koo Che & József Sákovics, 2004. "A Dynamic Theory of Holdup," Econometrica, Econometric Society, vol. 72(4), pages 1063-1103, 07.
  12. Georg Noldeke & Klaus M. Schmidt, 1995. "Option Contracts and Renegotiation: A Solution to the Hold-Up Problem," RAND Journal of Economics, The RAND Corporation, vol. 26(2), pages 163-179, Summer.
  13. Mathias Dewatripont & Philippe Aghion & Patrick Rey, 1994. "Renegotiation design with unverifiable information," ULB Institutional Repository 2013/9591, ULB -- Universite Libre de Bruxelles.
  14. repec:oup:restud:v:66:y:1999:i:1:p:83-114 is not listed on IDEAS
  15. Eric Maskin & John Moore, 1998. "Implementation and renegotiation," LSE Research Online Documents on Economics 19350, London School of Economics and Political Science, LSE Library.
  16. Edlin, Aaron S & Hermalin, Benjamin E, 2000. "Contract Renegotiation and Options in Agency Problems," Journal of Law, Economics and Organization, Oxford University Press, vol. 16(2), pages 395-423, October.
  17. Hardman Moore, John & Hart, Oliver, 1985. "Incomplete Contracts and Renegotiation," CEPR Discussion Papers 60, C.E.P.R. Discussion Papers.
  18. Williamson, Oliver E, 1979. "Transaction-Cost Economics: The Governance of Contractural Relations," Journal of Law and Economics, University of Chicago Press, vol. 22(2), pages 233-61, October.
  19. repec:oup:restud:v:66:y:1999:i:1:p:115-38 is not listed on IDEAS
  20. repec:oup:restud:v:59:y:1992:i:3:p:473-94 is not listed on IDEAS
  21. repec:oup:restud:v:58:y:1991:i:5:p:1031-42 is not listed on IDEAS
  22. Kahneman, Daniel & Knetsch, Jack L & Thaler, Richard, 1986. "Fairness as a Constraint on Profit Seeking: Entitlements in the Market," American Economic Review, American Economic Association, vol. 76(4), pages 728-41, September.
  23. Williamson, Oliver E, 1983. "Credible Commitments: Using Hostages to Support Exchange," American Economic Review, American Economic Association, vol. 73(4), pages 519-40, September.
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