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Optimal Institutions in Economies with Private Information: Exclusive Contracts, Taxes, and Bankruptcy Law

Author

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  • Grochulski, Borys

    (Federal Reserve Bank of Richmond)

  • Zhang, Yuzhe

    (Texas A&M University)

Abstract

In economies with private information, it is typically optimal to prohibit or otherwise discourage a subset of trades that individual agents want to enter. Economists often refer to such optimal distortions as wedges. In this article, we use a simple private-information Mirrleesian economy to, first, show examples of these wedges and, second, discuss institutions that may be used to implement them in practice. We discuss and compare three such institutions: exclusive contracts, taxes, and bankruptcy law. Our analysis underscores the multiplicity of possible implementations and, therefore, the difficulty in using private information as a basis for normative analysis of any one such institution. Yet, the differences in the degree of decentralization and empirical relevance make implementation exercises considered here useful in thinking about the implications of private information for economic outcomes and observed institutions.

Suggested Citation

  • Grochulski, Borys & Zhang, Yuzhe, 2014. "Optimal Institutions in Economies with Private Information: Exclusive Contracts, Taxes, and Bankruptcy Law," Economic Quarterly, Federal Reserve Bank of Richmond, issue 4Q, pages 353-385.
  • Handle: RePEc:fip:fedreq:00024
    as

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    File URL: https://www.richmondfed.org/-/media/richmondfedorg/publications/research/economic_quarterly/2014/q4/pdf/grochulski.pdf
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    References listed on IDEAS

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    4. Emmanuel Farhi, 2013. "Insurance and Taxation over the Life Cycle," Review of Economic Studies, Oxford University Press, vol. 80(2), pages 596-635.
    5. Narayana R. Kocherlakota, 2010. "The New Dynamic Public Finance," Economics Books, Princeton University Press, edition 1, number 9222.
    6. Prescott, Edward C & Townsend, Robert M, 1984. "Pareto Optima and Competitive Equilibria with Adverse Selection and Moral Hazard," Econometrica, Econometric Society, vol. 52(1), pages 21-45, January.
    7. Mikhail Golosov & Aleh Tsyvinski, 2006. "Designing Optimal Disability Insurance: A Case for Asset Testing," Journal of Political Economy, University of Chicago Press, vol. 114(2), pages 257-279, April.
    8. J. A. Mirrlees, 1971. "An Exploration in the Theory of Optimum Income Taxation," Review of Economic Studies, Oxford University Press, vol. 38(2), pages 175-208.
    9. Borys Grochulski, 2010. "Optimal Personal Bankruptcy Design under Moral Hazard," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 13(2), pages 350-378, April.
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