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Optimal Incentives under Moral Hazard and Heterogeneous Agents: Evidence from Production Contracts Data

  • Dubois, Pierre
  • Vukina, Tomislav

The objective of this paper is to develop an analytical framework for estimation of the parameters of a structural model of an incentive contract under moral hazard, taking into account agents heterogeneity in preferences. We show that allowing the principal to strategically distribute the production inputs across heterogenous agents as part of the contract design, the principal is able to change what appears to be a uniform contract into individualized contracts tailored to fit agents' preferences or characteristics. Using micro level data on swine production contract settlements, we find that contracting farmers are heterogenous with respect to their risk aversion and that this heterogeneity affects the principal's allocation of production inputs across farmers. Relying on the identifying assumption that contracts are optimal, we obtain the estimates of a lower and an upper bound of agents' reservation utilities. We show that farmers with higher risk aversion have lower outside opportunities because of lower reservation utilities.

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File URL: http://purl.umn.edu/25568
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Paper provided by International Association of Agricultural Economists in its series 2006 Annual Meeting, August 12-18, 2006, Queensland, Australia with number 25568.

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Date of creation: 2006
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Handle: RePEc:ags:iaae06:25568
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  1. Joost M.E. Pennings & Ale Smidts, 2000. "Assessing the Construct Validity of Risk Attitude," Management Science, INFORMS, vol. 46(10), pages 1337-1348, October.
  2. Armando Levy & Tomislav Vukina, 2002. "Optimal linear contracts with heterogeneous agents," European Review of Agricultural Economics, Foundation for the European Review of Agricultural Economics, vol. 29(2), pages 205-217, June.
  3. Chiappori, Pierre-Andre & Durand, Franck & Geoffard, Pierre-Yves, 1998. "Moral hazard and the demand for physician services: First lessons from a French natural experiment," European Economic Review, Elsevier, vol. 42(3-5), pages 499-511, May.
  4. Paarsch, Harry J. & Shearer, Bruce, 1996. "Piece Rates, Fixed Wages, and Incentive Effects: Statistical Evidence from Payroll Records," Cahiers de recherche 9623, Université Laval - Département d'économique.
  5. Dubois, Pierre & Vukina, Tomislav, 2003. "Grower Risk Aversion and the Cost of Moral Hazard in Livestock Production Contracts," IDEI Working Papers 248, Institut d'Économie Industrielle (IDEI), Toulouse.
  6. Canice Prendergast, 2002. "The Tenuous Trade-off between Risk and Incentives," Journal of Political Economy, University of Chicago Press, vol. 110(5), pages 1071-1102, October.
  7. Martin, Laura L., 1997. "Production Contracts, Risk Shifting, And Relative Performance Payments In The Pork Industry," Journal of Agricultural and Applied Economics, Southern Agricultural Economics Association, vol. 29(02), December.
  8. Ackerberg, D.A. & Botticini, M., 1999. "Endogenous Matching and the Empirical Determinants of Contract Form," Papers 96, Boston University - Department of Economics.
  9. Canice Prendergast, 1999. "The Provision of Incentives in Firms," Journal of Economic Literature, American Economic Association, vol. 37(1), pages 7-63, March.
  10. Jaap H. Abbring & Pierre-André Chiappori & Jean Pinquet, 2003. "Moral Hazard and Dynamic Insurance Data," Journal of the European Economic Association, MIT Press, vol. 1(4), pages 767-820, 06.
  11. Paarsch, Harry J. & Shearer, Bruce S., 2007. "Do women react differently to incentives? Evidence from experimental data and payroll records," European Economic Review, Elsevier, vol. 51(7), pages 1682-1707, October.
  12. Pierre Dubois, 1999. "Moral Hazard, Land Fertility and Sharecropping in a Rural Area of the Philippines," Working Papers 99-30, Centre de Recherche en Economie et Statistique.
  13. Allen, Douglas & Lueck, Dean, 1992. "Contract Choice in Modern Agriculture: Cash Rent versus Cropshare," Journal of Law and Economics, University of Chicago Press, vol. 35(2), pages 397-426, October.
  14. Ferrall, Christopher & Shearer, Bruce, 1999. "Incentives and Transactions Costs within the Firm: Estimating an Agency Model Using Payroll Records," Review of Economic Studies, Wiley Blackwell, vol. 66(2), pages 309-38, April.
  15. Cox, James C & Oaxaca, Ronald L, 1992. "Direct Tests of the Reservation Wage Property," Economic Journal, Royal Economic Society, vol. 102(415), pages 1423-32, November.
  16. Pannenberg, Markus, 2007. "Risk Aversion and Reservation Wages," IZA Discussion Papers 2806, Institute for the Study of Labor (IZA).
  17. Porametr Leegomonchai & Tomislav Vukina, 2005. "Dynamic Incentives and Agent Discrimination in Broiler Production Tournaments," Journal of Economics & Management Strategy, Wiley Blackwell, vol. 14(4), pages 849-877, December.
  18. Markus Pannenberg, 2007. "Risk Aversion and Reservation Wages," SOEPpapers on Multidisciplinary Panel Data Research 23, DIW Berlin, The German Socio-Economic Panel (SOEP).
  19. Joost M. E. Pennings, 2004. "Channel Contract Behavior: The Role of Risk Attitudes, Risk Perceptions, And Channel Members' Market Structures," The Journal of Business, University of Chicago Press, vol. 77(4), pages 697-724, October.
  20. Paarsch, Harry J. & Shearer, Bruce S., 2004. "Male-Female Productivity Differentials: the Role of Ability and Incentives," Cahiers de recherche 0401, Université Laval - Département d'économique.
  21. Jaap H. Abbring & James J. Heckman & Pierre-André Chiappori & Jean Pinquet, 2003. "Adverse Selection and Moral Hazard In Insurance: Can Dynamic Data Help to Distinguish?," Journal of the European Economic Association, MIT Press, vol. 1(2-3), pages 512-521, 04/05.
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