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A general lagrangian approach for non-concave moral hazard problems

  • Araújo, Aloísio Pessoa de
  • Moreira, Humberto Ataíde

We establish a general Lagrangian for the moral hazard problem which generalizes the well known first order approach (FOA). It requires that besides the multiplier of the first order condition, there exist multipliers for the second order condition and for the binding actions of the incentive compatibility constraint. Some examples show that our approach can be useful to treat the finite and infinite state space cases. One of the examples is solved by the second order approach. We also compare our Lagrangian with 1\1irrlees'.

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Paper provided by FGV/EPGE Escola Brasileira de Economia e Finanças, Getulio Vargas Foundation (Brazil) in its series Economics Working Papers (Ensaios Economicos da EPGE) with number 426.

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Date of creation: 01 Jun 2001
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Handle: RePEc:fgv:epgewp:426
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  1. Bengt Holmstrom, 1979. "Moral Hazard and Observability," Bell Journal of Economics, The RAND Corporation, vol. 10(1), pages 74-91, Spring.
  2. Paul R. Milgrom, 1981. "Good News and Bad News: Representation Theorems and Applications," Bell Journal of Economics, The RAND Corporation, vol. 12(2), pages 380-391, Autumn.
  3. Steven Shavell, 1979. "Risk Sharing and Incentives in the Principal and Agent Relationship," Bell Journal of Economics, The RAND Corporation, vol. 10(1), pages 55-73, Spring.
  4. Dutta, Prajit K. & Radner, Roy, 1994. "Moral hazard," Handbook of Game Theory with Economic Applications, in: R.J. Aumann & S. Hart (ed.), Handbook of Game Theory with Economic Applications, edition 1, volume 2, chapter 26, pages 869-903 Elsevier.
  5. Jewitt, Ian, 1988. "Justifying the First-Order Approach to Principal-Agent Problems," Econometrica, Econometric Society, vol. 56(5), pages 1177-90, September.
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