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Moral Hazard and Competitive Paradoxes

Author

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  • Federico Etro

Abstract

We study moral hazard by managers engaged in cost-reducing activities under incentive contracts à la Holmstrom-Milgrom and monopolistic competition. Moral hazard affects both managerial incentives and market structure, generating potential paradoxes. The main one is that moral hazard can increase equilibrium effort and reduce prices by discouraging entry and expanding firm scale. Alternatively, it can foster entry by relaxing incentive contracts and reducing fixed costs of managerial compensation. We analyze equilibria under general cost and demand functions, and compare equilibrium and optimal effort and entry for CES, Logit and Linear demand systems.

Suggested Citation

  • Federico Etro, 2026. "Moral Hazard and Competitive Paradoxes," Working Papers - Economics wp2026_16.rdf, Universita' degli Studi di Firenze, Dipartimento di Scienze per l'Economia e l'Impresa.
    • Handle: RePEc:frz:wpaper:wp2026_16.rdf
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    JEL classification:

    • L1 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance
    • L4 - Industrial Organization - - Antitrust Issues and Policies

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