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Incentive provision when contracting is costly

  • Kvaløy, Ola

    (Dept. of Economics and Business Administration, University of Stavanger)

  • Olsen, Trond E.

    ()

    (Dept. of Finance and Management Science, Norwegian School of Economics and Business Administration)

We analyze optimal incentive contracts in a model where the probability of court enforcement is determined by the costs spent on contracting. We show that contract costs matter for incentive provision, both in static spot contracts and repeated game relational contracts. We find that social surplus may be higher under costly relational contracting than under costless verifiable contracting, and show that there is not a monotonic relationship between contracting costs and incentive intensity. In particular we show that an increase in contracting costs may lead to higher-powered incentives. Moreover we formulate hypotheses about the relationship between legal systems and incentive provision, specifically the model predicts higher-powered incentives in common law than in civil law systems.

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File URL: http://hdl.handle.net/11250/164144
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Paper provided by Department of Business and Management Science, Norwegian School of Economics in its series Discussion Papers with number 2010/10.

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Length: 34 pages
Date of creation: 31 Aug 2010
Date of revision:
Handle: RePEc:hhs:nhhfms:2010_010
Contact details of provider: Postal: NHH, Department of Business and Management Science, Helleveien 30, N-5045 Bergen, Norway
Phone: +47 55 95 92 93
Fax: +47 55 95 96 50
Web page: http://www.nhh.no/en/research-faculty/department-of-business-and-management-science.aspx
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