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Relational Contracts and Inequity Aversion

  • Jenny Kragl
  • Julia Schmid

We study the effects of envy on the feasibility of relational contracts in a standard moral hazard setup with two agents. Performance is evaluated via an observable, but non-contractible signal which reflects the agent´s individual contribution to firm value. Both agents exhibit disadvantageous inequity aversion. In contrast to the literature, we find that inequity aversion may be beneficial: In the presence of envy, for a certain range of interest rates relational contracts may be more profitable. Furthermore, for some interest rates reputational equilibria exist only with inequity averse agents.

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File URL: http://sfb649.wiwi.hu-berlin.de/papers/pdf/SFB649DP2006-085.pdf
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Paper provided by Sonderforschungsbereich 649, Humboldt University, Berlin, Germany in its series SFB 649 Discussion Papers with number SFB649DP2006-085.

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Length: 23 pages
Date of creation: Dec 2006
Date of revision:
Handle: RePEc:hum:wpaper:sfb649dp2006-085
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  9. Alberto Alesina & Rafael Di Tella & Robert MacCulloch, 2001. "Inequality and Happiness: Are Europeans and Americans Different?," NBER Working Papers 8198, National Bureau of Economic Research, Inc.
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