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On imperfect commitment in contracts

Author

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  • Aggey Semenov

    (Department of Economics, University of Ottawa, Ottawa, ON)

Abstract

In this paper I consider a repeated buyer-seller relationship wherein a seller has private information on his fixed cost parameter. Once a buyer pays for the good - but before its delivery - he may fear opportunistic behavior by the seller; the latter may prefer not to produce, in which case he pays a penalty and the trade is terminated. Depending on the magnitude of the penalty and the valuation of the future I identify three contractual regimes corresponding to the strength of legal system. The optimal stationary contract consists of two distinct parts. For the most efficient types of seller, the contract entails bunching with a fixed payment and a fixed output. For higher costs output is significantly reduced below the optimal static mechanism.

Suggested Citation

  • Aggey Semenov, 2015. "On imperfect commitment in contracts," Working Papers 1503E, University of Ottawa, Department of Economics.
    • Handle: RePEc:ott:wpaper:1503e
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    References listed on IDEAS

    as
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    More about this item

    Keywords

    Adverse selection; penalty for breach; discount rate;
    All these keywords.

    JEL classification:

    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
    • D86 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Economics of Contract Law

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