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1、Huihua NIE_Contract Theory 1. Introduction Huihua NIE School of Economics Renmin University of China www.ChinaES nie_huihua(at) 1.1 Overview Walras(1954): contracts curve in Edgeworth box Arrow-Debreu (1972/1983 Nobel prize): contingent contracts Akerlof, Spence, Stiglitz (2001 Nobel prize): moral h
2、azard, adverse selection Williamson (2009 Nobel prize), Hart: (?) Incomplete contract theory Hurwicz, Maskin, Myerson (2007 Nobel prize): mechanism design Vickrey, Mirrlees (1996 Nobel prize): asymmetric information in policy making 白鲨在线 N 1 Huihua NIE_Contract Theory 1.2 Framework 1.2.1 Definitions
3、 Principal: contractee/leader/master. Agent: contractor/follower/mastered. Contract: any voluntary agreements between agents, legal or illegal, explicit or implicit, long or short, formal or informal. Asymmetric information: the information which at least one agent doesnt know, and is different from
4、 imperfect information or incomplete information Moral hazard: unobservable endogenous variables; hidden actions. Adverse selection: unobservable exogenous variables; hidden information. Note 1 Some textbook calls the informed party the agent, and the uninformed party the principal. It is wrong for
5、sometimes the principal has advantage of information. Note 2 Sometimes moral hazard happens with hidden information. 1.2.2 Assumptions (1) There are conflicting interests and almost informational asymmetry between the principals and the agents. The factor that conflicting interests is fundamental, w
6、hile there also interest conflict when the information is symmetric. (2) The principal often has all the bargaining power and designs the contract offered to the agent, the agent “take it or leave it”. The assumption greatly reduces analysis, and avoids the problem of multi-equilibria. However, we w
7、ill release it in incomplete contracting setting. (3) Contracts only conclude verifiable terms. (4) The object of contractual design is to maximize the principals utility subjected to the agents individual constraint and incentive constraint conditions. The agents individual constraint stands for hi
8、s preserve utility which indicates market competition. Mathematically, to transpose the positions of the principal and the agent, the result will hold according to dual programming. (5) Contract theory deals with partial equilibrium, and sometimes deals with related markets. 1.2.3 Framework Static b
9、ilateral: single task/multi-task Moral hazard Static multilateral: team production Repeated bilateral: reputation Complete contract Static bilateral: screen/signaling Adverse selection Static multilateral: auction/collusion Contract Repeated bilateral: renegotiation Transaction cost economics Incomp
10、lete contract Property-rights theory/the theory of the firm Relational contract (dynamics) 白鲨在线 N 2 Huihua NIE_Contract Theory 1.2.4 Models The main approach is game theory. The basic models are moral hazard and adverse selection, and hold-up for complete contracting theory and incomplete contractin
11、g theory, respectively. We can summarize ten main static models as follows: (1) Moral hazard with hidden action t=0 t=1 t=2 t=3 t=4 time contract implements N decides state A offers efforts A accepts or rejects P design contract Fig. 1-1 Note 1 Its the simplest moral hazard model. If there is no unc
12、ertain or natures action, there is no moral hazard. Why? (2) Moral hazard with hidden information t=0 t=1 t=2 t=3 t=4 time contract implements N decides state A offers efforts A accepts or rejects P design contract Fig. 1-2 Note 2 Only can the agent see the state of the nature. (3) Ex ante adverse s
13、election t=0 t=1 t=2 t=3 time contract implements N decides state A accepts or rejects P design contract Fig. 1-3 Note 3 Its the simplest adverse selection model, such as “lemon market”, and sometimes the model is named as “screening model”. (4) Interim adverse selection t=0 t=1 t=2 t=3 time contrac
14、t implements N decides state A accepts or rejects P design contract 白鲨在线 N 3 Huihua NIE_Contract Theory Fig. 1-4 Note 4 It could be adverse selection with bilateral asymmetric information. (5) Signaling I t=0 t=1 t=2 t=3 t=4 time contract implements N decides state A signals A accepts or rejects P d
15、esign contract Fig. 1-5 (6) Signaling II t=0 t=1 t=2 t=3 time contract implements N decides state for P A accepts or rejects P design contract and signals Fig. 1-6 Note 5 Where now the principal has private information. Of course the model looks like the former model when we transpose the positions of the principal and the agent. (7) Adverse selection before moral hazard t=0 t
