Efficient Allocations in a Dynamic Moral Hazard Economy

Noah Williams

No 138, 2006 Meeting Papers from Society for Economic Dynamics

Abstract: I analyze the implications of moral hazard in dynamic economy with production. In particular, I add agency frictions to a benchmark stochastic growth model, by assuming that firms observe output but hours worked and productivity are unobservable. I cast the problem as a continuous time principal agent model and study the contracting problem that results. I solve for the optimal contract using some recent results on the validity of the first-order approach in continuous time, which makes the analysis tractable. I show that the dynamic agency frictions introduce both a "labor wedge" which distorts the allocation of labor within a period and an "intertemporal wedge" distorting the allocation of consumption over time. I analyze the quantitative importance of moral hazard in this economy for consumption and output dynamics and asset prices.

Keywords: moral hazard; dynamic contracting (search for similar items in EconPapers)
JEL-codes: C61 D82 E23 (search for similar items in EconPapers)
Date: 2006
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Working Paper: Efficient Allocations in a Dynamic Moral Hazard Economy (2005)
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Persistent link: https://EconPapers.repec.org/RePEc:red:sed006:138

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