Revelation principle under strategic uncertainty: application to financial contracts with limited liability

Dai Zusai

No 24, TUPD Discussion Papers from Graduate School of Economics and Management, Tohoku University

Abstract: We consider a principal-agent model in which the principal can terminate the agent's project and an outsider can affect the project's result. Only the agent can observe the outsider's action and sends a message to the principal. Under strategic uncertainty about the outsider's action in complete information, sequential equilibrium is a suitable equilibrium concept to select the robust outcome and to completely identify the underlying posterior belief. We prove the revelation principle for sequential equilibrium in such a game. Based on this revelation principle, we present a legitimate and simple form of the limited liability constraint on a financial contract that is robust to strategic uncertainty.

Pages: 16 pages
Date: 2022-08
New Economics Papers: this item is included in nep-cta and nep-mic
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Persistent link: https://EconPapers.repec.org/RePEc:toh:tupdaa:24

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