INCOMPLETE CONTRACTS MODELLING

Liliana Basile and Raffaele Trani

Metroeconomica, 2008, vol. 59, issue 3, 347-370

Abstract: Contractual incompleteness has been understood in the literature as the conditions under which contracts are insufficiently state contingent due to non‐observable and/or non‐verifiable states of the world. The term incomplete contracts has been used in different meanings: to denote both proper contractual incompleteness (in a complete contracts context) due to various types of information problems, which can be contractually solved through a suitably designed mechanism and a context (an incomplete contracting context) where ex ante states of nature that are too expensive to describe prevent a contractual mechanism being designed. We examine these significantly different interpretations in both methodological and formal terms. We argue that, as long as relationship‐specific investment conditions occur, an incomplete contracting context is an innovative paradigm to the extent that it permits analysis of issues that in a complete contract context cannot even be broached, namely the recognition of non‐contractible inefficiencies and the possibility of non‐contractual solutions to such inefficiencies.

Date: 2008
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