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Risk Aversion, Reservation Utility and Bargaining Power: An Evolutionary Algorithm Approximation of Incentive Contracts

Itza Tlaloc Quetzalcoatl Curiel-Cabral (icuriel@colmex.mx), Sonia Giannatale (sonia.digiannatale@cide.edu) and Giselle Labrador-Badía (labradorbada@wisc.edu)
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Itza Tlaloc Quetzalcoatl Curiel-Cabral: El Colegio de México A.C.
Sonia Giannatale: Centro de Investigación y Docencia Económicas (CIDE), División de Economía
Giselle Labrador-Badía: University of Wisconsin-Madison

Computational Economics, 2024, vol. 63, issue 2, No 2, 477-511

Abstract: Abstract In this paper we analyze the links between the agent’s reservation utility, bargaining power, and risk aversion in terms of their simultaneous effects on the structure of optimal static contracts. We compare the following principal-agent models in the symmetric and asymmetric information environments: the standard approach, which includes a participation constraint, and a multi-objective (MO) optimization approach in which the objective function is a convex combination of the expected utilities of the principal and the agent. The MO model does not include a participation constraint, but it includes a parameter for the agent’s bargaining power. We also study an Evolutionary Algorithm implementation of the static principal-agent model to support and extend our analytical results. We show that the numerical solution approximated by our implementation of an evolutionary algorithm is in line with the analytical solutions mentioned before. That is, for every admissible value of the agent’s reservation utility, there is a corresponding admissible value of the agent’s bargaining parameter, both in the MO approach and the EA implementation.

Keywords: Moral hazard; Optimization; Evolutionary algorithms (search for similar items in EconPapers)
JEL-codes: C62 C63 D82 (search for similar items in EconPapers)
Date: 2024
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DOI: 10.1007/s10614-022-10349-0

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